Cash flow fluctuations are a common challenge for all businesses. In fact, a whopping 82% of small businesses fail due to cash flow problems.
Trucking companies are especially susceptible to cash flow issues, as high operational costs and long payment turnarounds cause pressure from all sides. When cash is tight, you may find yourself considering a merchant cash advance (also called an MCA) to help get you through as you wait for invoices to be paid.
Just like every other loan option, you’ll want to make sure you know exactly how MCAs work and any potential risks before you apply. In this article, we’ll explain exactly what MCAs are, what they can do for your business and any hazards that may impact your business’s financial health.
What is a merchant cash advance?
A merchant cash advance is a short-term loan given to your business based on your sales history and projected future sales. This means a lender will look at your recurring credit and debit card transactions to determine your average income and what you can reasonably afford to borrow. The lender then provides a lump sum that instantly becomes part of your cash flow.
As soon as you receive the advance payment from your MCA loan, you agree to allow the lender to withdraw payments directly from your bank account so you can immediately begin paying it back.
Why choose an MCA loan?
One attractive feature of merchant cash advances for trucking companies is that the loans are largely unregulated. This means your company is likely to receive an MCA quickly after applying and without jumping through very many hoops. For trucking companies especially, this type of immediate short-term capital can be incredibly helpful at those crucial points when cash flow is limited.
How is an MCA loan different from a traditional loan?
While traditional loans look at collateral like real estate and other hard assets, merchant cash advances are tied to your future sales transactions. Your payback timing and rate are linked directly to your credit and debit transactions.
Lack of regulation makes MCA loans easy to acquire, but it also means the payback structure and rates can have a wide range, on average anywhere from 14 to 50 cents on the dollar. The term of the advance may also vary more than with a traditional loan. Regardless of what is considered average, the math remains directly tied to your sales, so it’s especially important that you understand the payback structure before accepting the MCA.
What are the risks of merchant cash advances?
Unregulated markets cut both ways. In exchange for speed and flexibility, you trade risk. Below you’ll find a few potential pitfalls you may encounter with merchant cash advances for trucking.
High rates. MCA loans are considered high risk, as lenders are banking on future sales, and the future is difficult to predict. Because of this, merchant cash advances tend to come with high fees, called factor rates. These aren’t traditional interest rates, but rather a decimal rate that applies to your original loan amount rather than the remaining payback amount. Factor rates tend to run between 1.1 and 1.5 (meaning you’ll pay back anywhere between 110% and 150% of the amount you borrowed).
Increased payback amount. If it takes you longer to pay back your loan than you anticipated, you may rack up additional fees on top of your factor rate. This could mean you’ll end up paying back far more than you originally borrowed, which may push you further into debt and financial hardship.
Additional cash flow problems. Many MCA lenders require direct access to your bank account so they can take out automatic payments daily. This makes paying back your merchant cash advance easy from a logistical standpoint, but it may also put more strain on your cash flow — precisely the problem the loan was meant to fix.
What happens if you default on a merchant cash advance?
If you’re unable to pay back your MCA loan, the lender will likely pursue litigation to seize whatever assets you have. They could take collateral you currently own, like equipment or property, or the lender can seize future sales. Either way, defaulting on an MCA loan is incredibly serious and could land your business in financial peril.
What is a ‘confession of judgment’?
It has become common for MCA lenders to include a confession of judgment (COJ) as part of their agreement. Be very wary of these, as a confession of judgment effectively grants the provider of the MCA a quick path to a judgment without having to pursue litigation. This basically means they can avoid normal court proceedings in the case of a dispute or lawsuit. It’s often a good idea to consult with legal counsel before accepting an MCA that includes a COJ.
Explore other financial options with RTS Financial
It’s important to know the facts before accepting an MCA, but what if you already have one? Monitor your bank account closely and be sure there is always money for the withdrawal. If you need additional cash flow to help repay the advance, talk to an RTS Financial expert. We offer a number of financial services for trucking companies that can increase your cash flow, ensure on-time payments and help you avoid a financial bind.