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Merchant Cash Advances, Explained: A Guide for E-commerce Owners

A merchant cash advance (MCA) is an alternative source of financing for e-commerce sellers and other small business owners — especially those who need fast funding, and may have trouble meeting the requirements for traditional loans and other financing options.

In an MCA, a lender disburses funds to a business as a single lump sum payment. The business can then use these funds to cover immediate costs, purchase inventory, invest in growth initiatives, or for other business expenses.

The funding provider then deducts a fixed percentage directly from the borrower’s sales, usually at daily or weekly intervals, until the advance is paid off.

Unlike traditional business loans, MCAs may be approved and paid out in as little as 48 hours, making them well-suited for the fast-paced world of modern e-commerce. Here’s how to use them wisely to scale your business.

Key Takeaways

  • A merchant cash advance is paid back by taking a percentage of future sales.
  • MCAs can be a strong financing option if you have trouble qualifying for traditional loans.
  • Approval and payouts are fast and easy, but repayments can eat into profits. 
  • MCA fees and interest rates can be much higher than rates for traditional loans.
  • Always use MCAs judiciously, for the right reasons, and always with trusted providers.

How Does a Merchant Cash Advance Work? 

The process for obtaining a merchant cash advance is fairly straightforward. Here are some of the common steps involved.

1. Application: In the initial part of the application process, you may need to show proof of sales. You may also need to upload other documents to prove your eligibility, like bank statements, tax returns, or a business license, or undergo a soft credit inquiry. You typically don’t need to have strong personal credit, collateral, or business credit to get approved, but you do need to meet the provider’s requirement for credit card and non-invoice sales.

2. Offer: Next, the lender will analyze your sales statements to determine your average monthly revenue, and decide what kind of advance you qualify for. Once approved, they’ll offer you a lump sum payment, usually between $5,000 and $500,000.

3. Agreement: You’ll be asked to sign a contract that details the terms and conditions of your advance. This should include your factor rate, holdback percentage, and any additional fees and repayment terms. Read the contract carefully to make sure you understand how much you’ll owe.

What is a Factor Rate?

A factor rate is the interest you’ll pay back on your advance, and is perhaps the most important consideration when choosing an MCA. 

Unlike annual percentage rates (APRs), factor rates are written in decimals, typically ranging from 1.1 to 1.5. This factor rate is multiplied by the amount of the MCA to determine how much you’ll pay back.

For instance, if the advance amount is $50,000 and your factor rate is 1.3, you will owe $65,000 plus fees.

Your factor rate is built into your payment schedule, and the cost of borrowing doesn’t compound or change as you pay off your funding.

What is a Holdback Percentage?

A holdback percentage is the sales percentage that will be deducted from each payout and remitted to the MCA provider as a portion of repayment for your advance.

Holdbacks are typically between 10 and 20%, so if your daily sales are $3,000 and you have a holdback of 10%, the provider will keep $300 per day until you pay back the total amount of the advance, plus fees.

4. Advance: The provider deposits a lump sum into your merchant account, typically within 48-72 hours of submitting your initial application. MCA lenders usually place few, if any, stipulations on how you use the cash, and you can begin using it as soon as you receive it.

5. Repayment: Finally, the lender begins deducting repayments (“holdbacks”), often as soon as the next day. They’lll continue taking holdbacks until the advance and all fees are paid off, usually using one of the following repayment methods: 

  • ACH Withdrawal: The provider automatically deducts the repayment from your business checking account.
  • Lockbox or Bank Withholding: Your bank splits your transactions between the MCA provider and your bank account.
  • Split Withholding: The processor splits your sales between the provider and your merchant account, sending the percentage directly to the provider.

MCAs vs. Small Business Loans

An SBA loan is a loan secured through a bank or credit union, with the help of the US Small Business Administration. You can apply for one by using SBA’s Lender Match tool to connect with a local lender. Repayments may be fixed or variable, depending on the terms.

MCAsSmall Business Loans
Around 90% of MCAs are at least partially approved.Approval rate as low as 25% at large banks, and 49% at small banks.
Higher interest rates and fees than most other types of financing.Lower interest rates and fewer fees than typical bank loans.
Approval process usually takes around 24-72 hours and approval rates are high.Approval process usually takes around 30 to 90 days, with strict requirements.
Borrowers can usually still get approved, even with bad credit.Borrowers may need to meet minimum credit score requirements (680+).
Do not require collateral.May require collateral, including personal collateral.

MCAs vs. Term Loans

A term loan is a one-time, lump-sum loan that you get from a bank, credit union, fintech company, or other online lender. The loan is repaid with interest in weekly or monthly installments, at fixed or variable rates, over a predetermined period of time.

MCAsTerm Loans
Repaid as a percentage of sales until advance and fees are paid off.Repaid in fixed amounts, over a set period of time.
Payments are deducted automatically, daily or weekly.Payments are weekly or monthly, and you can sometimes choose to pay early or extra.
Higher interest rates (aka factor rates) than most other types of loans.Interest rates are generally much lower than MCAs, especially with banks and credit unions.
Businesses with less-than-ideal credit can still get approved.Loans made through banks can have strict requirements, like a high credit score.
Advances aren’t reported to credit bureaus, so you can’t use them to build credit.Loans are often reported and you can usually use them to build credit.

MCAs vs. Business Line of Credit

A business line of credit works similarly to a credit card: instead of a lump sum as with an MCA, you get a revolving amount of funds, and only pay interest on what you use. Any funds you’ve already paid off are available to be borrowed again.

MCAsBusiness Line of Credit
Some lenders may run a soft credit check, but excellent credit is rarely required.Some lenders have a minimum credit score requirement.
Typically require around 3-6 months sales history.May require you to have been in business for at least one year.
Factor rate is determined based on your sales history.Securing your credit with collateral may earn you better interest rates.
Your repayment amounts vary based on sales, but the percentage is fixed.Variable rates mean your percentage of interest can rise and fall.
More cash up front, but that’s all you get until the whole advance is paid in full.Up front sum may be lower (or not), but you get more funds as you pay them off.

The Real Pros and Cons of Merchant Cash Advances

From predatory loan terms to threats of violence and even kidnapping, the negative press about MCAs can get pretty intense. But these edge cases don’t represent the reality of MCAs today, or the many reputable options available.

Pros

Near-Instant Access to Capital

Most MCA applications take just a few minutes to complete online, and may be approved within days or even hours. From there, you could have tens or hundreds of thousands of dollars in working capital in the bank in as little as 48-72 hours.

No Need for Great Credit

While most MCAs these days will run a soft credit inquiry, they don’t require you to have excellent credit. Most merchant cash advance providers also won’t ask for collateral. Your sales history itself is enough to reassure lenders that you’ll be able to repay your advance.

Fewer Usage Restrictions

Some types of small business financing, like SBA loans, come with specific usage restrictions. For example, you can’t use them for certain real estate deals, or to pay back certain debts. A merchant cash advance, on the other hand, can be used to cover virtually any aspect of your business operations. That means you get the flexibility and freedom to invest in your business however you want to.

Better Tailored to E-commerce Needs

Modern fintechs and other financing providers are making it faster and easier for businesses to contact their lenders. Forget spending all morning on hold with your bank. With an MCA or other alternative financing partner, you can get up-to-date information on your approval or payment schedule by clicking a few buttons in an app.

Cons

High Factor Rates

Interest on MCAs can be high, and without a thorough understanding of how factor rates work, you could wind up paying a lot more than you expect. 

For example, let’s say you’re approved for a $50,000 MCA at a factor rate of 1.3. To get the payback amount, you multiply the two numbers together:

That’s a total of $65,000. That works out to an effective APR of 104.02%, or a lofty $15,000 in interest.

While a high factor rate can be a worthwhile investment if you’re purchasing high-demand inventory at a discount or investing in valuable new infrastructure, relying too much on MCAs to pay off operational costs can land your business in a frustrating debt cycle. Borrowers need to be wary of hidden fees, and dangerous practices like stacking multiple MCAs.

Repayments Can Hurt Cash Flow

Regular daily or weekly payments, which usually start immediately, can tie up valuable daily cash flow. For instance, if you do about $100,000 in sales every month, or $3,333 a day, your estimated daily payment would be around $333.33.

Remember, since MCAs don’t report to credit bureaus, these payments aren’t doing anything to help build up your credit history.

Fees, Fees, and More Fees

Besides your factor rate, many MCA companies may also charge a long list of fees, including:

  • Loan fees or origination fees
  • Bank fees
  • Underwriting fees 
  • Risk fees
  • Broker fees
  • Administrative fees
  • Application fees

MCA providers often deduct these fees from the original advance, so you end up with a smaller lump sum.

Is an MCA a Good Funding Option for E-commerce?

The MCA market is expanding rapidly, on track to be worth close to $2B by 2027. This is all happening as a growing number of businesses are turning away from traditional bank loans in favor of business funding solutions from fintechs and other lenders.

Big e-commerce players like Shopify, DoorDash, Amazon, and PayPal are also getting in on the MCA game, offering their own in-house solutions for merchants who need fast funding to navigate seller payment schedules and continue to sell on their platforms.

Meanwhile, states like California and New York have moved to legitimize merchant cash advances and protect borrowers with new regulatory measures.

That said, MCAs aren’t the only — or necessarily the best — financing solution for every business owner or situation. Before accepting an MCA, look closely at all of your options to decide which type of business financing and terms are right for you.

A Business Cash Advance You Can Count On

At SellersFi, we’re giving modern retailers an easier way to get fast, reputable, short-term funding for your growing e-commerce business. Whether you want to up your ad spend, invest into R&D, or boost your inventory levels, our complete suite of financial solutions has you covered.

With CommercePay, you can get funded in as little as 48 hours, with transparent terms up to 9 months. Reach out today to learn more about CommercePay, or take our new Product Matcher for a spin to discover the type of funding that can best support your growth.

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