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Why You Should Avoid Merchant Cash Advances

There are some incredible costs associated with running a business, and when the economy dips or when an industry is in a state of flux, a business owner might decide to consider a merchant cash advance. However, care must be taken with this method of funding since the costs associated with a merchant cash advance tend to resemble those of payday loans.

Expect High Fees

Although some business owners might feel that the cost of this type of funding is worth the price due to the convenience associated with these loans, the interest rates tend to be incredibly high and may result in further cash flow problems down the road. Cash advances connected to merchant accounts may require interest payments around 25 percent, which is much higher than a traditional loan.

Recession Fuels Growth

Despite the financial cost of these loans, merchant cash advances have become incredibly popular over the past decade because of the worldwide economic recession and the incredible tightening of lending habits by major lenders. Today there are hundreds of millions of dollars lent to businesses in the form of merchant cash advances by alternative lenders and credit card processing outfits, and the industry has seen incredible growth despite the economy’s recovery.

Lack of Regulations

One of the reasons why financial advisors aren’t keen on merchant cash advances is because of the lack of regulations surrounding this type of funding. Cash advances through merchant accounts are designed in such a way that they escape the regulations that guide traditional bank lending. This means that a business may experience dramatically higher interest rates because this type of loan isn’t guided by federal usury laws that prevent high interest charges.

Recent Legal Issues

Although there are no federal rules yet that guide merchant cash advances, a few notable court cases have shed light on the potentially usurious methods used by lenders who provide merchant cash advances. In one case, the presiding judge suggested that the merchant cash advances provided by the company named as a defendant in the suit were called “loans” by the company so that meant that federal usury guidelines should have applied to the lending practices.

Although merchant cash advances occasionally offer businesses the opportunity to obtain emergency funding, they are a type of loan that requires immense scrutiny. A borrowing business should always consider the full ramifications and payments required of a merchant cash advance through a credit card processing company or a non-traditional lender before applying with a provider of these loans.

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