Getting A Merchant Cash Advance Is Easy, But What About Repayment?

A merchant cash advance is an advance of funds on a business’s projected future credit and debit card sales that is either repaid by a fixed debit or by a percentage that is taken off the business’s daily or weekly sales. The popularity of merchant cash advances has soared in recent years due to the ever continuing tightening of lending criteria of traditional lenders. Although, there are times that a merchant cash advance is necessary, it’s important for a business owner to know when this is the case and when it isn’t. Regardless of the repayment method this type of business funding should only be used when there is a genuine expected increase of revenue and never as a method when there is no sign in an increase of revenue. It makes the most sense for a business to utilize the funds from a merchant cash advance when the service being provided will generate a greater revenue.

Examples of a business’s valid need for a merchant cash advance:

  • A small business owner in need of capital in order to expand
  • A new restaurant owner has the opportunity to purchase inventory at a reduced price for a limited time
  • A new auto mechanic shop owner needs funds for employee salaries
  • A florist brought in last minute to create extravagant floral arrangements for a large event
  • A medical provider purchasing an expensive piece of diagnostic equipment and is able to generate new income from the use of the equipment

Offers of limited or no paperwork, five-minute applications, and borrowing large sums of money with limited risk can be tempting for business owners who are just getting started, have little to no capital, and aren’t established. In such cases incoming revenue may be below par and it may seem like the temptations can solve a lot of problems. The truth is that it could cause a lot of problems also so the best rule of thumb is a business shouldn’t use this type of financing to fill in a hole that will eventually turn into a crater. A business should only use this type of financing to generate new revenue and never as means to support existing revenue.

Questions a business owner should answer prior to utilizing a merchant cash advance:

  • Will this help bring in more business?
  • Will this help the business grow?
  • Will this enable the purchase of a new piece of equipment that can generate new revenue?
  • Is the business absolutely in need of the money right now?
  • Will the business generate enough sales as to not affect existing revenue when a percentage of revenue is held out of credit or debit card transactions?
  • Will other bills suffer from the lost revenue?
  • How long can the business withstand missing a percentage of revenue from each sale made?
  • Is it reasonable to believe the business can withstand the entire length of the payback period?
  • Does the business have a high enough volume of credit and debit card transactions to make repayment realistic?

Merchant cash advances are very expensive. They can range anywhere from 20 – 40 % of the advance, but they provide flexibility that traditional lenders can’t and don’t: the application process is quick and simple, they don’t require a perfect credit score, and repayment terms are technically designed as to not affect a business’s day to day operations because payments are automatic.
What happens if a business is unable to repay a merchant cash advance?

Every lender has its own guidelines for determining if a loan is in default. Some, take action after one missed payment while others wait months. The one commonality for all lenders is they will contact anyone who is either in default or in danger of slipping into default and with the passage of time the aggressiveness of the communication will increase. Some lenders may even begin action in as little as 30 days after a missed payment by contacting the credit bureaus. If the loan is a secured loan, and the business was required to have collateral in order to qualify for the loan it will likely lose the collateral. Lenders are in the business of making money so if the only way for a lender to recover lost revenue is to seize the collateral, they will. If the lender didn’t require collateral for the loan, it is considered unsecured. Therefore, a business in this situation that is behind on payments is likely to begin to incur late fees and an increased interest rate and if the lender declares the loan to be in default turn it over to a collection agency. If the collection agency is unsuccessful in recovering the defaulted loan they will likely pursue legal actions such as wage garnishments and placing liens on the business’s property.

Some lenders will allow businesses to renegotiate repayment terms, but if the business closes prior to completely repay the borrowed money it will be nearly impossible for the owners to reorganize or start up a new business because financing options that were once viable will no longer be available.

Do the problems go away after defaulting on a merchant cash advance?

The short answer is no. A business credit rating will significantly drop and it will make it more difficult to secure financing in the future. If a business is fortunate enough to secure financing after defaulting on a loan the interest rate on the borrowed funds will be outrageously high.

A business owner’s best option is to attempt to avoid defaulting on a loan altogether. If the owner of a business is aware that he is in danger of defaulting on a lender the best course of action is to contact the lender before the situation deteriorates to the point of no return. Lenders are more likely to negotiate with borrowers who are honest and proactive concerning their situations.