Even in a healthy economy, businesses experience monthly and even weekly fluctuations in cash flow. Today interest rates are rising, markets are volatile and many businesses are slowing. If you’re feeling it, so are a lot of others out there.
If you’re a smaller business, you already know how difficult it can be to get a loan from a bank at times like these. And if you’re an entrepreneur you know how tempting merchant cash advances can be. All you want is cash up front, and you can get it, so why wouldn’t you? Because it’s one of the most costly and damaging things a small business can do, and it shouldn’t even be considered unless you’ve exhausted all other possibilities. Think of it this way: It’s not a loan, it’s the sale of your receivables. The advance company draws on your bank account everyday or every week. Different agreements are out there. Read through some of the important stuff to know below.
The advance amount is the actual lump sum of money you would receive when you get the merchant cash advance funded.
When you sell your receivables you sign on the dotted line for the payback amount. This is the actual total of how much you would repay over time. It’s a lot higher than the funded amount and there are all kinds of fees in there, including something called the factor.
The holdback is an agreed percentage of your daily receipts that the advance company takes back as part of the repayment.
Cash advances aren’t cheap, and figuring the real cost is a complicated calculation. Typical factor rates are between 1.1 and 1.5, with repayment over a period of 90 days to a year. A 1.2 rate over six months is roughly a 40 percent APR, and that’s before you add on any other fees.
Owning a small business is about balance and tight management, and cash advances can put it off. That’s because every day or week, depending on the agreement, the advance company pulls a payment from a bank account. With slower receivables that can be a problem. Compound that with the fact that it costs a lot for the money and the picture gets worse. A lot of the time you end up borrowing a second advance on top of the first to get more money. And sometimes you end up putting every single penny of your receipts on the line, so you can barely cover expenses. The problem is, it’s difficult to get out of the deal.
If you’ve already turned to a merchant cash advance it can hurt your chances at getting a bank loan down the road. Not only are you paying back the advance, some part of your actual revenue is already allocated to doing so. That makes your receivables look impaired. It’s also common for lenders to ask for any previous advances to be paid off before they’ll consider financing you.
When you sign for a merchant cash advance, you may be violating some of the covenants on loans you already have. And that can have ugly consequences, ranging from paying a penalty to having the lender demand the entire loan be repaid at once.
Because legally a cash advance is the purchase of your future receivables, the law that governs it is different than the law governing loans. There’s no state limits on how much cash advance companies can charge, and terms vary so wildly it’s hard to make apples-to-apples comparisons. Fees are often not disclosed until it’s too late.
What an Equipment Loan Can Do for You
Not every small business owner falls into the cash advance trap, but some of the ones who do have a lot of money tied up in equipment. If you can demonstrate that the stuff you own can be used to generate revenue, or helps you generate revenue, it can often be refinanced to bring you the working capital you need to move forward.
So don’t go down the expensive (and even riskier) merchant cash advance route before you explore what an equipment loan can do for you.
Whether it’s light or heavy equipment, the interest rate and term you qualify for depends on your credit history and the kind of equipment you own. Terms are clearly spelled out and payments are usually fixed for the life of the loan. This makes it easy to budget for.
Equipment loans are usually longer in term and carry much lower fees and interest rates. The payments, because the term is longer, are much smaller and much easier to manage.
Just like with real estate, when you have expensive equipment it can be put to use for you. And what matters isn’t the depreciated book value, which is how most accounting spreadsheets are set up, but rather the current market value of the stuff, minus what you owe on it if there’s a lien. Typically it’s above the depreciated book value, so several machines, depending on what they are, can mean some serious financing power.
The Right Lender Should Want to Help You Grow
Not all lenders are the same, and when you’re trying to finance equipment, you want a lender who’s willing to take the time to know your industry, know your equipment and become a partner with you. It’s the start of a long term relationship, not a blind call. The right lender should want to help you grow.
When a lender doesn’t care to spend five minutes learning your business, they don’t deserve your time, or your money. It’s tempting, but if a lender is offering fast approval based on a few pieces of information, including your bank account number, run as fast as you can. If they can’t take time to learn you now, they’ll never take time for you. Instead go to an equipment lender or your bank.
If you’re thinking about a cash advance, you should stop and get more advice. Before you sign on the dotted line for a cash advance consider another option: an equipment loan.
About Delancey Street
Delancey Street is a premier, and award winning, business debt settlement company that helps business owners nationwide. Our goal is simple: help you escape debt in a safe and legal manner. Based out of New York, we can help in 49 of 50 states. We tell you how it is; because your business and future is on the line.
