Merchant financing For Small Business Owners
No matter how big or small a business is there is a need for business owners to ensure adequate cash flow in the business. The issue of cash flow can be a major problem for almost all forms of businesses from time to time. Problems associated with cash flow have been cited as one of the top reasons why businesses, especially those in the infancy stage tend to close down.
One survey even showed that cash flow problems were the top 3 reasons why small businesses in the United States were closing down. Merchant financing has been one major way in which small business owners are currently tackling the problem of cash flow.
In particular merchant cash advance providers provide funding which small businesses can use to meet their obligations such as those having to do with payroll, inventory, equipment purchase, construction and lot more. Because of how popular Merchant financing has come to be it is important that we take an in-depth look at what it entails and how it can help small businesses to grow.
Read More: Benefits of Small Business Financing by Merchant Cash Advance Providers
What is merchant cash advance?
Of course merchant cash advance is what we are referring to when we are talking about merchant financing. In its simplest form, merchant cash advance is not a loan from the technical point of view; rather it can be considered as a commercial transaction involving two businesses. One of the parties in this transaction is the business itself which is referred to as the merchant.
The other party is the merchant cash advance provider who makes the funds readily available to the merchant. The fact that merchant cash advance transactions are structured as commercial transactions is something that is very important to the understanding of how merchant cash advance works. For one thing, a merchant fund does not attract an interest payment which is one of the key things that differentiate it from a commercial bank loan. And because cash advance transactions are between two businesses, laws that hitherto govern business to customer relations do not apply, nor do laws which govern loan transactions apply.
Indeed the entire merchant cash advance industry is unregulated by both the federal and state governments, ensuring that over nearing government regulations which had a tremendous impact on the traditional lending sector are not in place. This does not, however, suggest that the Merchant financing industry is one where anything goes. On the one hand, being that merchant cash advance transactions are of a commercial nature, laws such as the fair credit reporting act and the uniform commercial code of each state, do apply. On the other hand leading, merchant cash advance providers are working towards having some general guidelines for the industry even though individual providers would not be under any obligation to follow them. All these facts point to the fact there is a high level of organization in the Merchant financing industry, something which is quite important to small business owners.
It might still be unclear at this point what exactly merchant cash advance is. In the simplest form merchant cash advance is a process in which a business sells a portion of its future receivables to a merchant cash advance provider in exchange for a lump sum of cash. This is all that is involved and there is no question of collateral and personal guarantee which is an integral feature of bank loans.
Even in cases where some unscrupulous merchant cash advance providers tried to extract personal guarantees from merchant the end result was never favorable to the merchant providers. For example in one famous case where the merchant was unable to repay the advance the merchant vendors tried to make claims based on the personal guarantees which the business owners had provided. However, the court ruled in favor of the merchants stating it clearly that Merchant financing for all intent and purposes is a sales transactions and as such the issue of guarantee does not come up.
Who is qualified to receive merchant funding?
Not every form of business is eligible to receive merchant cash advance funding. This might come as a surprise to a number of persons though. But that is the reality of the merchant cash advance industry. The major reason why all forms of businesses are not eligible for an advance is that the very nature of Merchant financing which makes it only suitable for businesses that generate a large volume of sales of revenue on a monthly basis.
Businesses which are to be considered for merchant finance must be making sales through credit and debit cards. In addition to these two fundamental criteria, there other important factors which merchant cash advance providers put into consideration before deciding on whether or not a business is to be an issue an advance. For instance, a business is required to have a physical address before it can be considered for merchant funding; businesses that are solely based online are automatically disqualified from merchant financing.
Yet in spite of the fact that merchant cash advance typically allows low credit scores—those are too low to have enabled the business owner to get a bank loan—there is a still a minimum score that merchant vendors would allow. The score varies from one provider to another. Apart from these minor requirements, virtually every form of business can utilize merchant cash advance for whatever it deems fit.
Are there objections to merchant cash advance?
In spite of the numerous benefits of merchant financing—some of which are going to be considered –there are still some persons in the business circles who still object to merchant cash advance. They cite things such as annual percentage rates which are often in the triple digits to make their claim that merchant funding is just plain expensive. Of course, it is true that merchant cash advance is somewhat more expensive than commercial bank loans. However, there are some things that need to be factored in before one can understand why merchant cash advance is a bit more expensive.
It is known fact that when a bank lends money, it is taking a risk – one which it balances by demanding collateral from the borrowing business. Also because of this risk interest is charged on the amount that is borrowed with the interest rates having some proportionality with the likelihood of the loan being paid back. In the usual scenario, the more the risk involved in a particular loan transaction the more the interest the bank will charge. In short, if a bank considers a particular investment to be particularly risky it even insists on business owners providing personal guarantees. All of these are not part of merchant financing.
In a merchant cash advance transaction, the lenders are completely vulnerable in that they do not request collaterals or personal guarantees from borrowing businesses. The risk involved in the cash advance industry is just too high. As such it is simply a matter of sound economics that merchant cash advance providers charge higher for the service they render. If one is to compare the various benefits of Merchant financing with its cost, it becomes immediately clear that that the benefits even outweigh the cost.
How does Merchant Cash Advance work?
The whole process of obtaining a cash advance is very straightforward. It begins with the merchant applying to a merchant cash vendor for an advance. The terms of the advance are examined and in most cases, they are tailored to meet the needs of the business in question. The major elements in the merchant cash advance agreement typically include the factor rate, the withholding amount and the total payback amount, as well as other information regarding the terms of the advance. The factor rate is the amount by which the actual amount that is borrowed is multiplied to arrive at the total payback amount. This factor is usually not more than 1.5. The withholding percentage, on the other hand, is the amount of the daily credit sales that is channeled to paying back the advance—it is often less than 20 percent. Once the agreement has been reached on all of these, the Merchant financing contract is then signed. The business then receives the cash and soon afterward begins to make daily payments until the advance has been repaid.
Read More: The Best Bad Credit Loans for Small Businesses of 2018
Benefits of merchant cash advance
The major benefit of merchant cash advance lies in the way the advances can be obtained with so much ease and the approval rates of the advances which are almost 90 percent. That merchant advances are unsecured is something which has also been explored at the beginning. But what this means is that more and more businesses would now have access to cash than ever before since the problem of collateral has been identified as one of the major factors why small businesses are denied commercial bank loans. Meanwhile, there is minimal documentation required, ensuring that process of obtaining Merchant financing is so fast that funds could reach the business within 24 hours in some instances.
In a nutshell, merchant cash advance remains the leading source of alternative funding. The merchant cash advance industry is rapidly expanding and in no time it might even become the number one source of funding for small businesses.
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