If you took a Merchant Cash Advance, and you regret it, you are not alone. When we speak to our clients who have multiple MCAs, it’s rare that the payments aren’t crushing their business. Did the nice person who helped you secure this funding tell you the whole truth when you signed? Probably not.
Deceptive Marketing Practices
According to Opportunity Fund, the average annual percentage rate on a merchant cash advance is 60% to 200% or higher. That is one expensive way to finance your business, and it is unlikely that the salesperson who persuaded you to sign that agreement mentioned this.
Are MCA lenders trustworthy? OK, we’re not going to point fingers and name names… but we’ll happily criticize sleazy practices all day long. The FTC has taken action against MCA companies for deceptive marketing practices. In 2018 the FTC charged two MCA companies with misleading small business owners about the costs of their financing.
Now, suppose you put a dummy profile into one of these lead-generation sites where four different companies all offer to compete for your business. You enter $150,000 as the amount you need, three years in business, $800,000 in revenue and a 640-679 credit score. The offer from the first company seems solid. But if they were flat out lying to you about the rate, there was no way you could have known.
The sales lead site says the loan has rates of 5-15%. But the first lender they recommend is a publicly traded company, so it has to file annual reports with the SEC, and you aren’t supposed to lie in those. And its report shows that in the fourth quarter of 2015, the average loan it offered carried an interest rate of over 40%. Bait and switch. And when a company that’s never made a single loan at 5 percent tells you that its rates are 5 to 15, the whole thing stinks.
The Responsible Business Lending Coalition has released a report saying that MCAs carry the potential for predatory lending, and that they call for transparent pricing, fair collection practices, and responsible underwriting. If a big company that’s required to file with the SEC can’t be trusted to tell the truth, you can bet that the guys running MCAs probably aren’t being truthful with you, either.
Look, it doesn’t matter what rate you pay if they tell you the truth and you accept it. There are no bad loans, only bad fits. You just need to figure out what the real problem is. In this case, it’s not the rate: it’s the monthly size of the payments. A lot of salespeople quote daily payments, but owners think in monthly numbers. For example, an advance of $25,000 over six months equals “just” $250 a day, which, compared to $5,200 per month, sounds like a much smaller number. The fact is that a daily rate just makes the payments seem smaller.
The payment sucks up so much money that you need to take another advance to keep up payments on the previous advance. This is called loan stacking. The Federal Reserve Bank of Cleveland notes that businesses who have relied on alternative funding sources like MCAs were more likely to experience cash flow challenges because of the high costs and aggressive payment schedules. A Bloomberg article pointed out that stacking is an increasingly common challenge in online lending and businesses who take multiple advances can become over-indebted.
Each advance usually costs 10%+ of your monthly revenue. Once you get past 2 advances, you’re in a death spiral. Then the vultures show up, attempting to lure you with 3rd, 4th, and 5th position advances at huge cost. Because of the large payments, all of the business’ profits go towards paying the advance, so the owner never manages to grow out of the advance. You realize this is rotting your business but you think you’ll die without some sort of funding. If you need a third, a fourth or a fifth advance, now is time for soul searching. A Harvard Business School study showed that small businesses that used products such as merchant cash advances grew more slowly than companies that financed with bank loans or lines of credit.
Getting Out of the Advance
You are better off getting out of the advance than adding another one. There are five ways to do it.
The first is a term loan. If you’ve got decent credit, you could replace your high-cost advance with a long-term, low interest, monthly payment loan. Monthly payment loans with terms of two to five years and amounts up to $500,000 exist, and interest rates vary from 6% to 30%. The down side is that you will still be paying the entire amount of the advance (since almost none of the MCAs let you escape from finance charges by repaying early), and second, you might not be able to qualify. If you have a 600 or better credit score, profit in 1 of the last 2 years, 2 years of tax returns and no major tax liens or bankruptcy filings in the last 7 years, you have a chance. And if that’s the case, great!
If you don’t qualify, the second option is a high rate monthly payment loan. Sounds lousy, but you’re already there, stuck in a high interest product. It’s a longer term, no prepayment penalty, you actually know the interest rate, the payments are stretched out up to 10 years. Pay it off early and pay less. Really lousy, but less lousy. In many cases, refinancing into a 10-year loan will cut monthly payments in half or more.
Third, get an asset-backed loan. If you own any real estate, a truck fleet or other heavy equipment, you can use it as collateral to borrow the cash to get out of the merchant cash advance. But if you don’t make payments on that loan, you could lose your stuff.
Fourth, hire a negotiator. It is possible to renegotiate your business debt, even when it is something like a merchant cash advance or an ACH loan that takes money out of your checking account every day. If you can’t make the payments, it is possible to negotiate a better deal. But don’t do it yourself, hire a debt restructuring company to help you. Just watch out, there are some companies that charge large fees before they actually do anything for you.
Fifth, if you have no other options and can’t manage daily MCA repayments, you can always just go bankrupt. We won’t give you bankruptcy advice, but talk to an attorney or someone qualified.
Bottom line: MCAs are an ugly product. If you are stuck in one, your best course of action is to find any way you can to get out, not add another.
