In the fast-paced world of business, securing quick financing can be a lifeline, especially for those with less-than-perfect credit. Merchant Cash Advances (MCAs) have emerged as a popular option, but they come with their caveats. This post is dedicated to business owners navigating these choppy financial waters so they can make the best decision for their business.
What exactly is an MCA Loan?
A Merchant Cash Advance loan, also known as a Business Cash Advance, isn’t a loan in the traditional sense. The MCA is an advance on your future sales. This distinction is crucial as it affects how repayments are made and what legal protections you have.
To start, the MCA company looks at the business’s past sales and determines a loan amount and fee as a percentage of the estimated future sales. After approval, the business will receive a lump-sum payment. Loan payments are automatically pulled directly from the business’s bank account until the loan balance, fees, and interest are repaid.
Which companies best fit an MCA loan?
Because MCA payments are a percentage of daily sales pulled on a continuous basis, businesses with large numbers of predictable deposits, such as restaurants or retail stores with numerous credit card transactions, can be good candidates for MCAs.
What are the benefits of MCA loans?
The primary benefits of MCAs are ease of approval and speed of funding. After completing the minimal paperwork, business owners can often be approved and receive payment within a few days. And because the loan approval looks at past daily deposits, limited or even bad credit history is not usually a deterrent.
What are MCA loans most often used for?
MCAs are typically used for immediate business needs like payroll, inventory purchases, equipment repairs, or capitalizing on time-sensitive business opportunities.
Are MCA loans legal?
The short answer: they can be BUT…
Yes, MCAs are legal, but they’re not regulated in the same way as other funding like traditional loans. This means less protection for you as a borrower. In some states, MCAs are only able to operate if they follow certain state and federal regulatory guidelines. These regulations are designed to protect startups and other small businesses from predatory lending practices and ensure transparency in the MCA industry.
However, having guidelines does not necessarily keep some MCA companies from engaging in predatory lending, even borderline illegal practices. Thankfully recent lawsuits between MCAs and customers have encouraged even more regulation. But even if operated completely within the guidelines, working with an MCA rarely guarantees a mutually beneficial relationship.
It goes without saying, you must fully understand all the fine print in the contract before signing.
Are MCAs “bad”?
While MCAs are not inherently “bad”, they can be misused or undertaken haphazardly. The key is fully understanding the terms and the impact on the business’s cash flow that reoccurring daily/weekly payments will have. For many users, the constant pulling of funds can have a counterproductive effect on a company already struggling with daily cash flow issues.
Having supported the construction industry for 25+ years, we’ve had numerous contractors and subcontractors come to us because of MCAs. They did not realize the negative impact having money automatically taken from their bank accounts would have on their business. For businesses that were already having periods of difficulty with their cash flow, having another regular drain on their accounts can be detrimental. We even recently had a contractor contact us because he was forced into bankruptcy after working with a Merchant Cash Advance company.
What are MCA loan rates and Fees?
In exchange for the ease of application, the MCA company will charge extremely high interest rates. It is not unheard of for rates to be 15%-39% PLUS monthly maintenance fees.
How can Merchant Cash Advance companies get business with rates this high? They often communicate their fees by telling you they will take 10% of your account or sales each day so it appears that it is a 10% interest rate. However, after doing the math, the amount paid can be upwards of 39% or more.
What happens if you default on an MCA loan?
Like with all loans, defaulting on an MCA loan can lead to aggressive collection efforts and can be devastating to your business’s cash flow and future credit opportunities.
How to get out of MCA loans
While there are many funding alternatives available to businesses, not many fall within the MCA category with the same ease of approval and speed. A few that might be considered as alternatives to MCAs:
Personal Loans:
pros: lower rates and fees, positive effect on credit rating
cons: slow application/approval process, good credit rating required, limited loan amounts, personally guaranteed
SBA Loans:
pros: low rates, long repayment terms, easier to receive than bank loans
cons: slow application/approval process, may require a personal guarantee
Invoice Factoring:
pros: fast application and funding speed. Like MCAs, a bad credit rating is often not considered
cons: higher rates and fees than banks (but often lower than MCAs), negative industry stereotype
Which of these is the best alternative to MCA loans?
While the answer to this question is highly dependent on your business and specific situation, Factoring stacks up as the most direct head-to-head competitor to MCA loans. If you are unfamiliar with the service, Invoice Factoring is another form of alternative financing that involves you SELLING your unpaid invoices to a factoring company. In return, you will receive an immediate payment in the form of an advance on the invoice’s amount. Unlike MCAs, factoring is not a loan, it’s a purchase.
>> READ MORE: Everything You Need to Know About Factoring
Merchant Cash Advance vs Factoring
Compared to MCAs, factoring has comparable, often lower fees, making it a more cost-effective and less stressful option. Add in the safer daily/monthly repayment terms and methods, factoring should be the main consideration for cash flow helping solutions.
A additional use case: can factoring be used to pay off an MCA loan?
Because we have worked with so many businesses over the past 25+ years, we have seen countless financial situations that have been fixed with factoring. One such example is a commercial roofing contractor in Connecticut with an MCA. His company faced rapid company growth. But this lead to potentially business damaging cash crunch. He originally decided to take out an MCA to make vendor payments but soon found the daily bank account withdrawals overwhelming. After learning about factoring and its terms, he switched. With CapitalPlus, he was provided with $500,000 that was used to support the daily cash flow AND pay off previous MCAs that he had relied on in the past. All this without the daily repayment stress.
If you’re feeling the weight of cash flow issues, know that there are lifelines available. Factoring with companies like CapitalPlus, offers a beacon of hope, providing a less stressful and equally quick alternative to potentially dangerous MCAs. While factoring is not a one-size-fits-all solution, for those who qualify, it can be the solution you need to navigate through temporary financial issues.
About the Author:
Curt Powell — Executive Vice President
Joining the team in 2016, Curt serves as Executive VP at CapitalPlus Financial Services, a direct lender based in Knoxville, Tennessee focusing exclusively on the construction industry. During that time he has walked thousands of business owners through the financing options to find the best solution for their needs.
Curt is a member of The International Factoring Association, The Association of General Contractors, and the Construction Financial Management Association.
CapitalPlus was established in 1998 providing over $1 billion in factoring funds empowering thousands of construction companies all over the US.
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