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Merchant cash advances differ slightly from small business loans as these are cash advances. As the lender advances you a particular sum, they expect a percentage of your future sales in return. MCAs are often preferred due to their less strict requirements and easier qualification and approval rates.
A merchant cash advance (MCA) is a lump sum of capital lent against a business’s future sales.
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A merchant cash advance can be a boon for your company when your business is strapped for cash. It can help in the following ways:
Every business in the world goes through a phase when working capital gets stretched. A small business loan helps tide over those situations with ease without impacting operations or performance.
Small business loans do not allow lenders to have controlling interest in your business. You decide how to use the sum, how to operate and you can keep the profits without your lenders having a say.
Growing a business requires regular investment. A small short term business loan allows you to grow without reaching for your working capital for investment.
If you are eyeing a new market or opportunity, time is key. With a small business loan, you can quickly secure and set up shop at a new location allowing your business to grow at the speed you want.
Once an MCA is applied for, a contract is drawn where the advance sum, payback sum, and the holdback percentages are decided. Once the sum is credited, the contract is put into action and a percentage of the account receivables or credit card payments are paid back towards the MCA.
MCA paybacks are usually taken care of daily. From each day’s incoming revenue, an agreed-upon percentage is held back to pay for the MCA. This percentage is called the holdback percentage. Such holdback takes place until the MCA sum is paid in full. Usually, the control of the merchant credit card account is provided to the lender which eliminates the need for collaterals.
As the payback is organized as a percentage of the incoming sales, the payback amount is not fixed and might significantly vary based on the market conditions or season. In case of a slow sales season, the draw amount towards the MCA is lower. Such relative holdback is a benefit for the business owner since they do not have to pay off a certain amount no matter what the sales figures are.
A merchant cash advance is usually advisable when a business has healthy sales figures but requires some cash quickly. MCA holdback percentages can be pretty high hence the purpose for the loan has to justify the payback amount and percentage. A healthy credit card based cash flow is important to make daily payments and pay off the MCA quickly. MCA is often opted for by businesses that have a shoddy credit rating but do a lot of credit card transactions each month.
MCA costs can be pretty high. Based on the numbers from major MCA lenders, the payback usually ranges from 20% to 40% of the borrowed sum. The percentage is expressed as a factor rate such as 1.20 or 1.40. Sometimes small businesses confuse the holdback percentage with the factor rate. For example, a business might be paying 15% of their daily sales as the holdback but the total payback could be the borrowed sum + 30% of the sum. Hence it is important to understand the difference between the payback sum and holdback percentage before applying for an MCA.
The holdback percentage is calculated based on the following factors:
· Total sum of funds received as MCA
· Repayment period agreed upon by lender and borrower
· Monthly receivable income for the business
An example to clarify, let’s say you borrow $10,000 as MCA and the agreed-upon amount to pay back is $15,000. This means that the MCA has a factor rate of 1.50 or 50% of the total amount. However, if you agree to a holdback percentage of 20% that means your 20% of your monthly receivables will go towards your MCA repayment. If your business makes $10,000 each month in credit card sales on average, then $2,000 will be held back each month. The total repayment amount of $15,000 will be paid in approximately 8 months. The holdback percentage varies greatly depending on forecasted sales, average sales and the length of time the business has been operational.
MCA application process is much simpler as compared to other traditional business loans. This is one of the primary reasons behind its popularity with small business owners. Following are the steps a business can take to apply for an MCA:
· The application usually contains a simple form either one or two pages long depending on the lender. Your business tax ID, social security number and other relevant business information may be required.
· In order to establish monthly sales, you will need to provide a few month’s credit card details and/or bank statements.
· If all details and the monthly cash flow suffice, then the MCA can be approved within as soon as 24 hours.
· Sometimes opting for an MCA might require you to change your credit card processor. This is an inconvenient and at times cumbersome process. But in order to establish the holdback process, this is often a necessary step.
· Check all details carefully before signing the contract. Make sure to not mix up holdback percentage and repayment factor rate. Once the contract is finalized, you should get the amount within 24 hours.
· Once the money hits your business account, the process starts immediately. You can utilize the fund as planned and the percentage for holdback will be withdrawn from the credit card account.
To run a business successfully for a long time, building a solid credit history is extremely important. MCA does not help build credit history since it is not considered a loan and does not report the repayment details to credit bureaus. This is why a lot of business owners opt for small business loans as they often come at lower interest rates, offer more flexible repayment options and help build a credit history.
A good alternative to MCA is a business line of credit. It is considered a preferable option to taking care of equipment purchase, business expansion, large orders, marketing, inventory or payroll. This product comes with a range of 3 to 36 months of repayment options. Any business with more than 1 year in the business and an yearly revenue of $100,000 or more can apply for a business line of credit.
Loans such as a business line of credit report good repayment history to credit bureaus and fall under federal lending jurisdiction. This helps build a good credit rating over time, unlike a merchant cash advance.
The primary reason behind the popularity of a merchant cash advance is the quick disbursal and ability to repay from the income flow of the business. It is a good option for businesses that get a lot of payments via credit card or have other streams of income hitting the business account. Since this is not a loan, the eligibility criteria and approval process is fairly simple. Upon application and approval, the amount is usually credited within 24 hours.
The risk evaluation and credit check done for MCA is different from a bank’s credit check for small business loans. Their primary focus is on the monthly bank statements and credit card receipts to ascertain if your business has sufficient monthly cash flow to repay the cash advance in time.
While MCA has certain advantages, a small business loan could be a good choice due to the high-interest rates charged by MCA lenders. In certain cases, the annualized interest rates for cash advances can reach up to triple digits. Businesses that opt for an MCA are usually very young companies or companies that do not have a good credit history. But as long as they have a steady stream of credit card payments each month, they are eligible for an MCA. It is important to understand your reasons behind opting for an MCA, how you would utilize the funds and what your return on investment would be.
Once you fill the online application form, one of our agents will contact you shortly and present to you a number of options and products based on the business details and requirement you put down in the form. You can take an informed decision on which options suits your needs and business the best. Remember that we do not charge any fee for this service and you can cancel correspondence at any time.