Why Merchant Cash Advances Help Businesses with Bad Credit

Updated on:

July 31, 2023

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A merchant cash advance, or MCA, is a business financing product that allows businesses, sometimes with bad credit, to acquire money in exchange for a percentage of their future credit card sales. This type of funding is often sought by small and medium-sized businesses that may not have the credit or collateral required for a traditional bank loan. While merchant cash advances can provide a quick and convenient source of funding, they also come with high fees and interest rates that can make them a costly option for businesses.

What is a merchant cash advance and how does it work?

A merchant cash advance is a funding option that can be offered to small businesses. It allows them to receive a lump sum of cash in exchange for agreeing to pay back the loan, plus fees, through a percentage of their daily credit card sales.

To obtain a merchant cash advance, a business owner must apply and provide information about their business and credit card sales. If approved, the lender will collect a predetermined percentage of the business’s credit card sales until the loan is fully repaid.

While merchant cash advances can be a quick and convenient way for small businesses to access capital, they can also be expensive, with fees that are often higher than those for traditional loans. Business owners should carefully consider the terms before deciding if a merchant cash advance is the right financing option for their needs.

What are the interest rates on merchant cash advances?

Merchant cash advances aren’t loans, and one of the reasons for this distinction is that cash advances make money using factor rates instead of charging interest.

An interest rate is the percentage of the loan amount that a borrower must pay as interest to the lender over a certain period of time. For example, if you take out a loan with an interest rate of 5% per year, and the loan amount is $10,000, the annual interest you would need to pay would be 5% of $10,000, or $500. Interest rates are typically expressed as an annual percentage rate (APR).

A factor rate, on the other hand, is a decimal number that represents the total cost of the loan, including both the principal and the interest, expressed as a multiple of the loan amount.

To express a factor rate as an interest rate, you can divide the factor rate by the number of periods in a year (for example, 12 for monthly payments), and then multiply by 100 to express the result as a percentage.

In general, factor rate borrowing tends to be more expensive than term loans with interest rates, as MCA providers generally charge higher interest and fees.

How can I use a merchant cash advance?

A merchant cash advance can be a useful source of small business financing, but it’s important to use it wisely. Here are a few suggestions for how small business owners can use a merchant cash advance:

Cover unexpected expenses: A merchant cash advance can be a good option for covering unexpected expenses, such as repairs, replacements, or emergency expenses.
Take advantage of a new opportunity: If you have the opportunity to expand your business or pursue a new venture, a merchant cash advance can help you get the funding you need to take advantage of the opportunity.
Bridge a temporary cash flow gap: If you are expecting a large payment or investment in the near future, a merchant cash advance can help you bridge the gap until you receive additional funding.
Pay off high-interest debt: If you have high-interest debt, such as credit card balances or personal loans, a merchant cash advance can be a good way to pay off that debt and save on interest over the long term.

It’s important to remember that a merchant cash advance is a short-term financing solution and is not typically suitable for long-term needs.

What are the benefits of a merchant cash advance over traditional loans

There are a few potential benefits of a merchant cash advance over other types of business funding:

Fast funding: One of the main benefits of a merchant cash advance is that it can provide a business with quick access to capital due to a streamlined approval process. In many cases, businesses can complete the application process and receive cash in their bank account in a single business day. That speed can be especially useful for businesses that need funding in a hurry, such as those facing unexpected expenses or those looking to take advantage of a new opportunity.
No collateral required: Merchant cash advances do not require collateral, which means that a business owner does not have to pledge any of their personal or business assets as security for the loan.
Flexible repayment terms: The repayment terms for a merchant cash advance are typically flexible, as the lender collects a percentage of the business’s credit card sales rather than a fixed monthly payment. This can be helpful for businesses that have fluctuating sales or cash flow.
Easy to qualify for, even with a low credit score: Compared to traditional loans, merchant cash advances are often easier to qualify for, as they are based on the credit card sales of the business rather than the creditworthiness of the business owner. If your business has poor credit, an MCA is probably still within reach.
Simple: In addition to the streamlined online application involved with MCAs, payments are also incredibly simple. Traditional small business loans require monthly payments. If you’ve got multiple debts – maybe a working capital loan through a traditional bank, and a line of credit through an online lender – you’ve got to keep track of the payment due dates and ensure you make every payment on time. Most business cash advance providers work directly with your credit card processing company, pulling a percentage of each day’s transactions.

However, it’s important to note that merchant cash advances can also be expensive, with fees that are often higher than those for traditional loans. Business owners should carefully consider the terms before deciding if a merchant cash advance is the right financing option for their needs.

How to qualify for a merchant cash advance

Qualifying for small business funding with an MCA is generally much more streamlined than the process of applying for an SBA loan.

To qualify for a merchant cash advance, a business typically needs to have been in operation for at least six months and have a certain level of credit card sales. The exact requirements will vary by lender, but some common factors that may be considered include:

Time in business: Most lenders will require a business to have been in operation for at least six months in order to qualify for a merchant cash advance.
Credit card sales: A business’s credit card sales are typically the main factor that lenders consider when determining whether to approve a merchant cash advance. Lenders will typically require a minimum level of monthly revenue in order to qualify.
Business bank statements. In order to receive an MCA, your business needs to present multiple months (typically three or four) of bank statements for review. This allows merchant cash advance companies to project your company’s future sales to determine the appropriate advance amount.
Industry: Some industries may be considered higher risk than others, and MCA providers may be more selective in approving merchant cash advances for businesses in those industries.

It’s important to note that every lender has its own specific requirements for merchant cash advances, so it’s a good idea for a business owner to shop around and compare offers from multiple lenders before deciding which one to work with.

How to get the most out of your merchant cash advance

Here are a few tips for getting the most out of a merchant cash advance:

Use it for short-term needs: Merchant cash advances are typically best used for short-term needs, such as covering unexpected expenses or taking advantage of a new opportunity. They are not typically a good choice for long-term financing needs.
Shop around. It’s a good idea to shop around and compare offers from multiple lenders before deciding on a merchant cash advance. This can help you find the most favorable terms and ensure that you are getting the best deal possible.
Carefully consider the terms: Make sure you fully understand the terms of the merchant cash advance, including the repayment schedule, fees, and interest rate. This will help you determine whether the financing is a good fit for your business.
Have a plan for repayment: Make sure you have a solid plan in place for repaying the merchant cash advance. This can help you avoid any potential financial difficulties down the road.
Monitor your credit card sales: Keep an eye on your credit card sales and make sure you are meeting the required repayment schedule. If your sales are lower than expected, you may need to adjust your repayment plan to avoid falling behind on your payments.

How to boost your credit

There are several steps you can take to improve your business credit score. While merchant cash advance providers are able to fund small businesses with poor credit, it’s important to remember that other types of financing with larger funding amounts often require better credit. So building your credit with the three major credit bureaus can allow your business to access these larger forms of loans.

One important factor is the timely payment of bills. It’s also helpful to keep your credit utilization low, meaning that you’re not using too much of your available credit.

Using a mix of credit types, such as loans, credit cards, and leases, can also benefit your score.

Monitoring your credit report and correcting any errors or discrepancies is another way to boost your score.

Additionally, establishing a long credit history by consistently using credit and paying bills on time can improve your credit score over time.

By following these tips, you can work to improve your business credit score and establish a strong financial foundation for your business.