Understanding Merchant Cash Advances for Small Business Owners

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Within the small business financing world, there are many variations of business loans, all of them working slightly differently. These business loan products also display a fairly wide range of basic sizes and restrictions, with bad credit scores, business age and revenues all playing a part in whether or not a business owner will be able to successfully apply for them. While there are bad credit business loans out there, for the overwhelming majority of small business owners with a bad credit score, traditional loans from banks are simply not an option. Enter merchant cash advance. Merchant cash advances have been written about a fair amount of late as their popularity has continued to grow. Surrounding the product are two general camps; those who think that they are a good thing by virtue of providing a second chance at obtaining capital, and those who think that they are a negative product and victimize businesses who have no other options. It is true that the cost of capital associated with a cash advance is high, however, it’s not because of arbitrary decisions on the part of those who provide them, and it does not mean that they are putting people out of business.

The costs of viability. For the MCA industry to even exist it needs to be able to generate profit, just like credit cards, traditional business loans and even standard banking are able to do. Unlike standard business loans, where, due to selectivity around credit score, collateral requirements, time in business and other factors, risk is kept to a minimum on the part of the issuing bank, a cash advance is an unsecured product that is often provided to business owners with derogatory credit. While defaults are managed thanks to adapted underwriting procedures, the fact remains that in a standard MCA portfolio the amount of risk assumed is much higher than a standard banking portfolio that will only work with business owners that have already proven themselves to be strong bets. To offset the potential for loss, and to exist as an industry, merchant cash advance issuers must put out more expensive capital.

Options on top of loan products. A merchant cash advance is an adaptable product, designed to fix gaps in capital already obtained as well. A small business owner not fully satisfied by the size of an approval granted to them by a bank can apply for what is known as a second position advance, where they can be granted additional funding without the need to pay off their current loan before obtaining it. Payment options for merchant cash advances can vary, from using credit card accounts as a payment method to automatic debits from business bank accounts.

Best deployed strategically. The purpose of obtaining additional financing for a small business is to expand revenue streams and ultimately to add to the business’s cash flow. A merchant cash advance, when used responsibly, is able to do just that. Business owners are made aware of the full costs of the capital and asked if they are comfortable with their repayment plan before any advance is issued, and unlike credit card debt, where minimum payments will fluctuate in order to maintain an interest accruing balance, a merchant cash advance does not become more expensive as long as it is paid off as specified within its term. The point of a cash advance is to initiate a relationship with a business that leads to growth and renewals, therefore it is important to the success of the product that the business in question be able to progress with each clip of funding. To say that merchant cash advance is a negative product because it is expensive is to ignore the many types of businesses that have already used these products successfully. The truth of the matter is that without the existence of the MCA industry, many small business owners would simply not be able to find funding, period.

Photo Credit to Kevin Dooley on Flickr

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