Merchant cash advances aren’t loans. That’s an important distinction which we’ll cover later.
Suffice it to say, this has become a popular way to get financing for businesses. It’s particularly popular among retail businesses because repayment is most often done through credit or debit card transactions.
Why Would A Business Need It?
A business might need quick cash for a variety of reasons. Maybe sales has been down and you need to make payroll.
It could also be that your supplier is no longer offering you good payment terms or offering credit and now you need cash to buy inventory so you have something to sell.
Another situation that happens a lot is that a business will stumble upon a great investment opportunity. Maybe its a great deal on a piece of real estate. Maybe its an event that will give you a surge of traffic and need extra inventory to meet the unexpected demand.
There are also emergencies that could threaten the life of your business. Let’s say you own a coffee shop and your espresso machine breaks and it’s so bad you can’t get it fix and have to buy a new one.
Let’s say you’re a restaurant and you got flooded in the last hurricane. You have insurance money coming in, but not fast enough to pay for repairs, replacements and your restaurant having had to close for a week. While you wait for the insurance claim to come through, you may go bankrupt.
That’s a stark reality for most small businesses. Many are just an emergency away from losing their business and merchant cash advances can be there to fill the gap.
What Is It?
It is actually an advanced payment for a business’s future sales. The financing company that’s giving the merchant cash advance gives a business a lump sum pile of cash now. That payment will be repaid overtime, automatically with a portion of the business’s daily credit and debit card transactions.
The portion the business pays over time is called a retrieval rate. It is usually 10-20% of the sales receipts and is determined by how much cash advance the business gets.
The terms also vary between 3 months to as long as a year and a half. The financing company usually starts getting repaid right away with the credit card transactions.
How large the cash advance the business gets is determined by credit card sales. During the application process, the financing company will review the average credit card sales to figure out how much cash to give them. It can be up to 200% of a business’s credit card sales receipts.
The thing that businesses seem to like about merchant cash advances is that they are very quick to get. If a business is in a bind, they can get the cash relatively quickly.
The application process is really straightforward and doesn’t require a ton of documentation. In most cases, you can even do the entire thing online.
That’s unlike applying for a bank loan. As anyone who has gone through this arduous process knows, it can be a huge headache. It costs a lot in terms of time and money.
Once the application is approved, you get the cash in a matter of days.
If you’re a business owner and can’t make payroll next week, having this access to quick cash could be a lifesaver for the business. It can even provide the liquidity you need during an emergency. Many businesses are a payroll or emergency away from bankruptcy and a merchant cash advance can be there to save the day.
Another great thing about this is that it doesn’t require impeccable credit scores like you would for a bank loan, credit card or line of credit. Since the financing company is connecting automatically with your credit card machine to get paid back and they know what your average sales are, they don’t take on as much risk as a bank that requires you to physically write them a check or for you to have to go online, log in and make that painful loan payment each month.
Not Asset Based Lending
Merchant cash advances don’t require collateral. That means you are not putting your house or business at risk by entering into these types of financing deals.
Cost of Capital
One of the biggest drawbacks of a merchant cash advance is the high cost borrowing. The interest could be as high as 40-50%. That can be a huge drawback.
The good news here is that as this form of financing becomes more and more common, you are seeing more competitors enter this industry. The competitive landscape and the increasing numbers of institutions offering this is driving down rates and fees.