Merchant Cash Advance vs Line of Credit: Which is Best?

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When faced with cash flow challenges or hyper-growth targets, businesses have an assortment of options to secure the financing they need to meet their goals. Two popular options are a merchant cash advance or a line of credit. In this guide, we’ll compare how these types of financing stack up and which is best for your business.

Key Differences Between a Merchant Cash Advance & Line of Credit

In general, a merchant cash advance and a business line of credit have many similarities. Both types of financing allow you to access a large amount of capital that can be used to grow your business. However, there are also many differences you should be aware of.

Benefits of a Merchant Cash Advance

A merchant cash advance, or MCA, is a great option for businesses that lack a strong credit profile that’s used to qualify for most traditional forms of financing. Instead of scrutinizing your credit rating, funders will instead focus on your business’s history and revenue. The more lenient requirements for MCAs make them attractive for many business owners looking for financing.

Because merchant cash advances use your business’s revenue as a form of collateral for your financing, there is no additional collateral or personal guarantee needed to qualify. This can be especially beneficial for business owners who don’t have significant assets and want to keep their personal finances away from their business.

And if you need funding for a variety of expenses, an MCA doesn’t put restrictions on how you can use your funds – allowing you to operate your business independently.

Similar to a line of credit, some MCA funders can expedite your approval process so you can obtain funding within a few days or weeks.

Lastly, the payment terms of a merchant cash advance can be favorable for many business owners. Because your payments are depending on your business’s revenue, this lessens the chances of you becoming “underwater” on your financing. 

Benefits of a Line of Credit

A business line of credit can be a terrific option for businesses that have a strong credit score and want a more affordable financing option. Because you will only pay interest on the amount that you draw, this can be more cost-efficient than most lump sum financing options like a traditional term loan. Additionally, if your business lacks significant revenue, a line of credit will be the better option because it relies more on your credit rating and less on your business’s revenue.

This type of financing is one of the fastest options with approval times taking as little as minutes because of the simple application process that more heavily weights your credit score.

Finally, if you’re a new business looking to build your credit history, a business line of credit can be a great stepping stone to start improving your business’s credit, opening the door to future financing options.

What is a Merchant Cash Advance

A merchant cash advance is a distinctive type of financing that varies from most traditional financing options. Instead of relying on credit scores and collateral, a merchant cash advance focuses on your business’s card sales and overall history. This opens the door for business owners who have less-than-perfect credit or lack of assets to back their financing.

It’s important to note that an MCA is not a loan, and therefore has no set interest rate. Instead, a factor rate is applied to the amount of your financing that can help you calculate the interest rate. In most instances, the factor rate can range from 1.2x to 1.4x the amount of capital you’re seeking. For example, if you’re looking to secure $100,000 – the total repayment amount would equate to anywhere from $120,000 to $140,000 depending on your circumstances and the funder you work with.

The repayment terms also vary from traditional financing options like a business loan. Instead of paying a fixed amount each month, you’ll pay a varying amount depending on your card sales. This percentage can vary depending on your agreement. For example, you might agree to pay 10% of your weekly card sales towards your financing. If you generate $50,000 in card sales for the month, you would pay $5,000 towards your financing. However, if you only generate $25,000 in card sales, you would only pay $2,500. As you can see, the flexible repayment terms are welcomed for businesses facing cash flow obstacles. 

A Merchant Cash Advance is Best for Your Business When:

  • You have a strong business history with stable annualized revenue.
  • Your business lacks the credit score to qualify for other types of financing.
  • You do not have (or wish to supply) additional collateral to back your financing.

What is a Business Line of Credit

A business line of credit acts similarly to a business credit card. Once approved, you’ll get access to a maximum amount of financing defined by your funder. This amount of financing revolves as you take draws and make payments towards your balance. This gives you flexibility with your financing and offers several benefits. Interest rates on a line of credit will vary from funder to funder and can range from anywhere between 8% and over 50%.

For example, if you are approved for a line of credit of $100,000 – you can opt to draw just $50,000 to purchase inventory and you’ll only pay interest on the $50,000.

You’ll only pay interest on the amount you draw, rather than the entire amount you are approved for. This can make your financing more affordable than a traditional business loan or other common types of financing. It’s important to note that there may be additional fees attached to a line of credit such as an annual fee, origination fee, and others that should be considered when applying.

Types of Business Lines of Credit

There are two main types of lines of credit, secured or unsecured. The key difference between the two is the additional collateral supplied. 

If you want the best rates and terms you can get, a secured line of credit will offer more favorable terms, but you’ll need to attach additional collateral to your financing.

If you don’t have access (or wish to supply) additional collateral, an unsecured line of credit is the option better suited for your needs. While the rates and terms won’t be as favorable, you can still secure the financing you need to grow your business.

A Line of Credit is Best for Your Business When:

  • You have a reasonable credit score and you want more affordable financing with straightforward terms.
  • You need financing quickly.
  • You don’t have a stable history of revenue.

Which Type of Financing is Right for Your Business?

When deciding which type of financing is best for your business, it’s important to remember that there is no one-size-fits-all option. Each business is unique and has different needs and requirements that could make one option better than the other.

With that said, if you operate a business with stable card sales and need capital to grow your business, a merchant cash advance is worth exploring. While you may pay a higher interest rate on your funding, it’s great for businesses that don’t qualify for traditional lending options. Additionally, some funders offer a variety of products to make your financing more beneficial. For example, Specialty Capital offers industry-leading prepayment discounts that can drastically reduce the cost of your financing as well as a multi-draw advance product that acts similar to a revolving line of credit that can be used as needed.

If you’re a business with a strong credit score but lack significant revenue, a line of credit is often the better choice. With straightforward terms and a simple application process, you can get approved for funding within minutes. 

If you’re not sure where to get started, get in touch with Specialty Capital today and we can help you explore all of your options and find the solution that’s best for your business.

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