When small businesses face urgent financial needs, a Merchant Cash Advance (MCA) can seem like a lifeline. These loans offer quick access to capital, often with a simplified approval process that doesn’t depend on credit score or substantial assets.
But before diving in, it’s crucial to look at the merchant cash advance pros and cons — especially the cons, which are often overlooked. It is essential for the business owner to fully understand the risks and obligations involved before choosing a merchant cash advance.
Unlike traditional loans from banks, a merchant cash advance provides a lump sum of capital in exchange for a portion of the business’s future credit card sales or daily or weekly sales. This repayment method may sound convenient, but it can lead to a relentless debt cycle that’s hard to break — especially for small businesses with inconsistent cash flow.
About Merchant Cash Advances
A merchant cash advance (MCA) is a popular form of alternative financing that gives businesses quick access to working capital—often within just a few days. Unlike traditional loans, a merchant cash advance is not technically a loan, but rather an advance against your business’s future credit card sales or daily and weekly sales.
This makes MCAs especially appealing to businesses with steady credit or debit card sales, such as restaurants, retail shops, and service providers.
With a merchant cash advance, you receive a lump sum of cash upfront, and repayment is automatically deducted as a percentage of your daily or weekly sales. This flexible repayment structure can be helpful for businesses with fluctuating revenue, but it’s important to weigh the cons of merchant cash advances.
High costs, unpredictable payments, and the risk of falling into a debt cycle are all potential downsides that set MCAs apart from traditional loans.
Key Takeaways
- Merchant cash advances (MCAs) can create serious long-term financial problems for small businesses due to their high costs, unpredictable repayment structures, and lack of consumer protections compared to traditional loans.
- The repayment method based on future credit card sales often leads to a cycle of debt, as daily or weekly deductions from sales drain daily cash flow and make it difficult for business owners to cover essential expenses or invest in growth.
- Bankruptcy, particularly Chapter 11, offers a legal pathway to stop MCA collections, reorganize debt, and potentially eliminate or renegotiate harmful cash advance agreements, providing struggling businesses a chance to recover.
Understanding the Factor Rate
One of the most important—and often misunderstood—elements of a merchant cash advance is the factor rate. The factor rate determines how much you’ll ultimately repay on top of the original cash advance amount.
Unlike traditional loans that use interest rates and annual percentage rates (APRs), MCAs use factor rates, which typically range from 1.1 to 1.5, depending on your business’s risk profile.
To calculate your total repayment, simply multiply the cash advance amount by the factor rate. For example, if you receive a $50,000 merchant cash advance at a factor rate of 1.4, you’ll owe $70,000 in total repayment. This means you’re paying $20,000 in fees—often much higher than what you’d pay with a traditional loan.
Understanding how factor rates work is crucial to avoiding the high costs that can come with merchant cash advances.
The Dark Side of MCAs: Cons You Can’t Ignore
Let’s break down the major cons of merchant cash and how they compare to traditional loans:
MCAs typically involve higher costs than traditional loans, with increased interest rates and fees that can significantly impact a business’s bottom line.
1. Exorbitant Costs and Interest Rates
Merchant cash advance rates are not expressed like a standard interest rate or the annual percentage rate (APR) seen with traditional business loans. Instead, MCAs use a factor rate, which often results in a high cost for the borrower and can significantly inflate the total repayment amount.
The APR for MCAs can be much higher than that of traditional loans, leading businesses to often pay 50% to 200% more than the amount they originally borrowed.
2. Unpredictable and Aggressive Repayment
Repayments are typically deducted from daily credit card sales or weekly sales, which means the more you sell, the more is taken out. While this may seem like a flexible repayment structure, it often strains cash flow and creates issues covering business expenses, purchasing inventory, or paying outstanding invoices.
Some MCA fees may be deductible as a business expense, but it’s important to consult a tax professional to ensure proper handling.
3. No Fixed Monthly Payments
Unlike a bank loan with fixed monthly payments, MCAs siphon money unpredictably from your bank account based on credit card transactions. This makes it almost impossible to plan for slow periods or invest in long-term business financing.
4. Not Reported to Credit Bureaus
MCAs don’t help build credit history, since most merchant cash advance companies don’t report to credit bureaus. So, even if you pay off the loan on time, your credit score remains unaffected — unlike business credit cards or small business loans.
5. Lack of Regulation and Hidden Fees
Many merchant cash advance providers are online lenders operating in a lightly regulated space. Merchant cash advances are not governed by federal regulation or federal regulations; instead, they are regulated at the state level, which can result in less oversight and fewer borrower protections.
Contracts are often filled with additional fees, hidden fees, and unclear terms. Businesses may unknowingly pledge valuable assets or agree to future payment obligations tied to future revenue or commercial transactions.
Bank Account and Funding
When you apply for a merchant cash advance, you’ll need to provide your business’s bank account information. Once approved, the MCA provider deposits the lump sum directly into your bank account, often within a few business days.
Repayment is then automated: the provider deducts a fixed percentage of your daily or weekly sales directly from your bank account. This percentage, known as the holdback rate, usually falls between 10% and 20% of your daily sales.
Because repayments are tied to your sales volume, it’s essential to maintain a healthy cash flow. If your sales dip, the daily deductions can still put a strain on your bank account, making it difficult to cover other business expenses. Before accepting a merchant cash advance, make sure your business can handle the impact on your cash flow and bank account.
Credit Card Sales and Funding
Merchant cash advances are designed for businesses that generate a significant portion of their revenue through credit card sales. The MCA provider essentially purchases a portion of your future revenue at a discount, giving you a lump sum of cash upfront.
Repayment is then made by collecting a fixed percentage of your daily credit card sales, which means the amount you pay back each day adjusts with your sales volume.
This flexible repayment structure can be beneficial for businesses with fluctuating cash flows, as payments decrease during slower periods. However, it also means that during busy times, a larger portion of your revenue goes toward repaying the advance. For businesses with steady credit or debit card sales, merchant cash advances can provide fast funding, but it’s important to understand how this impacts your future revenue and daily operations.
The Debt Cycle: How MCAs Trap Businesses
While merchant cash advances offer quick access to capital, they come with significant risks—chief among them, the potential to trap businesses in a debt cycle. The high costs associated with MCAs, including steep factor rates and additional fees, can make it difficult for businesses to keep up with repayments.
If cash flow becomes tight, some business owners may feel pressured to take out additional merchant cash advances to cover existing obligations, leading to a dangerous cycle of debt.
This debt cycle can quickly spiral out of control, draining your business’s resources and making it nearly impossible to break free. To avoid falling into this trap, it’s crucial to carefully consider the pros and cons of merchant cash advances and explore alternative financing options that may offer lower costs and more manageable repayment terms.
By understanding the risks and planning ahead, you can protect your business from the hidden dangers of MCAs.
Why Bankruptcy May Be the Solution
If you’re trapped in a costly MCA agreement, you’re not alone. Many business owners are forced to take out a second or third merchant cash advance just to pay off the first — perpetuating a dangerous debt cycle that bleeds the business dry.
This is where bankruptcy — particularly Chapter 11 for businesses — can offer relief.
How Bankruptcy Helps:
- Stops collections immediately through the automatic stay
- Allows you to restructure or eliminate unsecured debts like MCAs
- Prevents merchant cash advance companies from taking daily payments from your business’s credit card sales
- Can help you protect business assets and keep operating while reorganizing your debt
- Lets you negotiate fairer terms with creditors, unlike the inflexible MCA contracts
In some cases, courts have deemed that merchant cash advances generally operate more like loans than actual sales of future sales, which makes them subject to bankruptcy discharge or restructuring. This interpretation can be powerful for businesses facing urgent financial distress.
A Better Path Forward
If you’re evaluating the merchant cash advance pros and cons, remember that while they offer quick access to funds, they can quickly lead to long-term financial instability. Compared to traditional loans, the risks are far greater — especially when cash flow challenges arise.
Merchant cash advances are often available to businesses with poor credit and do not require collateral, making them accessible but riskier than other financing solutions.
For small businesses considering a range of financing solutions, such as a business loan, invoice factoring, equipment financing, or a business line of credit, these options may offer better rates, clearer terms, and a path to building real business credit. Financing solutions such as SBA loans, which are backed by the Small Business Administration, typically offer lower interest rates and more favorable terms.
Invoice factoring can also provide quick cash for businesses in need.
And if you’re already stuck in a toxic MCA agreement? Don’t wait until it’s too late. Consult with a bankruptcy attorney who understands alternative financing options and can help you regain control of your business’s cash flow. Contact SB Legal in Los Angeles for a free consultation.
Bottom Line: MCAs are not just expensive — they can be dangerous. Weigh the merchant cash advance pros and cons carefully.
And if the cons have already caught up to you, bankruptcy may be the legal tool you need to reset, rebuild, and protect your future sales — and your business.
Frequently Asked Questions
Are merchant cash advances considered loans under the law?
Not always. Many MCA providers structure these agreements as “purchases of future receivables” to avoid lending regulations. However, courts sometimes interpret them as loans, especially if repayment terms resemble loan conditions. This legal gray area can impact your options during bankruptcy.
Can MCAs seize funds directly from my business account?
Yes. Most merchant cash advance agreements include an automatic withdrawal clause allowing the provider to deduct funds from your business’s bank account daily or weekly, regardless of your actual revenue during that period.
What alternatives to MCAs can help improve cash flow without the same risks?
Consider financing options such as business lines of credit, invoice factoring, SBA loans, or short-term traditional business loans. Traditional lenders, such as banks, typically have stricter requirements and longer approval processes compared to merchant cash advances. These alternatives typically offer better terms, more transparency, and less risk of destabilizing your daily operations.