How Merchant Capital and Traditional Business Loans Differ
The most common way that small business owners obtain funds is through small business loans. There are a wide variety of loan products on the market to meet the varying needs of businesses. A merchant cash advance is different than traditional small business loans because lenders provide a sum of capital in full to the borrower, and the borrower pays the full amount back, along with a fee. Although this might sound like a traditional loan on the surface – it isn’t. Why? Because repayment of the capital is taken directly from the business’s credit card and debit card sales subsequent to funding.
Essentially, when you receive merchant capital, you have agreed to allow the merchant capital provider to deduct a specific percentage of your daily debit and credit card sales automatically. This means that you make less money on each sale until the merchant cash advance is paid in full. With a traditional loan, the payments are not automatic, nor are they taken directly from your sales.
How the Merchant Capital Advance Process Works
One of the best aspects of merchant capital is how fast you can get approved. The first step is to submit an application to the merchant capital provider of your choice. They will respond within a couple of days. After you’ve been approved, you’ll receive the full amount of the capital in your bank account. As aforementioned, collection of the capital is from the daily debit and credit card sales of your business. If you were receiving a traditional loan, you would be responsible for making fixed payments that would either be daily, weekly or monthly, depending on the repayment schedule.
Merchant capital payments will vary because they are based on your daily sales. For example, if you have a slow day, then the amount collected from your debit and credit card sales will be less than if you have a high volume sales day. The good news is that you are not penalized for having a slow sales day, which is not the case for some loan products. A slow sales day for merchant capital simply means you repay less that day.
Timeframe for Repaying a Merchant Capital Advance
It generally takes an average of about 8 to 9 months to repay a merchant cash advance. However, sometimes the timeframe is about half as long, but it can also be twice as long. The determining factor of how long it will take to repay the advance is how much of your credit card sales is taken, which is dictated by the loan agreement. If you want to pay the advance back over a shorter period of time, they you can simply agree to let the merchant capital provider take a higher fixed percentage of your credit card sales. The higher the percentage, the faster you’ll pay back the advance. However, you also have to keep in mind that a higher fixed percentage means that you have less cash flow.
The Cost of a Merchant Capital Advance
The aforementioned fee for a merchant cash advance is determined by a factor rate, which generally ranges from 1.14 to 1.48. This is different than measuring fees in interest rates. If you want to determine the cost of merchant capital in terms of APR, then you should anticipate around 15% to 80% APR, and possibly higher depending on the merchant capital provider.
There’s no doubt that merchant capital can be expensive, but if you are in need to capital and have limited options, it could very well work for you. When searching for merchant capital, be sure to check the APR before you sign off.