Merchant financing is a way for a business to get a lump sum of funds, with repayments generally determined by a percentage of the company’s sales. This source of funding tends to be easier to get as eligibility criteria are less strict for things like credit score and time in business. The tradeoff, however, is that it tends to be much more expensive than traditional financing methods.
Key Takeaways:
- Merchant financing can be expensive, with annual percentage rates (APRs) often exceeding 100%.
- Repayments are calculated based on a percentage of sales and must generally be made on a daily or weekly basis.
- Compared with traditional loans, you have a better chance of getting approved for merchant financing even with bad credit, low time in business, or low profit margins.
Types of Merchant Financing
Merchant financing can come in several different forms, as it typically describes a form of financing in which payments are collected either through a company’s payment processor or as a percentage of its sales. Merchant cash advances (MCAs) and revenue-based financing are two types of funding that can be considered merchant financing.
- With a merchant cash advance, a company can get an advance on its credit card sales.
- Revenue-based financing structures payments such that payment amounts are calculated based on a percentage of sales made in a given time frame.
How Merchant Financing Works
Although merchant financing comes in several different forms, the general process and timeline for each are similar. Below, we’ll go through the lifecycle of merchant financing, from the initial application to the repayment of the funds. Where applicable, we’ll also point out nuances involved with specific forms of merchant financing, such as MCAs and revenue-based loans.
Step 1: Choose a Lender & Complete a Loan Application
It’s always a good idea to shop multiple lenders to get the best loan for your needs. To get an estimate of the rates and fees applicable, you’ll usually have to submit a formal loan application, something that can often be done online in a matter of minutes from each lender’s website.
Step 2: Provide Documentation to the Lender
Once you’ve decided which lender to proceed with, you’ll usually be asked to provide additional documentation. This is done to verify certain aspects of your business and allow for a formal review of your credit and business finances.
Step 3: Review Loan Terms
If you meet the lender’s requirements for financing, you’ll be issued a loan approval with paperwork outlining the rates and terms of the funding request. It’s important that you review these items to ensure no discrepancies. At a minimum, we recommend that you double-check the following items:
- Funding amount
- Rates and fees
- Repayment amount
- Repayment schedule
- Payment methods
- Prohibited uses of funds, if any
If the loan terms are accurate and agreeable to you, you’ll need to coordinate the signing of any final loan documents with the lender, which will indicate your acceptance of the financing terms.
Step 4: Verify Receipt of Funds
Once you’ve signed the final paperwork accepting the terms of financing, you’ll need to verify receipt of the funds in the business bank account you’ve designated. In most cases, funds can be made available within 24 hours.
Step 5: Begin Repayment
The final step involved with merchant financing is paying back the proceeds. This will be dictated by the financing agreement you signed. Daily or weekly payments may be required and can be based on your future credit card sales or overall sales revenue, although some forms of merchant financing can have payments structured based on historical sales revenue.
Pros & Cons of Merchant Financing
| PROS | CONS |
|---|---|
| Has fast approval and funding speeds | Typically requires your company to have strong revenue figures |
| Has easier qualification requirements | Is a very expensive form of financing |
| Is less likely to strain cash flow as payments are based on historical or future sales | Is not a common form of financing and can be difficult to find |
| Often requires frequent daily or weekly repayments | |
Who Should Consider Merchant Financing
Merchant financing can be useful, but because of how expensive it can be, we recommend considering it only in a handful of circumstances.
You have been turned down for other loans
Traditional loans can provide more competitive rates and terms. However, most lenders also typically require good credit and a track record of performing well financially. If you have a low credit score, are seeking funding as a startup, or have low revenue, you may have trouble getting a small business loan. If this is the case, then merchant financing can be a good last resort for getting the funding you need, although you should ensure you receive a sufficient return on investment to offset the financing costs.
Your business income is unpredictable
Most traditional loans have a fixed payment amount you must make, which can put a strain on your cash flow if your income is inconsistent throughout the year. Merchant financing, on the other hand, often has repayment amounts that are based on a percentage of your sales revenue.
Your company relies heavily on subscriptions or credit card sales
Revenue streams for companies that rely heavily on a subscription-based model can leave the business vulnerable to fluctuations in income should a large portion of the user base decide not to renew. Since merchant financing has repayment amounts calculated by using a percentage of sales, repayments should not negatively impact the company’s cash flow even during slower months.
Additionally, some forms of merchant financing also require a certain volume of credit card sales to be eligible, regardless of other income streams you may be receiving.
Rates, Terms & Qualification Requirements
Specific figures for rates, terms, and qualifications will vary based on the type of merchant financing you choose and the lender providing the funding. We researched multiple companies and have provided below estimates for what we found to be fairly typical.
Typical Rates & Terms | |
Estimated APR | 40% to 100%+ |
Funding Amount | Up to $10 million |
Repayment Term | Varies |
Funding Speed | As fast as 24 hours |
Typical Qualification Requirements | |
Time in Business | 6+ months |
Revenue | Varies |
Gross Margin | 50% or more (for revenue-based financing) |
Alternatives to Merchant Financing
Merchant financing is very expensive, so we recommend considering it as a last resort. The funding options below can provide more flexible terms and lower rates while still allowing for a wide range of business-related uses:
- Small business line of credit: This provides flexible access to funds as needed. Repayment terms typically last up to 24 months with our picks for the best small business credit lines, typically providing for APRs starting around 5%, credit score requirements as low as 500, and time in business of as little as just 3 months.
- Small business credit card: This can be issued on the basis of your personal credit score and is ideal for use on daily or recurring purchases. APRs generally range from 20% to 30%, although you can pay your statement balance in full to avoid interest charges. Additionally, many of the best small business credit cards contain rewards programs to reduce the effective cost of running your business.
- Personal loan for business funding: If you’re unable to get a small business loan because of your business credit, you can use your personal credit to get a personal loan for business funding. The best personal loans for business funding typically have starting APRs under 10% with a maximum funding amount of around $100,000.
Frequently Asked Questions (FAQs)
No. While you do have to repay the funds you receive, it’s not technically considered a loan since you’re borrowing against your future sales proceeds. Repayments are generally calculated by a percentage of your sales, so the more revenue you earn, the more quickly the funds will be fully repaid.
We recommend merchant financing as a last resort. This is due to the high cost associated with this type of funding—it’s not unusual for APRs to exceed 100%. Many traditional loans, by comparison, often have APRs under 15%.
It’s possible to get merchant financing in as little as one business day. However, it could also take as long as several weeks. This depends on the type of merchant financing you’re seeking, the lender you choose, and the complexity of your business finances.
Bottom Line
Merchant financing can provide your company with funding for nearly any business-related purpose. Additionally, repayments are less likely to put a strain on your cash flow as they’re often determined by a percentage of your sales revenue. Although qualifying for merchant financing can be much easier than traditional loans, it tends to be much more expensive. For that reason, we recommend you consider merchant financing as a last resort and also look into alternative financing options before signing on the dotted line.
