Do Startups and New Businesses Qualify for Merchant Cash Advances?

Merchant cash advances (MCAs) have become an increasingly popular financing option for startups and new businesses in recent years. MCAs provide a lump sum of capital in exchange for a percentage of future credit card sales over a defined period of time. This type of financing can be easier to obtain than traditional small business loans and provides quick access to capital. However, there are also risks and drawbacks to consider.

How Do MCAs Work?

With an MCA, a lender provides an upfront sum of money to a business in exchange for a fixed percentage of the company’s future credit card sales. There is no set repayment schedule. Instead, the business makes payments by allowing the lender to withdraw a fixed percentage of daily or weekly credit card receipts until the advance is repaid in full, which typically takes 3-18 months. Fees are deducted from the total financing amount provided.

For example, if a business receives $100,000 in MCA financing with a 15% fee, they would get $85,000 upfront ($100,000 – $15,000 fee) and repay around $115,000 or more over 12-18 months by allowing daily withdrawals from credit card sales.

Pros of MCAs for Startups

There are several potential advantages to MCAs for startups and new businesses:

• Fast funding – MCAs can provide funding in as little as 24-48 hours, which is much faster than traditional loans that can take weeks or months to be approved and funded.
• Flexible repayments – Repayments fluctuate based on credit card sales volume, so the burden is lower in slower months.
• Less stringent eligibility – MCA providers generally have less stringent credit score and operating history requirements compared to banks.
• No collateral required – MCAs do not require collateral like equipment or real estate to secure the advance.

This speed and flexibility make MCAs very appealing to startups and new businesses that need capital quickly and cannot wait for lengthy loan approvals. The flexible repayments also help mitigate risk for companies with uneven or unpredictable cash flows.

Cons of MCAs for Startups

However, there are also some significant drawbacks to consider with MCAs:

• High costs – The fees, interest rates, and payment processing costs of MCAs are often considerably higher than traditional bank loans, making the total repayment much larger than the original advance.
• Daily repayments – Daily repayment withdrawals from credit card sales can be operationally difficult for some businesses to manage.
• Risk of overpayment – Companies may end up overpaying if their credit card sales volumes are higher than expected over the payback period.
• Short terms – The 3-18 month payback terms do not provide long-term capital and may not match the needs of some businesses.

These factors make MCAs a very expensive form of financing. The high costs, daily withdrawals, and risk of overpayment should be carefully evaluated before obtaining an MCA.

MCA Industry Concerns

The MCA industry has also faced some scrutiny in recent years. Some concerns that startups should be aware of include:

• Lack of regulation – MCAs are not subject to the same regulations as bank loans, so providers can set their own terms.
• Opaque terms – Contracts may contain confusing or hidden fees and clauses.
• Predatory behavior – There have been reports of some providers engaging in predatory behavior.

These factors underscore the need to carefully vet any potential MCA provider, review contracts thoroughly, and understand all the costs involved before signing an agreement.

Qualification Criteria for Startups

Since MCA providers do not have the same strict requirements as banks, many startups do qualify if they meet some basic criteria:

• Time in business – Most providers require at least 9-12 months in business.
• Credit score – Minimum scores between 500-600 are often needed.
• Monthly credit card volume – Minimums of $10,000-$15,000 per month are typical.
• Valid business license/EIN

As such, most startups that have been operating for at least one year with decent monthly processing volumes and credit have a good chance of qualifying for an MCA. The requirements tend to focus more on credit card sales versus business fundamentals.

Alternatives to MCAs

Instead of an MCA, some other financing options startups may want to consider include:

• Business credit cards – Credit cards allow flexibility plus can help build business credit.
• SBA loans – Government guaranteed small business loans that offer long terms and low fixed rates.
• Business lines of credit – Revolving credit lines that provide accessible capital with predictable repayment terms.
• Invoice factoring – Selling unpaid invoices to an investor for immediate capital needs.
• Angel investors – Individual investors that provide startup capital in exchange for equity.

Weighing all options against your specific business needs and financial circumstances is important before deciding if an MCA or alternative financing is best.

Tips for Startups Considering an MCA

If an MCA does make sense for your startup, here are some tips to follow:

• Compare multiple offers and negotiate – Don’t take the first offer, shop around.
• Read contracts carefully – Look for hidden fees and consider having a lawyer review.
• Understand the costs – Factor rates, fees, and processing can add up quickly.
• Be conservative on estimates – Don’t base repayment amounts on best-case scenarios.
• Have a repayment plan – Know exactly how you will generate the cash flow to repay the advance.
• Consider future needs – Ensure the MCA aligns with your long-term strategic plans.

Following these tips will help startups make the most informed decision on whether an MCA is the right financing option and avoid pitfalls if moving forward.

The Bottom Line

MCAs can provide quick access to capital for startups and new businesses, but they come with much higher costs and risks versus traditional financing options. Carefully evaluating your specific situation, cash flow needs, and the details of any MCA offer is crucial before obtaining this type of financing. While MCAs can fill immediate capital needs, they may not be the optimal long-term solution.

For many startups, SBA loans, business lines of credit, or equity financing may be preferable over the long run. But in certain circumstances, MCAs offer a viable short-term financing option if you go in with full transparency and understanding of the costs and obligations.

As with any major business financing decision, consulting qualified professionals like accountants or lawyers can also provide valuable guidance for startups considering a merchant cash advance.