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Loan-to-Own an Option When Defaulting on a Merchant Cash Advance Loan

For years, a merchant cash advance was reserved for business that earned its profits mostly from credit and debit card transactions. When more businesses became more unqualified for loans following the fallout of the Great Recession during the late-2000s, other businesses that didn’t rely heavily on sales that were paid for with plastic began taking advantage of merchant cash advances. Many small businesses, especially, turned to merchant cash advance loan, sometimes taking on three-digit interest rates. With rates so high, it was no surprise when merchants began defaulting on merchant cash advance loans. But, what happens when you can no longer make the payments? Read on to find out what are your best options.

What is a Merchant Cash Advance

Merchant cash advances are types of asset-based funding and they work differently from loans. When a business gets an advance, the provider gives it an upfront cash payout in exchange for a sum of its future sales or the merchant gets an upfront sum that is repaid by remitting fixed daily or weekly debits from its bank account until its paid in full. Many small businesses embrace this type of financing because it allows them get money in about a week, it doesn’t require any collateral, and they often get advances with less than stellar credit.

What Happens When Payments Can’t Be Made

Inconsistent cash flows and unforeseen expenses can lead you to defaulting on a merchant cash advance. If a business can no longer survive, it may choose to shut down. Most often, since the lender purchased your ongoing, future sales and you no longer have any cash flow, it won’t have a way to collect any further payments. Since a merchant cash advance is a type of financing instead of a loan, the lender cannot report you to a collections agency. However, if this is the direction you choose, before you close up shop don’t take these actions:

  • Switch bank accounts or interfere with the lender’s ability to take ACH payments
  • Change merchant services processors
  • Reduce your bank account revenue by taking out cash
  • If you take any of these actions, the lender could accuse you of breach of contract and take you to court.

The Loan-to-Own Option

The loan-to-own investment strategy also is an option. Loan-to-own is when an investor acquires the debt of a distressed company at a deep discount. Then, the investor can push the company toward a bankruptcy filing, which then allows the investor to turn its debt into a controlling equity stake in the business. If the business turns itself around and avoids bankruptcy, the investor can sell the business’ debt for a significant profit. Another way this works is if an investor offers debt financing to the distressed company. This type of financing is often better for the investor. The investor ends up gaining significant influence over the management of the company because the terms often include granting the investor a controlling equity stake in the business if it goes bankrupt.

One Other Alternative

On the other hand, if money is too tight but you want to hold on to your business, ask for a deferment or try to negotiate the payments with the lender. If the lender doesn’t accept your proposed, detailed debt schedule, then you will have to stop the lender’s automatic withdrawals. This will be a contract breach, however, lenders have limited rights and collateral to work with to try and get what they are owed. In many cases, if you can get someone to negotiate on your behalf, you can get the merchant cash advance payments settled with smaller payments while still maintaining your business.

In Conclusion

A merchant cash advance loan has its advantages. It puts cash in merchants’ hands quickly, it doesn’t require collateral, and it often doesn’t matter if you have poor credit. Unfortunately, it is not difficult to get overextended. Defaulting on a merchant cash advance loan can seem overwhelming. If you are in this situation, think about the positives and negatives before you make a decision.

First American Merchant (FAM) helps move businesses forward. It offers many types of financing for small and big businesses, including small business loans, that can help any business owner achieve its dreams and goals. It works with businesses with no or bad credit and its online application process is simple and seamless.