If you plan accordingly, they could be an effective tool for maintaining healthy cash flow and operating your business profitably. When used improperly, they can expedite the demise of a failing business. Managing a merchant cash advance to the benefit of your business means understanding the pros and cons and how to navigate them.
- Immediate lump-sum payment: Merchant cash advances are useful because they deliver a lump-sum payment to a business immediately. That means when cash flow is low, you can bolster it with a quick influx of capital.
Based on sales, not credit score: Merchant cash advances are based on sales instead of credit score, meaning even borrowers with poor credit or no credit can use them.
Easy to qualify: Qualifying for a merchant cash advance is relatively easy. It requires a few months of bank statements, a one-page application and some basic information about the business, such as its tax identification number, website and address.
- Fast approval process: Merchant cash advances can generally be approved more quickly than bank loans, which often take several months for approval. In some cases, merchant cash advances deliver funding within a few days of approval.
- Expensive: Merchant cash advances are generally very expensive, ranging from a high 40% equivalent rate to an astronomical 350% equivalent rate in extreme cases. The cost depends on the lender and several other factors, but a merchant cash advance is always significantly more expensive than a traditional loan.
For example, the seasonal business that needs to cover its operational costs in the lean months until business booms again will likely do well with a merchant cash advance
One-time influx of capital: Merchant cash advances offer a one-time injection of a modest amount of capital. For many businesses, this isn’t a problem. A struggling business using a merchant cash advance to hold itself over in hopes that sales will eventually increase, however, could be backing itself into a corner.
- Restrictive requirements: To accept a merchant cash advance, you must sign an agreement with a lender. In many cases, these agreements include provisions that require your business to abide by certain rules. For example, your business might be precluded from moving locations or taking out an additional business loan. Cassel said you can avoid this problem by having an attorney review any agreements before you sign and negotiating the details of the contract.
What is a working capital loan?
The term “working capital loan” refers to a small business loan or alternative financing option designed to cover near-term costs with a short repayment date. Businesses use working capital loans to cover a wide range of operational costs. These are some types of financing that could be considered working capital loans:
Lines of credit: A line of credit isn’t a loan but a predetermined amount of money a business could borrow from at any time. Much like credit cards, lines of credit only incur interest on the balance borrowed, not the total value of the credit limit. Lines of credit are primarily payday loans Yorkville extended by banks or credit unions, though sometimes businesses with enough leverage can negotiate a line of credit directly with their supplier. The amount of a line of credit is generally based on the business’s credit score.
Short-term loan: A short-term loan is generally a small-dollar loan to be repaid in one year. Short-term loans reach up to $100,000, providing an injection of capital to cover operational expenses immediately. Interest rates on short-term loans vary but tend to be higher than long-term conventional loans’ rates due to their quick maturity period. An example of a short-term loan lender is Fora Financial. You can learn more in our Fora Financial review.