Should I refinance my merchant cash advance?

Businesses that are struggling under their merchant cash advance debt frequently look to refinancing or consolidating that debt as a way to fix their financial problems. What they don’t realize, though, is that refinancing can be a difficult decision for a business, and selecting the wrong product can not only make the situation worse for the business, but potentially end in its closure.

Merchant cash advances (sometimes just called cash advances) present two common challenges, both of which can create financial problems: first, they are expensive. Second, businesses that obtain merchant cash advances frequently misapply the funding, leading them into financial trouble.

A decision to obtain a second merchant cash advance is simply a deepening of the problem, rather than a solution to it, and most businesses don’t use the funding from the second advance to pay off the original MCA. Instead, they use the funding to run their operations and make payments to both cash advances, something called “stacking.”

The cycle may continue until there is a third or fourth cash advance, but stacking is seldom successful and frequently leads to a spiraling of a business’s finances.

Debt Should Only Be Refinanced

The decision to refinance should be based on the financial health, outlook, and amount of debt the business has. Debt should only be refinanced if all of the following is true for a business.

• Your weekly payments are creating a financial strain.
• The terms of the new loan are a good fit for your business.
• Refinancing doesn’t cost you more than the amount you would save.

If these don’t apply to your business, then it may be time to explore alternatives, as refinancing could leave your business in a worse situation than before.

Businesses that are in debt should speak to their CPA or other financial advisor, who can help explain the options and alternatives available.

Refinances a Cash Advance with Another Cash Advance

Consolidating a cash advance using another MCA isn’t usually a good deal for a business. Companies may consolidate multiple MCAs into a single, larger merchant cash advance, and the longer term can result in lower weekly or monthly payments, although factor rates are often higher as well, so consolidating in this way may still be expensive, for the following reasons.

With a conventional loan, businesses receive an amortized loan, which carries a fixed monthly payment. In this type of repayment structure, part of the payment covers the interest portion, part covers the principal, and the loan can be paid off early, at any time, without paying additional interest. (That last part is a key point.)

With merchant cash advances, the financing product is not amortized. When a business takes a cash advance, the full amount owed is known upfront, and then split into a number of equal payments for the repayment term. Thus, paying off the cash advance early doesn’t reduce the finance cost, and the business will be expected to repay the finance charges (the total cost of the financing) plus the principal, regardless of when the advance is paid off.

When a business refinances a cash advance with another cash advance, the new cash advance finance charges are based on the payoff amount, which itself contains very high finance charges, causing the business to have to pay interest on interest.

While some of this is unavoidable when refinancing debt, it’s important to select a financial product that has market rates.

And while the longer term of a consolidated advance means lower payments, the amount paid overall often increases, as the total amount paid is a product of the payments and the number of payments made.

Consolidation Loan

Taking on additional financing to refinance debt means the new financing must suit your needs, both now and in the future.

However, since the SBA is no longer approving 7(a) loan refinances of merchant cash advances, businesses carrying less than $1 million in debt may find it difficult to find the financing they need. There are some specialty lenders who will take on smaller deals, but they are selective.

On the other hand, businesses in need of $2 million or more to refinance their cash advances may find more options available, as there are several specialty lenders who provide conventional refinancing for deals of that size.

The majority of loan applications for a consolidation loan go through the same basic process, which can be described briefly as including an initial interview, document submission, document review and due diligence, final paperwork, and finally closing.

Being prepared with your documents ahead of time increases the chances of having your loan application approved and speeds up the process. Documents you should have prepared in advance include: income statements from the last 2-3 years, balance sheets from the last 2-3 years, and a schedule of debts the company has.