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Small Business Cash Advance

Small Business Cash Advance

A small business cash advance allows businesses to borrow cash, which they can use for any business-related expenses. 

While running a small business can be exciting, numerous unexpected costs may surprise you. You may consider taking out a merchant cash advance if you need money to achieve your business goals. But is this the right small business loan for you? Learn how merchant cash advances work and the advantages and disadvantages of working with merchant cash advance companies. 

What Is a Merchant Cash Advance?

A merchant cash advance (MCA) is a fast cash option for business owners, one type of business cash advance. In 2021, 10% of small business owners used these types of cash advances.1 A merchant cash advance company provides a lump sum to eligible business owners based on future credit card sales. Borrowers typically pay back the merchant cash advance through a small percentage of business sales or fixed withdrawal amounts. 

Repayment MethodDescription
Percentage of SalesThe repayment amount varies frequently and is determined by a percentage of your total daily, weekly, or monthly credit card sales. Adjustments are made based on your sales volume, providing flexibility in repayment.
Fixed WithdrawalsLenders offer a fixed withdrawal repayment plan for businesses not reliant on debit and credit card sales. Daily or weekly withdrawals occur from your personal or business bank account, aligning with your estimated monthly sales. Consistent, predictable withdrawals.

When a small business owner applies for a merchant cash advance, the lender will determine the loan amount by looking at credit card receipts and monthly sales. Credit card receipts will help the lender better understand how much money you need and if you can successfully repay on time. However, in certain instances, it may be possible to get a merchant cash advance that is greater than your average monthly sales. 

What Are the Benefits of Merchant Cash Advances?

There are beneficial perks for borrowers that take out merchant cash advances. Take a look at some common reasons why business owners choose these options:    

Fast Funding 

While most business owners apply for business loans, the approval process can take weeks or months! A long approval process is inconvenient when you need money now to buy equipment or increase your inventory. But with this type of cash advance, it’s possible to get a same day loan for bills and unexpected expenses.  

Short Financial Commitment 

A short-term loan benefit is that you do not have to commit to a lengthy financial contract. Most contracts with these loans only last a few months, so you are not forced to make numerous payments. And if your lender allows it, you may even be able to shorten your repayment period by paying the cash advance early. 

Bad Credit is Okay

Getting a business cash advance with bad credit is typically very easy. Do you need financial support for your small business but are worried about getting approval? Many of these providers have flexible qualification requirements, which means you can get financial relief despite a low or unestablished business credit profile, similar to bad credit loans

What Are the Risks of Merchant Cash Advances?

You may feel inclined to apply for a merchant cash advance if you need money right now. But while merchant cash advances are convenient, they come with financial risks. The repayment terms can be very short, and the costly fees can make the repayment process difficult.   

Short Repayment Lengths 

Merchant cash advance providers typically expect repayment within three to twelve months. However, the minimum and maximum repayment lengths vary depending on the merchant cash advance company. Many borrowers end up struggling to pay back merchant cash advances due to short repayment lengths. When the repayment length is short, the payments are higher. 

High Rates and Fees

While a traditional loan comes with interest rates, this type of cash advance charges a factor rate. A factor rate represents the total cost of the business loan in the form of a decimal. Typically, merchant cash advances charge between 1.2 to 1.5. 

Suppose you get an $8,000 merchant cash advance with a 1.4-factor rate. When you multiply the rate by the loan amount, you will end up repaying $11,200. Owing this much money in total means you end up paying $3,200 in interest charges! Repaying the factor rate in addition to your borrowed loan amount can be highly challenging if you have a short repayment period.    

Carefully consider whether you can successfully repay a merchant cash advance’s high cost before applying with a merchant cash advance provider. 

Does a Merchant Cash Advance Affect Your Credit Score?

A merchant cash advance is not a traditional loan. For this reason, many merchant cash advance lenders do not report your payment history to the appropriate business credit bureaus. 

A lack of payment reports to the major credit bureaus is beneficial for business owners who do not want to alter their business credit history. However, suppose you are trying to build a business credit score to establish credibility for future loans. In that case, a merchant cash advance is not an ideal financing option.  

Building a business credit score helps you establish a credible financial profile. It is easier to get higher loan amounts and lower interest rates to grow or expand your small business once you have a business credit score. You can start building a business credit score by borrowing money through a business loan or business credit card.    

Alternative Loan Options for Business Owners

There are different types of loans you can apply for when you need money to run or grow your small business. While merchant cash advances are convenient, they come with several disadvantages that put a financial strain on your wallet. Take a look at some alternative loan options available for business owners below.  

Business Credit Cards

A business credit card works like a traditional credit card, but typically, borrowers can only use it for business expenses. Borrowers can use business cards for inventory, office furniture, travel expenses, and more. While it’s possible to use business credit cards for personal expenses, you may end up personally liable for business debt

Business owners receive a credit limit based on their years in business, industry type, annual business revenue, employee count, etc. Since more information is required for approval, the process can take longer. However, the benefit is that you can get more money with business credit cards than with traditional ones. 

Good credit is typically required to get a business credit card. Most financial institutions use FICO scores. According to the score ranges for FICO, any score higher than 670 points is a good score. You may have difficulty qualifying for business credit cards if your score is lower.  

Business Loans 

A small business loan is a financing option for business owners who need to borrow money for equipment, supplies, employee salaries, etc. A small business loan is typically a long-term installment loan that provides eligible borrowers with a large lump sum. The amount you can get through a business loan depends on the lender, but loan amounts can be worth thousands of dollars. 

There are two main types of business loans: traditional business loans and SBA loans. Banks, credit unions, and online lenders provide traditional business loans. But SBA loans are provided by the U.S. Small Business Administration. The qualification requirements are more flexible with SBA loans than traditional business loans because lenders’ financial risk is lower.

Although business loans provide higher loan amounts and lower interest rates than merchant cash advances, the approval process can be daunting. Traditional bank and SBA loan processing can actually take several months. The approval process is long because lenders need time to verify the legitimacy of your small business.    

Personal Loans

Personal loans are monthly installment loans that eligible borrowers can use for various personal and business expenses. Borrowers pay the loan back in monthly payments that stay the same throughout the repayment period, which makes budgeting this debt payment easy.   

Loan amounts vary greatly, which is beneficial since you can get a small or substantial amount of money. A personal loan may be a great option if you only need a few thousand dollars. If you are stuck deciding between a business loan and a personal loan for your small business, know that personal loans have more flexibility and a faster approval process. 

Good credit scores are not always necessary for approval. Many lenders have flexible qualification requirements. If you can show proof of reliable income to a lender, you could qualify for a sizeable personal loan. While banks and credit unions provide personal loans, you could also apply for one through an online lender. There are plenty of legitimate loans for bad credit online!

FAQS

How do merchant cash advance lenders determine the amount of funding a small business receives?

These companies typically determine the funding amount based on a business’s monthly credit card sales. They analyze past sales records to estimate how much cash advance the business can repay.

Are monthly credit card sales the only factor merchant cash advance companies consider for eligibility?

While monthly credit card sales are a primary factor, merchant cash advance companies may also consider other aspects of your business’s financial health, such as overall revenue, cash flow, and business stability.

How are repayments made to merchant cash advance companies if my business has fluctuating sales?

Repayments to merchant cash advance companies are typically made through automatic deductions from your business bank account based on a fixed percentage of your daily or weekly credit card sales. This means that the repayment amount adjusts with your sales volume.

What are the advantages of merchant cash advances over traditional small business loans?

Merchant cash advances can be more accessible than traditional small business loans, especially for businesses with strong credit card sales but less-than-perfect credit. They also offer quicker funding and more flexible repayment terms based on cash flow.

Can a merchant cash advance negatively impact my business’s cash flow?

While a merchant cash advance provides quick access to funds, frequent repayments can impact your business’s cash flow. It’s important to carefully consider the repayment terms and how they align with your business’s revenue patterns.

Is it necessary to have a business bank account to receive a merchant cash advance?

Yes, having a business bank account is typically necessary for receiving a merchant cash advance. The funds are deposited into this account, and repayments are often automatically withdrawn from it.

How do merchant cash advance companies compare to banks in terms of providing small business loans?

Merchant cash advance companies often have more lenient qualification criteria and faster funding times compared to banks offering small business loans. However, this convenience can come with higher costs and shorter repayment terms.

The Bottom Line With CreditNinja

A merchant cash advance is a short-term loan option for business owners. Although eligible applicants can get money quickly with merchant cash advances, these loans have some disadvantages. The fees can be astronomical, and the short repayment length can be financially risky for borrowers. If you need more money to pay for business expenses, consider business loans, business credit cards, or personal loans instead.

If your credit score is terrible, don’t worry! You could still get fast financial relief with a personal loan. These loans have flexible requirements, high loan amounts, and decent interest rates. As a small business owner, you have multiple loan options available, so ensure you make comparisons! To learn more about small business loan options, loans in general, and more about finances, check out CreditNinja’s blogs.        

References:

  1. Ten Percent of Small Businesses That Sought Financing in 2021 Sought a Merchant Cash Advance | deBanked
  2. Is a Merchant Cash Advance Right for Your Small Business?│U.S. News & World Report
  3. Is A Merchant Cash Advance Right For Your Business?│Forbes

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