Loan Advice

Business Cash Advance

by Jim Hughes   Jun 09, 2021

A business cash advance (BCA), also called a merchant cash advance (MCA), is a type of merchant funding where the small business owner reimburses the provider through a percentage of future credit card sales. Here are some things you should know before you apply for this kind of small business loan (first tip: it’s not a loan at all).

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While MCA lenders are indeed extending an advance in a lump sum, this financial product is not considered a small business loan or line of credit. Rather, it is an alternative funding option mostly used by businesses that cannot obtain a bank loan. Because they are not considered loans (although they work very similarly), merchant cash advances are not subject to the same regulations that traditional loans are. Nor are they repaid in the same manner.

Business cash advances are repaid in daily or weekly sums over an unspecified period of time, directly from the business bank account. Payments are based on a percentage of daily sales income and are made directly to the merchant cash advance provider until the advanced amount and all associated fees are paid in full.

Because of the nature of the reimbursement, this kind of financing works best for companies that generate a lot of credit card sales. Merchant cash advances are best for small businesses that need short-term funding to improve their cash flow.

Let’s look at some frequently asked questions about this financial product.

Is a Business Cash Advance a Loan?

Although the two are often confused, a business cash advance is not the same as a loan. There are, however, many similarities between a business cash advance and a consumer cash advance or loan.

Both merchant cash advances and personal loans are short-term and easy to apply for and come with attached fees.

What Is the Difference Between a Business Cash Advance and a Regular Cash Advance?

The main difference between a business cash advance and a regular cash advance or payday loan is in the repayment terms. The regular cash advances that are available to consumers are repaid on a set schedule — usually two weeks to a year depending on the amount borrowed —in monthly payments. In addition to the principal loan amount, borrowers are charged an interest rate and other fees.

A business cash advance is set against future sales and is repaid in daily or monthly sums that fluctuate. Rather than being charged a steady interest rate, merchants who take out a business cash advance pay back the loan in amounts that are based on the merchant’s daily sales. The interest rate attached to a consumer cash advance is therefore replaced with a percentage of daily sales.

Also, whereas a regular cash advance is suitable for most scenarios (though best reserved for emergencies), a business cash advance is for merchants who need a short-term loan to manage their networking capital and cash flow.

Is a Business Cash Advance the Same As a Merchant Cash Advance?

For all intents and purposes, yes. You will see these terms used interchangeably because they have similar terms, holdback amounts, overall facets, and credit score requirements. The main difference between the two is in repayment. Merchant cash advances are repaid in a percentage of future daily credit invoices, while business cash advances are repaid according to overall sales. Both of these advances are similar to a working capital loan and can temporarily boost cash flow.

Who Can Apply For a Business Cash Advance?

Only businesses that accept a credit card transaction as payment can apply for a business cash advance. They are available to some small and mid-sized businesses and some startups. A small business owner may be able to apply for business cash advances regardless of their credit score, but that does not mean that all merchants will be approved by every cash advance company.

What Are the Requirements to Qualify for a Merchant Cash Advance?

While not all businesses can receive this type of funding, qualifying for a business loan from a merchant cash advance is relatively easy compared to getting a traditional loan. For example, you don’t need to operate for multiple years to get business financing.

To qualify, you will need to be able to produce some documentation for the provider. Basic requirements are that you are a business owner, have a Social Security number, and have a bank account. Most of the time, MCA providers ask for the following documents:

  • Government-issued ID
  •  Business bank account
  • Annual business income
  • Bank account statements
  • Estimated future income
  • Credit card processing statements
  • Information about your business (name, address, number)
  • Recent business tax returns
  • Social Security number
  • Number of years in business
  • Percentage of ownership

A merchant cash advance provider may ask for additional information and have more precise requirements. For example, some may only work with companies that have been operating for more than six months. Another provider may have a minimum gross revenue requirement or need to see at least two months of bank statements.

What Percentage of My Credit Card Sales Will Need to Go Toward Paying off the Debt?

Typically, 10% to 20% of each credit card sale will go toward the amount a borrower owes to the merchant cash advance company. This is referred to as the holdback amount. The exact amount owed will vary depending on the conditions set in the cash advance contract.

What Is the Difference Between Interest Rate and Factor Rate?

  • Interest rate is a fixed percentage that is charged on a loan. It is charged on top of the principal loan amount, the dollar amount that is being borrowed. The interest rate is part of the annual percentage rate (APR) and is factored into the amount repaid by the borrower each month of the loan term. All short-term, small-dollar consumer loans come with an interest rate attached. Because a business cash advance is not considered a short-term loan the way a consumer cash advance is, interest rate does not apply here.
  • Factor rate represents the amount of money you will be charged on top of a business cash advance in decimal form. They tend to range between 1.09 and 1.50. Factor rates tend to be a more accurate measure of how much a cash advance will cost than APR or interest because the factor rate includes associated fees in addition to the holdback amount charged on a merchant cash advance.

How Much Will It Cost Me?

Instead of using interest, your provider will use what’s called a factor rate to determine the cost of your funding. A factor rate is a number that’s multiplied by your loan amount to determine what you will pay back to the provider.

The exact factor rate varies by provider. With a business cash advance, the average factor rate is 1.14 and 1.48. So, if you were to borrow $10,000 at a factor rate of 1.14, then that would mean you would pay $11,400 back to the provider lender. You could consider the $1,400 difference to be the cost of your loan (although your provider may require you to pay other fees on top of that).

How Do Lenders Determine Factor Rate?

Just like interest rates and APR, lenders determine a cash advance’s factor rate based on several considerations.

  • Industry: Some industries are considered riskier than others. Industries such as hospitality and tourism, for example, have on and off seasons, making their income cyclical. That means they will not have a steady stream of income all year round.
  • Business’s age: The factor rate a lender will require depends on how long your business has been in the industry. While traditional lenders often mandate that small businesses be at least six years old, business cash advance providers often only require a business to be at least two years of age.
  • Sales and growth: Business cash advance providers use a company’s sales and growth patterns as a metric for determining how likely a borrower is to be able to repay the debt. If chances of defaulting are higher, so shall be the factor rate.
  • Credit history: Business cash advance providers use a company’s credit history to determine its creditworthiness. This is also used as an indication of a company’s ability to repay an advance. Some providers also look at personal credit history.
  • Average monthly credit receivables: This also contributes to how creditworthy a provider thinks a business is.

How Long Do I Have to Pay Back the Funding?

There’s no set time limit for when you need to pay the money back. Like was said earlier, a portion of your credit card sales go toward the amount you owe. So, the time it takes you to pay back the advance loan will depend on how much money you generate through credit card sales. If you have a slow month, you may pay less than you would during a more profitable one. This also means that it will take you longer to repay the advance if you have more slow months than busy months.

Because of how the factor rate works, taking a longer period to pay back the funding shouldn’t mean that you end up paying more than you would have paid if you had reimbursed the provider faster.

It tends to take businesses an average of about nine to twelve months to pay back the money borrowed. However, this varies widely depending on how much money is borrowed and how booming your business is in a given period.

What Kind of Credit Rating Will I Need to Have to Be Approved?

Businesses with a limited credit history or a bad one can still get approved for this product. You should just expect to end up on the higher end of the factor rate range we discussed earlier. For this reason, it often costs businesses with bad credit more to get a merchant cash advance than it costs businesses with good credit.

Will a Business Cash Advance Help Improve My Business Credit Score?

Chances are your payments will not be reported to credit bureaus. You shouldn’t expect your credit score to go up after using this financial product. Therefore, this may not be the right product for you if you want a loan or advance that will improve your credit, making it easier to get traditional (and less expensive) loans in the future.

How Long Does It Take to Be Approved?

Approval can happen in as little as one business day. It is one of the fastest ways for small businesses to borrow working capital. If you are short on time and need financing as soon as possible, consider preparing the documents mentioned earlier in advance to help you save some time.

How Much Can I Borrow?

How much you can borrow will depend on several factors, such as your provider, monthly revenue, and credit history. Merchant cash advances are available in amounts as low as $2,500 and as high as $1 million.

How Does a Business Cash Advance Compare to a Traditional Loan?

Like payday loans and consumer cash advances, business and merchant cash advances tend to be expensive — more so than a traditional loan obtained through another financing company.

Business cash advances are typically quicker, easier to apply for, and more easily accessible. They are not considered a traditional financing option. A traditional financing company, on the other hand, is more selective in who they approve. This is because traditional lenders are not so accommodating to bad credit. Business cash advances can potentially be obtained even if a business owner has a bad credit score. At the same time, traditional loans are more often reserved for a merchant account with excellent credit.

Another major difference between business cash advances and traditional loans is in the terms of the agreement between the merchant account and provider. Instead of repaying the advance on a fixed term with fixed monthly payments, business owners repay the money over an unspecified period of time in payments that are based on sales volume.

Because merchant and business cash advances are not considered loans, they are also not regulated quite the same as other cash advances.

What Should I Do Before Applying for a Business Cash Advance?

Run the numbers. That’s what you should do first. You need to make sure your company will be able to survive with a 20 percent reduction in credit card sales.

You should also explore your other options. Since we’re talking about an expensive way to borrow money, you may be able to get approved for something cheaper.

Here are a few alternative options for small business funding:

SBA Loans

The Small Business Administration works with loan providers to offer working capital to companies that need it. SBA loans come in different shapes and sizes.  One option is the “microloan,” which is built for local businesses and features relatively lower interest rates.

Government Grants

Money you don’t have to pay back is a lot better than a loan. You might consider hiring a professional to investigate the possibility of getting free money from Washington.

Business Line of Credit

This is more like a business credit card than it is a loan. You apply for funds that you can borrow from when you need them, whenever that may be. It can be useful to have access to when you need money fast, but it’ll count against you even if you’re not using it if you apply for a loan.

Invoice Factoring 

You can sell your company’s invoices or receivables to a factoring company for cash. The factoring company will advance the amount your customers owe, and they will collect the money from your customer on the due date.

No matter which option you go with, remember this adage: “A loan rushed into is seldom rushed out of.” One-day funding might sound nice, but if you end up paying more in fees than you would have otherwise, then it might not be worth it. Also, even with this type of loan, you will not receive the funding in a single day.

What Are the Advantages?

Here are five advantages of taking out a merchant cash advance.

Fast Approval and Transfer

Providers may approve your application on the spot and provide you money much faster than traditional lenders. You may receive your money in as little as one business day. You can also request financing online or by visiting a merchant cash advance company.

Flexible Repayment Terms

When you get a traditional loan, you have to make fixed payments every month until you pay off your debt. However, the repayment terms of a cash advance are much more flexible because the factor rate is based on the company’s credit card sales. This way, the payments are proportionate to your revenue.

All Credit Scores are Welcome 

Some merchant cash advance companies are more interested in your business’s monthly revenue and credit card transactions than your credit score. That’s why, no matter your credit score, you may still get financing. Note that the higher your credit score, the better your advance terms.

No Collateral

A merchant cash advance is unsecured. This means that there is no risk of losing a valuable item if you fail to pay the advance back. However, the lender will ask you to sign a written agreement to state that you are responsible for paying back the advance. That doesn’t mean you’re off the hook, though. Not paying back the advance according to the terms outlined in the contract is never a good idea.

Use it as a Small Business Loan

If you’re not able to obtain a business loan through traditional routes, you may find that a merchant cash advance offers a similar solution.

What Are the Disadvantages?

Costly

The biggest problem with a merchant cash advance is the cost created by the factor rate. The expense of the loan can be made worse with added fees.

Won’t Improve Credit

The other issue is that providers don’t report your payments to the credit bureaus. This means that even if you make payments on time, you will not be rewarded with a higher credit score. Merchant cash advance funding should not be considered a long-term financing solution. Rather, this type of business financing should be used sparingly due to its high price tag.

Daily Payments and Shorter Repayment Terms

You will be subject to daily deductions on credit card sales for up to 12 months or longer. For some business owners, the repayment term is challenging.

How Do I Apply For a Business Cash Advance?

The application process for merchant cash advance funding is similar to a regular cash advance or payday loan. Cash advance providers will require applicants to fill out a request form and provide documentation such as:

●     Personal information like name, home and business address, email, phone number

●     Monthly bank statements and business accounts receivables

●     Valid, government-issued ID

Providers will also conduct a credit check.

Final Thoughts

We do not offer a business cash advance through this website. The material above is for learning purposes only. If you need this type of funding, we recommend seeking out a site that provides it. At OpenCashAdvance, we can help you try to find loans for up to $5,000 for your business or personal needs.

Jim Hughes, author at OpenLoans
Director of Content
Look to Jim for advice on budgeting, savings, insurance, stocks, retirement funds, and other topics in personal finance.
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