While merchant loans have been heavily criticized by traditional lenders, they offer a convenient way for small business to obtain the capital they need when banks are turning them down.
Opponents of these new forms of business financing claim that they are nothing but loan sharks that are prying on desperate business owners while charging exorbitant fees. In many cases fees that compare to 200% or more in traditional interest rates.
Proponents say that you can’t compare them with traditional loans. Merchant lenders rather advance cash in return for a share of future credit card charges. By only collecting a fixed portion of monthly credit card sales business owners don’t need to worry about having to pay back the loan when the business is slow. But when business is better than the loan is paid back faster.
So how does it work. Let’s say you are a small business owner that runs a dry cleaning business. You find yourself in a situation that you urgently need a loan of $20,000 to cover working capital needs. Banks have turned you down, as they only tend to lend money when you are flush with cash and you don’t need any. In times of need it is almost impossible to find a traditional loan.
As an owner of a retail store you don’t have many options. Your typical sources of working capital is the cash flow of your business and the credit lines you have with your vendors. If one of these sources shrinks, you are quickly running out of options.
The merchant lender however looks at your monthly credit card sales. If your sales are sufficient they will advance you for example $10,000 for a fee of maybe %25. In total you will pay $12,500 to the lender over time as a portion of your future sales.
Now the advance provider wants to make sure that the portion of future credit card sales he is taking of the top is not hurting your business and allows for enough cash flow for you to continue to run your business. Typically he would try to limit his take out to no more than 10% of your monthly sales. In our example that means that you would need to have average monthly sales of $20,000 to cover for the advance.
It is in their best interest to make sure that you are doing better than expected. The fees they charge are fixed, so if you are able to pay back the loan in a shorter time period their return grows. For example if you triple your sales, you will pay back the loan in a third of the time.
On the other hand if your business slows down because the economy took a nosedive suddenly, your revenue might drop to $5,000 a month. You would still only pay 10% and you would now take 4 years to pay back the advance.
While it may be true that there are “cheaper” alternatives available to some business owners, it is also true that merchant loans offer a safe and convenient option for most companies.
If your business needs a financial boost to grow, why not consider taking out a merchant loan? Merchant loans can be used to purchase equipment, expand inventory or any other purpose that will expand your business sphere of influence.
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