Disclaimer: Information in the merchant cash advance articles is provided for general information only, does not constitute financial advice, and does not necessarily describe Biz2Credit commercial financing products. In fact, information in the merchant cash advance articles often covers financial products that Biz2Credit does not currently offer.

Merchant Cash Advances (MCAs) offer a quick and accessible solution to working capital for small business owners. However, the convenience of a small business cash advance comes with higher cost, which can be much more expensive than a traditional loan or other financing options. 

We’ll break down the cost structure of MCA financing, explore the differences between MCAs and other funding sources, and highlight the factors to consider when choosing the right financing option for your business needs.

How To Calculate a Merchant Cash Advance

There are several associated costs when it comes to MCAs. Here’s how you can calculate the cost of a merchant cash advance:

First, consider the factor rate, which is what the lender charges in exchange for the upfront capital. This is different than a traditional bank loan which charges an interest rate. Here’s the formula to follow if you want to use a merchant cash advance:

(Amount you want to borrow) x (Factor rate) = Total owed to lender.

For example, if you want to borrow $20,000 and the factor rate is 1.2, here’s what it will cost you:

$20,000 x 1.2 = $24,000.

The unique part of this is that the funding will cost $4,000 regardless of how long you take to pay it back, as long as it meets the agreed repayment term length.

How To Calculate Costs of Business Funding

There are several forms of business funding, including a business line of credit, merchant cash advances, traditional terms loans and more. Each of them varies in how they work and provide capital to businesses, but its important to weigh each one to ensure you’re selecting the right merchant cash advance lender for your business.

Here’s what you need to know about each:

Business line of credit

A business line of credit is a flexible financing option that provides businesses access to funds they can draw from as needed. Interest is only charged on the amount borrowed, not the amount awarded. Once the borrowed amount is repaid, the credit becomes available again, making it similar to a business credit card.

A business line of credit can be a great product for managing cash flow or covering short-term expenses. Keep in mind that business lines of credit may require a solid credit score to be approved.

You can figure out the cost of a small business line of credit by running the following numbers:

Find out the interest rate and the amount you plan to draw. Interest is typically calculated on the outstanding balance, not the total credit limit, meaning you only pay for what you use. If your interest rate is 10% annually and you borrow $20,000, the interest for one year would be $20,000 × 0.10 = $2,000. Some lines of credit have monthly payments, so divide the yearly interest by 12 to estimate your monthly cost.

Before choosing a business line of credit as your best financing option, be aware of fees that the lender may charge. This could make the cost of the loan rise quickly.

Term loans

This is what you think of as a traditional loan. A term loan is when a lender gives you money in agreement to pay it back over time with interest.

Eligibility is typically determined by the small business owner’s, bank statements, income documentation, and credit score among other factors.

There are several factors that go into calculating the cost of a term loan, but here is the basic formula:

Total Cost=(Principal Amount×Interest Rate×Loan Term)+Fees

Let’s say you’re borrowing $20,000 for 2 years at a 12% interest rate. This would look like:

$24,800=(20,000×0.12×2)+fees

Each lender will likely offer you varying interest rates with different terms, so be sure to shop around for the best rates.

Business credit card

A business credit card is one way to meet business needs, but it isn’t as flexible as a merchant cash advance. Yes, you can take a business cash advance on a credit card, but the potential interest rate and fees can be quite high, making it more of a last resort. A business credit card is best used for meeting expenses like supplies and paying vendors.

However, if you need to take out a cash advance, it could get expensive quickly. Here’s how the fees on a cash advance from a business credit card could mount up quickly:

Total Cost=Advance Amount+(Advance Amount×Cash Advance APR×365Days Outstanding)+Fees

Final Thoughts on Alternative Funding

Despite your future sales not being processed, you have the ability to sell those future credit card sales, daily sales, and receipts to raise funds for business needs now. It’s different than a small business loan, but it can come in handy as a potentially quick way to get a lump sum of funds deposited in your business bank account.

This type of alternative financing isn’t a perfect fit for all types of businesses, so be sure to do your due diligence on all types of business financing before selecting one.

FAQs about Merchant Cash Advances

What is a merchant cash advance?

A merchant cash advance is a way for small businesses to get working capital quickly by selling future receivables and credit card transactions to an mca provider. This is a type of small business financing that can come in handy when businesses and startups need funding quickly.

Is a merchant cash advance worth it?

A merchant cash advance can be worth it compared to traditional business loans as you can get the funding quickly, and the repayment amount will fluctuate with your business performance.

How does a merchant cash advance affect my business credit score?

Some MCA providers do not report repayment activity to major business credit bureaus. However, if the provider works with third-party collectors or if the advance goes into default, the delinquency could be reported to both business and personal credit bureaus.

How is the payback calculated for a merchant cash advance?

Merchant cash advances (MCAs) use a factor rate (typically 1.1 to 1.5) to determine the total payback amount, with repayment calculated as a percentage of daily or weekly sales (the holdback percentage).

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