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Merchant Cash Advances Explained  

When you need to raise capital for your small business quickly, a merchant cash advance or MCA can be a shortcut to funding. At the same time, a merchant advance is a convenient option for growing your business or sustaining cash flow temporarily. Some disadvantages must be factored in before you borrow.

After reading this guide, you’ll have a better understanding of the following:

  • What a merchant cash advance is  

  • The pros and cons of MCA’s

  • Who a merchant cash advance may be right for

  • Why Business Owners Should Be Wary

  • What funding alternatives are available to your business when time is of the essence

How Merchant Cash Advances Work

A merchant cash advance isn’t a loan; instead, it’s an advance payment against your business’s future income. The merchant cash advance provider gives you a lump sum. Which is then repaid automatically using a percentage of your daily credit card receipts.

The percentage you pay is the “hold back” or retrieval rate. This may be anywhere from 5% to 20%, based on the size of the advance: your business’s credit card sales and the repayment period. Depending on the advance amount, terms may be as short as 90 days or as long as 18 months. Repayment begins immediately after you receive the funds.

Your average credit card sales determine the amount you can borrow. Merchant advance providers will review your receipts over the previous three to six months to calculate how large of an advance you’re eligible for. Generally, an advance can range from 50% to 250% of your business’s credit card transactions.

Benefits of Using a Merchant Cash Advance

A merchant cash advance has several features that make them an appealing source of funding. These are the most important benefits to consider when considering an advance.

Straightforward Application Process

As with certain types of small business loans or lines of credit, applying for a merchant cash advance is something business owners can do entirely online. You can complete the application and upload any supporting documentation, such as your business tax returns, bank account statements, and credit card processing statements, in a matter of minutes.

Funding Is Quick

One of the main selling points of a merchant cash advance is the potential for fast approval and funding. Advance providers can decide within hours and deliver the funds to you within a few days. That’s a plus if you need money immediately to cover payroll or an unexpected business expense.

Perfect Credit Is Not a Requirement

A strong personal and business credit score is a prerequisite for most business loans, but merchant cash advance lenders are more lenient where credit is concerned. Your ability to get approval centres more on how consistent your credit card sales are. And how long you’ve been in business versus how much other debt you may be carrying or your past payment history. Remember, however, that a merchant cash advance likely won’t help you build credit since most providers don’t report them to the credit bureaus.

No Need for Collateral

When approaching a bank for a business loan, it’s a common expectation that you’ll have to provide some collateral to secure the loan. The collateral is the bank’s insurance policy if you default on what you’ve borrowed. In contrast, merchant cash advances are unsecured loans, so you don’t have to put any personal or business assets on the line to obtain one.

Flexible Payments

Small business loans with a fixed interest rate also have a fixed payment. This means you owe the same amount every month. At the same time, that can help budget your expenses. It can be problematic if you have a slow month and cannot make regular payments.

A merchant cash advance allows for more flexibility since payments are based on a flat percentage of your credit card sales. If the advance terms require you to commit 15% of credit card receipts to repayment, the actual dollar amount will vary based on the total amount of sales for the month. Effectively, your payments are proportionate to what the business is bringing in.

High Borrowing Limits

Finally, a merchant cash advance grants some leeway regarding how much you can borrow. It’s possible to get an advance of just a few thousand dollars, but some companies extend the borrowing limit up to $2,000,000. That may be more generous than what a traditional bank would be willing to offer, particularly if you lack excellent credit or adequate collateral.


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Who Should Consider a Merchant Cash Advance?

Based on the above advantages, merchant cash advances suits businesses that need fast access to cash and have an established credit card transaction history. Retailers or restaurants, for example, would be appropriate candidates. A cash advance is a good fit for newer businesses with sufficient credit card sales but hasn’t been operating long enough to build a solid credit history.

Why Business Owners Should Be Wary

There are numerous benefits of using a merchant cash advance instead of a term loan, but one specific drawback can outweigh them. The costs involved can easily outstrip anything you gain in terms of convenience or accessibility.

How the Factor Rate Influences Cost

Unlike a loan, a merchant cash advance isn’t assigned an annual percentage rate. Instead, business owners pay what’s known as a factor rate. The factor rate is a decimal point representing the amount you agree to repay the advance provider. This fee varies, but it’s normally between 1.1 and 1.5.

The factor rate is one of the most misunderstood aspects of merchant cash advances because it makes the interest rate appear lower than it is. When you take time to run the numbers, however, it becomes apparent that merchant advances can be one of the most expensive borrowing options.

Here’s an example to illustrate this point. Assume that you’re taking an advance of $50,000, with a factor rate of 1.3, and a 12-month term. When you multiply the factor rate by the advance amount, you see that the total repayment amount comes to $65,000. At first glance, it looks like you’re paying an interest rate of 30%, but the actual APR may be much higher based on the hold-back amount.

Let’s say you agree to a retrieval rate of 15% of your daily receipts, and you’re projecting monthly credit card sales to average $35,000 over the next year. Using those figures, your daily payment would come to $175, and the loan and you would repay in approximately 372 days. That would put the daily interest rate at 0.15% and the overall APR at 53.9%, nearly double the 30% rate you initially were paying. If your business generates $40,000 in monthly credit card sales, the APR will climb to 61.6%.

When you consider a merchant cash advance in that light, it begins to lose some of its luster. If you’re still thinking of pursuing an advance, negotiating a lower hold-back percentage can help to minimize the cost. Paying a smaller amount daily may mean it takes longer to satisfy the debt, but it also lowers the APR in the process.

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Alternatives to a Merchant Cash Advance

If you’re not as pressed for time to raise capital or are leery of the higher costs that merchant cash advances entail, some other possibilities are worth exploring.

Term loan:

A term loan is similar to a mortgage or car loan; you borrow a set amount, which you would repay over a fixed amount of time. Rates can be fixed or variable, and term loans may be secured or unsecured. The APR on a term loan would be more favourable than a credit card or a merchant cash advance. Your repayment term may last from 12 months to 10 years, depending on what you borrow. The larger the loan, the more likely you are to need collateral. Before applying for a term loan, read our four-step checklist to prepare.

Business credit card:

A business credit card is a useful way to cover expenses while earning valuable rewards, such as points, travel miles, or cash back. Interest rates are often in the neighborhood of 10% to 20%, although some cards come with a 0% promotional APR for a set period. Approval for business credit cards is normally based on your personal credit history, and while no collateral is necessary, you’ll likely agree to a personal guarantee.

A business line of credit:

Drawing on a business line of credit can be preferable to a credit card or merchant cash advance. You receive the money in a lump sum and then repay it weekly or monthly. Many banks extend business lines of credit up to $100,000 without requiring collateral. The interest rates are usually lower than a traditional loan, but the rate is variable, meaning it can fluctuate over time in conjunction with changes in the prime rate.

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BitX Funding is an online marketplace for small business owners looking to fund a project. We specialize in connecting small business owners with lenders who will compete for your business. We believe small business owners drive the economy and are passionate about helping your company reach its full potential.

You can reach a loan specialist toll-free at 1-800-824-2407, email [email protected], or apply online here, and we can guide you on which loan is the best fit for your business.


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