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Merchant Advance 101: A Quick Primer on Cash Advance Transactions - Guest Author

Wednesday, April 29, 2009

Anyone with a child in girl or boy scouts knows that the first rule of scouting also applies to business: Always be prepared. As an entrepreneur, you’ve probably learned this lesson pretty quickly - effectively using the resources at your disposal can separate the successful business women from the rest of the pack. With loan default rates at record high levels and credit becoming more difficult to obtain, many entrepreneurs are turning to creative alternative financing solutions like merchant cash advances in order to make ends meet.

Business cash advance transactions are similar to loans in that they involve an application process and a payback period, where fees are charged in addition to repayment of the advance amount. You need to accept credit cards to qualify for an advance - repayment is transferred directly to the provider as a portion of your daily credit card sales. Some providers require additional qualifications, such as a verifiable financial history, existing property leases, or a minimum credit score to qualify. Merchant advances are much easier to obtain than traditional loans - some providers even boast that they approve over 90% of applicants.

Is a merchant cash advance a good idea? What should you look for in a provider? More importantly, what should you look out for? Here’s a brief primer on business cash advance transactions, gleaned from the experiences of real business owners:

FIND A GOOD PROVIDER
All providers are known by their reputation. Before signing a cash advance agreement, make sure to check out your prospective lender. Here are a few places to look:

  • The Better Business Bureau: Check out the BBB website to find out if any complaints have been filed.
  • The Federal Trade Commission: Since merchants can also file complaints against providers, the FTC website is another great place to check references.
  • The North American Merchant Advance Association is a self-regulated organization of advance providers and their website provides information for consumers about industry standards and practices, and allows you to access complaints against providers.

In addition to checking these sites, you should also ask for references directly from a provider, and do a quick online search for more information. Be wary of providers that ask for an application fee, or those that guarantee automatic approvals. Providers with a “clean” record on all these counts are the best choices.

AVOID RISKY AGREEMENTS
Checking references is a great way to make sure your provider has a good reputation, but it won’t shield you from a potentially risky agreement. You’ll need to make certain that your individual service agreement is fair. Here are some “red flags” that a service agreement should be renegotiated:

  • High fees and costs. Many providers charge monthly minimum amounts where you’ll pay a certain amount even if your credit card sales cannot “cover” the agreed upon amount. If your sales drop below a certain level, you may also be responsible for penalty fees and other charges.
  • Merchant account compatibility. Most companies have agreements with several different merchant services account providers. If a company is asking (or requiring) that you switch in order to obtain an advance, be careful - the long term costs associated with switching might be higher than you can afford.

WHAT TO LOOK OUT FOR
While high fees and strict service agreement provisions sometimes cannot be avoided, there are a few things you should definitely avoid:

  • Balloon repayment. Similar to a loan default provision, balloon repayment makes a borrower responsible for the entire advance balance at a certain date or if sales decline below a certain amount. Be extremely cautious if you are agreeing to such a term.
  • Collateral. Some providers require that a business pledge equipment or property, or allow access to a business checking account to cover payments that aren’t transferred correctly or on time. This is like writing a blank check to the provider- try to avoid these kinds of arrangements if you can.
  • Flexible rates. Sounds good in theory, but usually the rate only “flexes” in one direction: higher. Avoid any agreement that will be too difficult to repay.

A merchant cash advance can be a beneficial source of alternative financing for businesses that need cash for any reason. Make sure you choose a reputable provider and sign an agreement you are comfortable with.

About the author:
Betsy Brottlund is the Director of Marketing at Resource Nation, an online resource that provides expert advice on purchasing and outsourcing decisions from payroll services to phone systems for entrepreneurs and business owners. She frequently contributes to several sites that offer tools and advice for entrepreneurs, including Dell and BizEquity. Previously a communications consultant, Brottlund has worked with start-ups to Fortune 500 companies managing their marketing and communication programs.

Resource Nation provides tools to help start and grow your business and are used on other online business communities such as Entrepreneur.com, StartUpNation.com, and Ladies Who Launch.