The short answer is yes. If you have a merchant cash advance, you know how quickly the daily (or weekly) payments can add up. Refinancing an MCA is possible, and it’s absolutely the right thing to do, as long as you’re doing it with regular, amortized (reduced over time) financing. You should never refinance an MCA with another MCA, or with a “reverse consolidation.” Why? Well, let’s start with the basics and talk about why MCAs are bad to begin with.
People often fixate on the weekly payment without doing the math. For example, a business receives a $250,000 advance with a 1.35 factor rate for 36 weeks. That means it has to pay $250,000 times 1.35, or $337,500. Divided by 36, that’s $9,375 per week. So the owner thinks, “It’s not that much,” especially if the business is doing well and they need the funds quickly. But it’s a mistake.
Few owners will think, will I be able to pay this sum every week for the next 36 weeks? Most owners are just too optimistic. Sales might go down, the project might fall through, a key customer might drop them, cash flow might slow, and so on. These “not unexpected” events happen all too often. If it happens to you, you’ll no longer be able to afford the advance and will be worse off financially.
Cash advances are often sought out for the wrong reasons. An advance doesn’t solve a cash flow problem, it doesn’t solve a profit problem, it doesn’t solve a collections problem, it doesn’t solve bad money management. But business owners will try it anyway, and suddenly they’re in an even worse spot than they were before.
When things start to look worse, some firms take a second cash advance, hoping it will correct what the first failed to do. Having multiple cash advances at once is called stacking, and it is a costly blunder that frequently results in business collapse. Even getting a new, ostensibly cheaper advance to refinance an older one is usually an expensive mistake, even if the new weekly payment is much lower.
No Early Payoff Discount
Merchant cash advances are not amortized. If you have a conventional loan, your interest and your principal are tracked separately, so if you pay off the principal early, you close the loan and you don’t have to pay the rest of the interest you would have owed. In a cash advance, your principal and the fees are bundled together, so if you have a $250,000 advance at a 1.35 factor rate, you owe $337,500 to close, no matter when you pay it off.
You can usually figure out what the balance you have left to pay back on an advance is just by taking the total payback amount and subtracting from it the total you’ve already paid. So, after 12 weeks on the $250,000 advance, the business owes that remaining balance amount to close or refinance it. You get no early payoff discount for paying it early, because there’s no unearned interest as you would have with a traditional loan. No benefit to the borrower in paying early.
So think about what refinancing one cash advance with another actually does. You take on an expensive, non-amortized product to pay off another expensive, non-amortized product. A large part of the new advance goes to paying the cost of the first one. The result is that the borrower ends up paying interest on interest.
Reverse Consolidation
Then there is the reverse consolidation. A reverse consolidation is when you take on a new cash advance to pay off a bunch of existing ones. The catch is that the reverse consolidation lender isn’t paying off the existing cash advances. Instead, they take over the weekly payments on the existing advances. So you make one payment to the reverse consolidation lender, and that lender sends money to the other lenders until the old cash advances are paid off.
A reverse consolidation can look nice, because the payment to the new funder is generally lower than what you’re paying the other lenders. It’s just that the advance runs for a lot longer, so while the periodic payment is lower, the total cost is a lot higher.
So why does the reverse consolidation lender take over the payments instead of just paying off the open advances? That would be better for you, so you’d have one open advance rather than several. And it costs the lender nothing more, because the cost of a payoff is the same either way. The lender makes weekly payments because it raises its rate of return, and it cuts down its risk a great deal.
Let’s say a business has 3 advances to start, and it takes a reverse consolidation to reduce the payment. It loses a client, misses a few payments, gets penalty fees added, and eventually defaults. The reverse consolidation lender won’t have any incentive to continue paying those other lenders if the business is no longer paying it. In fact, if the reverse consolidation lender stops, the other lenders will probably assess penalty fees and then declare those advances in default. This could result in 4 advances in default, which no business could survive.
Refinance an MCA the Right Way
The only way to refinance an MCA the right way is with affordable conventional financing. It’s the only way to exit an advance without paying out the nose for it. It’s still going to be expensive, but that’s because the advance you’re refinancing is expensive.
Loans backed by the SBA are some of the best tools for refinancing your business. What the SBA does is allow your lender to give you a loan at market rates that they couldn’t otherwise give you, including businesses that aren’t in the best of conditions. It takes some more paperwork and attention to find the right lender and you might not get it done overnight, but the amount you save is worth it.
Asset-based financing is a resource for a business that owns some kind of asset like machinery or real estate. Basically the business takes out a loan against those assets, and if it’s machinery or real estate the lender can offer an amortized loan at competitive rates. Asset-based loans are a little more expensive than an SBA-backed loan, but they are easier to get and come with fewer restrictions.
You can also try to factor your accounts receivable, if your company has more in unpaid invoices than it owes. That doesn’t happen often if you’re hauling big MCA balances, but it’s possible. You get advances against your unpaid invoices and use the money to pay off the cash advances. It’s easier to get than an asset-based loan or an SBA loan, but more expensive.
Deciding whether to refinance your company debt (especially if you have a high debt load with MCA debt) can make or break your company. The best advice here is to go find yourself a CPA. A CPA will be able to walk you through your options and tell you which would be best for your business. That’s not cheap, but it is much, much cheaper than financial disaster.
