Merchant cash advances (MCAs) are often used by small businesses as an alternative to small business loans. MCAs are different from business loans in that they are advances against future sales and are based on past debit and credit card sales. Rather than getting money through a bank, MCAs will come from a lender. There are significant benefits and drawbacks to getting an MCA.
Benefits
The benefits of MCAs include the ability for a small business to access a lump sum of cash quickly, often within 48 to 72 hours. Additionally, it can be easier for individuals and businesses with poor credit ratings to obtain MCAs. Lenders typically do not place any stipulations on how the cash can be used, and often, no collateral at the time of lending is required. Overall, MCAs give small businesses who may not have access to traditional small businesses loans the opportunity to obtain money to grow their business.
Drawbacks
However, there can be significant drawbacks to MCAs. First, MCAs will almost always end up costing the borrow more than a traditional business loan. Repaying an MCA involves something called a holdback. A holdback is a percentage, usually between 10% and 20%, of the small business’ daily credit card transactions that is taken by the lender from the business’ account daily. Holdbacks can devastate a small business’ cash flow. The holdback is different from the rate the business will pay for the advance. MCAs use a factor rate to express cost, as opposed to an Annual Percentage Rate (APR) which is typical of traditional loans. The most common factor rate is equal to a 35% APR, but high factor rates can be the equivalent of a 350% APR or more.
Issues Related to MCAs and Bankruptcy
Because MCAs are structured as purchases of future receivables, not loans, they often avoid interest rate caps, disclosures, and consumer protection laws. Additionally, most MCA agreements include personal guarantees, which legally obligates the guarantor, usually the business owner, to pay the debt personally if the business defaults. This means that the guarantor’s personal assets such as savings, home, investments, or vehicles are opened to potential seizure by the lender.
If the borrower of an MCA declares bankruptcy, it is possible that a court may reclassify the MCA as a disguised loan, not true sales of receivables. This is often the case when the structure of the advance lacks risk-shifting mechanisms. If the MCA is recharacterized, pre-bankruptcy payments made by the borrower can be taken back as preferences. Under Chapter 7 or 13 bankruptcy, an MCA that is deemed a loan may be discharged as long as it is not secured or personally guaranteed. If, however, the MCA is treated as a true sale by a court, the debt will remain as an asset of the lender and is not dischargeable.
Seeking Legal Guidance
If you are a small business who is currently considering or dealing with an MCA, the Creditors’ Rights & Bankruptcy team at Perkins Thompson can help you effectively navigate your next steps. For assistance with these issues, please contact Anthony Manhart.
*Special thanks to Natalie Jump (Maine Law 2026 anticipated) for her assistance with this article.
