Small businesses often have trouble obtaining traditional loans from banks due to strict lending requirements. A merchant cash advance (MCA) can provide a viable alternative for these businesses, as it is a type of financing that is based on a business’s future credit card sales.
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How Does a Merchant Cash Advance Work?
A merchant cash advance provider will give a business a lump sum of cash in exchange for a percentage of the business’s future credit card sales. The provider will then collect the agreed-upon percentage until the advance is repaid. This repayment process is known as a “holdback.” The holdback percentage is typically determined by the provider based on the business’s credit card sales and creditworthiness.
For example, if a business receives a $10,000 merchant cash advance and the holdback percentage is 10%, the business would pay back $1,000 per month until the advance is fully repaid.
Benefits of a Merchant Cash Advance
- Quick and easy application process. Unlike traditional loans, which can take weeks or even months to be approved, merchant cash advances can be obtained in as little as a few days.
- Flexible repayment terms. Repayment is based on credit card sales, so if business is slow, the repayment amount will be less. This is in contrast to traditional loans, which require a set monthly payment regardless of the business’s revenue.
- No collateral required. Merchant cash advances do not require collateral, unlike traditional loans which usually require the borrower to put up some form of security such as property or equipment.
- No set credit score requirement. Merchant cash advances are based on a business’s credit card sales and future potential, not its credit score.
Drawbacks of a Merchant Cash Advance
- High cost of financing. Merchant cash advances typically have higher interest rates and fees than traditional loans.
- Limited use of funds. The funds from a merchant cash advance can only be used for specific business expenses, such as inventory or equipment.
- Repayment can be unpredictable. Because repayment is based on credit card sales, it can be difficult for a business to budget for and plan for repayment.
Conclusion
A merchant cash advance can be a good option for small businesses that have trouble obtaining traditional loans. However, it is important for business owners to understand the costs and repayment terms before entering into an agreement. As always, it is recommended that you consult with a financial advisor before making any decisions regarding financing.
