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Business.com Guide to Merchant Cash Advances Services

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Contents

What Is a Merchant Cash Advance? 4

Qualifying for a Merchant Cash Advance 6

Advantages of Using Merchant Cash Advances 7

Disadvantages of Using Merchant Cash Advances 9

About Merchant Cash Advance Providers 11

Comparing Merchant Cash Advance Services 13

Business.com Checklist for Merchant Cash Advance Services 16

Glossary of Merchant Cash Advance Terms 17

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What Is a Merchant Cash Advance?

A merchant cash advance is exactly that: a lump sum of money advanced to a merchant. The merchant cash advance (MCA) company makes its profit by adding a fee to the cash sum, usually a fixed percentage of

the total amount advanced. This fee can be as much as 30% of the amount advanced. To pay back the advance plus the fee, the merchant “sells” a portion of future receipts to the company providing the cash.

Payment is made every month according to a set percentage of the merchant’s daily credit card sales. For example, the merchant might pay 20 cents for every dollar in daily credit card sales until the total amount of the advance plus fee is recovered. Typically, this monthly percentage (called the retrieval rate) ranges between 8% and 10% of gross sales, though there may be cases that fall outside this range (e.g., a low margin business with a large cash flow might be eligible for a program requiring only 1% of its monthly gross sales).

Typically, the merchant’s credit card processor automatically pays this percentage for every sales transaction directly to the company that provided the advance (this is called “split funding” or “batch funding”).

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A merchant cash advance is a quick source of short-term financing for a small business merchant with an immediate need for cash. Most advances -- plus fees -- are repaid in within six to 12 months.

Merchant cash advances can be an important source of financing if your business does not qualify for a commercial bank loan because it is a startup and deemed a high risk, has a bad or insufficient credit history, and/or lacks qualifying collateral. MCAs are, however, more costly than traditional bank financing.

Merchant cash advances can be an important source of financing if your business does not qualify for a commercial bank loan because it is a startup and deemed a high risk

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Qualifying for a Merchant Cash Advance

The primary requirement is you must make daily credit card transactions (which is why they are merchant cash advances, i.e., advances to retail, restaurant and service companies).

Additional conditions may apply. These include:

¾ $2,500 to $5,000 monthly credit card billings, possibly higher depending on the amount of the advance.

¾ Proof of at least four months history of credit card sales.

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Advantages of Using Merchant Cash Advances

The advantages of a merchant cash advance include:

¾ Unlike with a bank loan, there is no fixed monthly payment, no interest rate or payoff date.

¾ There is no collateral requirement. In the event the merchant’s business fails and full restitution for the advance not made, the owner’s assets are not at risk, as they would be with a bank loan. In fact, if a merchant’s business fails and the cash advance is not fully repaid, there is no legal liability.

¾ Repayment is performed automatically based on the merchant’s credit card transactions; consequently, there is no possibility of late charges from overlooked due dates that frequently occur with bank cash loans.

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¾ Almost instantaneous access to funding; advances are typically made within 24 to 48 hours.

¾ Better cash flow; if sales are slow for a given month, you pay less to the MCA company because they collect only a set percentage of monthly sales, without any minimum amount required.

¾ Minimal paperwork.

¾ If you need cash quickly, but don’t qualify for a traditional bank loan, or can’t wait for a loan decision and/or release of funds.

Banks have been stingy with lending to small businesses since the beginning of the financial crisis that began in 2007. While the economy has improved since then, credit availability has not eased up at all. Given a tight credit market, small businesses have to take advantage of whatever resources they can find. Merchant cash advances are a novel workaround to unavailable bank lending.

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Disadvantages of Using Merchant Cash Advances

The catch (you knew there was going to be a catch, right?) is that a merchant cash advance is considerably more costly than traditional financing.

Technically, merchant cash advances are not considered “loans.” Rather, they involve the purchase and sale of future income. The advance never lasts more than a year, so the firms putting up the financing don’t have to follow regulations on interest rates that traditional lenders are required to follow.

Still, while technically not an interest fee, if you compare it to one, the rate you are paying with an MCA is significantly higher. Tozzi notes that Leonard C. Wright, CPA and Money Doctor columnist, estimates the equivalent APR (annual percentage rate) for a merchant cash advance fee can range between 60% and 200%.

One reason the APR is so much higher is that a bank receives a monthly percentage on the balance owed, not the full amount of the loan. As the loan is paid off and the balance reduced, the interest paid is less. However, a merchant

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cash advance fee is a fixed charge for providing the advance. That charge can be as much as 30% of the advance. For example, the fee for a $20,000 advance could be $6,000.

Banks are regulated by federal and state laws intended to protect consumers against “predatory” lending practices. MCA providers are not similarly regulated because they are technically buying future receivables, not providing a loan. Consequently, they are exempt from state usury laws that would otherwise prohibit charging fees that greatly exceed industry standard interest rates.

This lack of regulation has led to some unscrupulous practices. These include companies advancing more money than a business has capacity to repay and cases where the cash advance company changed its billing practices without notifying the merchant borrowers.

Other potential disadvantages include:

¾ Most cash advance contracts prohibit switching credit card processors; if for some reason you are dissatisfied with your credit card processor, you are stuck with them until the advance is repaid.

¾ Encouraging your customers to pay in cash, to avoid a percentage of their sales going to the MCA firm, is considered a “breach of contract” and could result in litigation.

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About Merchant Cash Advance Providers

Merchant cash advance services is a rapidly growing industry. It basically did not exist as an industry at the turn of the 21st Century. Within the past 15 years, however, it has grown into an industry with

over 50 MCA firms advancing hundreds of millions of dollars each year. The larget and oldest firm in the field, AdvanceMe, expects to advance over one billion dollars to business owners in the next three years. Most reputable MCA providers belong to the North American Merchant Advance Association (NAMAA), formed in 2006 in partial response to counteract the deceptive practices of some companies. The trade group has set best practice ethical guidelines that include full disclosure of fees and how balances are paid off. NAMAA president David Golden claims that “most of the bad apples were cleaned out of the industry during the recession.”

Most reputable MCA providers belong to the North American Merchant Advance Association (NAMAA), formed in 2006

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Indeed, the industry is largely cleaning up its act. Safeguards in the MCA industry are increasing and high fees are shrinking as the market for alternative forms of small business financing continues to grow. Competition has helped bring fees to realistic levels, as even mainstream organizations such as eBay, Amazon and AmEx OpenExchange are getting into the alternative merchant financing act.”

You can find a list of NAMAA members here: http://www.northamericanmaa.org/members.htm

Even mainstream organizations such as eBay, Amazon and AmEx OpenExchange are getting into the alternative merchant financing act.

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Comparing Merchant Cash Advance Services

¾ Understand the terms and all fees. Above all, be absolutely clear on how much money you need to pay back. Talk to your accountant, because it is easy to lose sight of what you are actually required to do. For example, a lender might demand 10% of your daily credit card receipts until you pay back the agreed-upon amount. But 10% is not your financing charge, which is calculated by comparing the cost of financing with the amount financed, and could be as high as 90 percent. Verify if there are minimum payment requirements: Do you have to make up the difference if credit card sales fail to generate the minimum payment?

¾ Calculate the APR. Remember, the percentage of your credit card transactions you are paying every day is not the same as the percentage rate you’re paying on the advance. Ask what the annual percentage rate (APR) is and what it would be if you were to get the same amount as a bank loan.

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¾ Make sure there are no origination fees, closing costs, application fees, statement fees, or any other kinds of fees. While these might be standard for a bank loan, they are not for a merchant cash advance. There have been cases where third-party brokers add these fees.

¾ Make sure you have a realistic picture of your business and your ability to repay the advance. Merchant cash advances are an expensive way to finance a business, but can be essential for companies with widely fluctuating cash flows. Remember that MCAs get paid first -- off the top, usually before the money ever touches your bank account -- and you won’t be able to use that money to pay any other bills until the MCA is paid off.

¾ Beware of alternative payment arrangements. Some merchant cash advance companies have different payment arrangements than split funding, where the credit card processor makes the daily advance repayment directly. These include:

� Escrow payments. The credit card processor deposits daily receipts in an escrow account as an Automated Clearing House (ACH) transaction; once the MCA provider receives its percentage of funds, the balance is released to the merchant.

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Debit payments. The MCA company debits payment from the merchant’s bank account through ACH.

� The problem here is that you allow third parties to control your cash flow. You don’t have access to your receipts for at least a day, sometimes more, before ACH processing is completed. In the case of debit payments, you’re allowing the MCA company access to your bank account; there have been cases in which an MCA company has withdrawn additional funds beyond the regular payment, citing as cause a contractual violation (such as promoting cash payments from customers). The simplest and safest repayment method is split funding. If the MCA company you’re considering cannot accommodate split funding, it’s easy enough to find a more flexible MCA provider.

¾ Don’t exceed your capabilities. The ceiling rate (the percentage advanced) should not exceed 10% of gross sales. Most reputable MCA providers have adopted this principle as an industry best practice. So should you. An MCA provider willing to advance you more than you can reasonably expect to repay is not doing you a favor.

¾ Shop around to get the best deal. While there are a couple of dominant players, the MCA industry today is highly competitive. Compare rates and payment plans and get the best one.

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Business.com Checklist for Merchant Cash Advance Services

My Needs Vendor 1 Vendor 2

Advance Features

Loan amount

Fees

Ceiling rate

Application Documentation

Credit card receipts for how many months

Profit/loss statement

Tax return or other evidence your business has operated for the 6 months or more

Confirmable lease

Repayment Terms

Total repayment amount

Equivalent APR

Split funding

Escrow or debit funding

Minimum payment requirement?

Hidden fees?

Customer Service

Approval turnaround time

Email support

Telephone support

NAMAA member

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Glossary of Merchant Cash Advance Terms

ACH: Automated Clearing House. An electronic financial network that processes large batch volumes of credit and debit transactions. Examples include direct deposit payroll and consumer loan direct debit payments.

ACH Withholding: Another term for “debit payments” where the MCA provider receives credit card processing information and deducts its daily percentage directly from the business’ checking account via ACH.

APR: Annual Percentage Rate. A finance charge expressed as an annual rate. A nominal APR is simply the interest charged for the year. An effective APR includes all associated fees for the loan plus compound interest calculated for the year.

Batch Funding: Also called “Split Funding.” The borrower’s credit card processor automatically pays the daily sales percentage directly to the MCA company.

Ceiling Rate: The percentage of gross sales the MCA provider will advance. The industry standard is a ceiling rate of no more than 10%. So, if a company has $100,000 in gross revenues, the maximum the MCA will advance is $10,000.

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Escrow Payment: Also called “Lock Box” or “Trust Bank Account Withholding.” The credit card processor deposits daily receipts in an escrow account as an Automated Clearing House (ACH) transaction; once the cash advance provider receives its percentage of funds, the balance is released to the borrower.

Debit Payment: The MCA provider receives credit card processing information and deducts its daily percentage directly from the borrower’s checking account via ACH; also called “ACH withholding.”

Lock Box: Also called “Escrow Payment” or “Trust Bank Account Withholding.” The credit card processor deposits daily receipts in an escrow account as an Automated Clearing House (ACH) transaction; once the cash advance provider receives its percentage of funds, the balance is released to the borrower.

MCA: Merchant Cash Advance company, the provider of the cash advance.

Split Funding: Also called “Batch Funding.” The borrower’s credit card processor automatically pays the daily sales percentage directly to the MCA company.

Trust Bank Account Withholding: Also called “Lock Box” or “Escrow Trust.” The credit card processor deposits daily receipts in an escrow account as an Automated Clearing House (ACH) transaction; once the cash advance provider receives its percentage of funds, the balance is released to the borrower.