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A merchant cash advance (MCA) is a type of financing that allows businesses to borrow money against their future sales. The loan is repaid through a portion of the business’s daily credit card sales, meaning that repayment is automatically deducted from the business’s revenue.
Merchant cash advances can be a quick and easy way to get funding for your business, but they also come with some risks. Here’s everything you need to know about merchant cash advances, including how they work, what the costs are, and what to watch out for.
How Does a Merchant Cash Advance Work?
A merchant cash advance is not a loan in the traditional sense. Instead, it is a purchase of the business’s future sales. The lender gives the business a lump sum of cash, and in return, the business agrees to repay the loan with a portion of its future credit card sales.
The repayment amount is determined by the lender, but is typically a fixed percentage of the business’s daily credit card sales. For example, a lender may agree to advance $10,000 to a business in exchange for 10% of the business’s daily credit card sales until the loan is repaid.
This means that if the business has $100,000 in credit card sales over the course of one month, it would owe the lender $10,000 (10% of $100,000). If the business has $50,000 in credit card sales in a single day, it would owe the lender $500 (10% of $50,000).
The repayment schedule is flexible, which means that businesses can repay the loan more quickly on days when they have high sales, and slower on days when sales are low. This makes merchant cash advances a good option for businesses that have irregular sales patterns.
What Are the Costs of a Merchant Cash Advance?
The cost of a merchant cash advance is typically expressed as a factor rate. A factor rate is a multiple of the amount of money borrowed. For example, if a business borrows $10,000 at a factor rate of 1.5, the business will owe $15,000 when the loan is repaid (1.5 x $10,000).
Factor rates can range from 1.1 to 1.5, which means that the total cost of a merchant cash advance can be higher than the amount of money borrowed. In addition to the factor rate, businesses also have to pay fees for getting a merchant cash advance. These fees can add up, so it’s important to compare the costs of different merchant cash advances before you choose one.
What Are the Risks of a Merchant Cash Advance?
There are a few risks to be aware of when you’re considering a merchant cash advance. First, because merchant cash advances are not loans, they are not subject to the same regulations as loans. This means that there are no limits on the fees that lenders can charge, and businesses may be required to provide collateral.
Another risk is that if your business has slow sales, you could end up owing more money than you can afford to repay. This is one of the reasons why it’s important to carefully consider whether a merchant cash advance is the right type of financing for your business.
Finally, because merchant cash advances are repaid with a portion of your business’s credit card sales, you could end up owing more money if your credit card sales decrease. This is something to keep in mind if your business is seasonal or if you’re expecting a decrease in sales for any reason.
