A merchant cash advance (MCA) can provide access to capital for your small business. However, this alternative form of business financing can be incredibly expensive. As a result, the merchant cash advance default rate can be much higher compared to other types of business loans.
If you’re thinking about using an MCA to fund your business, here’s what you need to know about the default rate, what happens when you default, and how to avoid it.
What Are the Default Rates on Merchant Cash Advances?
Defaulting on an MCA can trigger aggressive collection attempts by the provider and possibly even a lawsuit. Here’s what you need to know about how default is defined and the overall merchant cash advance default rate.
How Default Is Defined in MCAs
A merchant cash advance provides capital in exchange for a cut of your debit and credit card sales over a set period of time. Depending on your MCA agreement, you may need to make payments to the MCA creditor on a weekly or even daily basis.
Unlike other types of loans, which may give you several months to get caught up on missed payments, you may be considered in default on an MCA after just a single missed payment.
You may also be considered to be in default if you divert receivables to minimize payments or breach your contract’s terms for any other reason like stacking multiple MCA’s.
Industry Statistics
There’s no central database that tracks merchant cash advance default rates. However, one financial technology company that connects investors with business owners through MCAs shows an average default rate ranging from 8.5% to 10.5% on its platform.
In contrast, the delinquency rate for traditional business loans sits at 1.16%, according to data from the Federal Reserve Bank of St. Louis for the third quarter of 2024.
Delinquency and default are two different things. However, delinquency for small business loans typically occurs after one missed payment, which is also true for MCAs and default.
Why Default Rates Matter for Borrowers
The default rate for a loan can be an indication of how burdensome the payments can be. Of course, the default rate for MCAs doesn’t necessarily mean that you’ll struggle to keep up with payments. After all, roughly 90% of MCAs don’t enter default.
However, a high default rate should still give you a reason to think twice about taking out this particular type of debt, particularly if you qualify for other forms of financing.
More specifically, take some time to think about how daily or weekly payments may impact your business and whether giving up a portion of your future sales is sustainable for you.
Why Do Businesses Default on MCAs?
There are many different factors that influence default rates on MCAs, including the following:
- Economic conditions: Market volatility and economic downturns can put pressure on your sales, especially if your products or services are less attractive to consumers during times of economic challenges. While your payments will typically go down if your sales do, you’ll have less cash flow for working capital and other needs.
- Industry and revenue patterns: Certain sectors are more vulnerable to sales volatility than others. If your business revenue tends to be cyclical, with both high and low months, MCA payments can complicate your financial situation and make it harder to keep up with expenses.
- MCA terms: MCAs typically charge high factor rates and require daily or weekly payments, giving you less time and flexibility to keep up with your repayment if your business is struggling.
- Poor financial management: A lack of cash flow planning can make it difficult to keep up with your MCA payments, especially if your sales or income are less predictable.
What Happens When You Default on an MCA?
Defaulting on an MCA can create a variety of problems for you and your small business. Here’s what to know about some of the consequences of default and steps you can take to protect yourself.
Consequences of Default
Some of the ramifications of defaulting on an MCA include:
- Additional fees and penalties: These added costs can exacerbate the repayment burden.
- UCC liens and seizure: When you take out an MCA, the creditor will likely file a UCC lien notice called a UCC 1. This can also against your business assets. This is often a blanket lien, giving them the right to seize your business assets to satisfy the debt.
- Damaged credit: In addition to a UCC lien, the MCA company may also require a personal guarantee, which means that you’re personally liable for paying the debt if your business can’t. If you don’t, the MCA provider could report the default to the credit bureaus, damaging your personal credit and limiting your access to future credit opportunities.
What an MCA Lawsuit Involves
In addition to the consequences outlined above, merchant cash advance companies may also pursue legal action to recover payments. If you’re being sued over unpaid business debt, like MCA’s, you may be able to negotiate a settlement before it goes to trial. It is best to use an experienced business debt attorney who can guide you through the legal complexities of dealing with an MCA when sued.
However, if it does go to trial and the judge rules against you, or you do not file the appropriate paperwork in Court timely, it could result in garnished revenue from your business bank account, asset seizures, and other actions based on the details of the case.
Steps to Take if You Default
If you miss a payment on your MCA, it’s important to act quickly to protect yourself and to work out a solution. Here are some steps you can take:
- Communicate with funders early: Instead of ignoring the problem, reach out to the MCA provider to explore some solutions. Communicating early on in the process can potentially help protect you from some of the worst consequences.
- Negotiate a settlement: If possible, try to negotiate a settlement with your funder to pay less than what you owe, often in a lump sum. In many cases, merchant cash advance providers will file UCC liens and a lawsuit. While you can technically negotiate on your own, it can help to do so with a bst legal help to maximize your savings.
- Hire a debt relief lawyer to defend against lawsuits: If your MCA funder has filed a lawsuit against you, an experienced debt relief attorney can ensure that your rights are protected and take some of the burden off of you throughout the legal process.
How to Avoid Defaulting on a Merchant Cash Advance
If you haven’t yet defaulted on an MCA but you’re concerned about that possibility, here are some steps you can take to make the most of your situation and avoid missing a payment.
Proactive Financial Strategies
Being proactive about your debt can help minimize the chances of running into trouble with your MCA. Options include:
- Monitor cash flow: Keeping an eye on your cash flow, including projections, can give you a sense of when to make adjustments to your spending to better manage your MCA payments.
- Build an emergency fund: As with a personal rainy day fund, a business emergency fund can help you weather unexpected downturns without severely impacting your MCA payments and other financial obligations. Some experts recommend setting aside three to six months’ worth of business expenses.
- Diversify revenue streams: Diversifying your business can help you reduce your reliance on a single source. That way, your business won’t be as negatively impacted if one revenue stream experiences a hiccup.
Debt Management Options
If you’re already in financial trouble and worried about what might happen if you default on your MCA, here are some potential debt management options you can pursue:
- Restructure repayment terms: In some cases, you may be able to restructure your repayment terms with the MCA funder. This process can be challenging, but it’s in the provider’s best interest to keep getting paid.
- Explore debt consolidation: Depending on your credit score, you may be able to apply for another business loan to consolidate your MCA debt. With a term loan, you might even be able to switch to monthly payments, which are less onerous. Just be careful with MCA consolidation firms, which can charge exorbitantly high costs and do more harm than good.
- Seek professional guidance: If you’re interested in pursuing debt settlement, consult with legal experts, such as the award winning business debt law firm Tayne Law Group, to help you get insights and personalized guidance.
The Bottom Line
Because of how they’re structured, merchant cash advances tend to have incredibly high default rates compared to other business financing options. As a result, it’s best to research and compare other options before taking one out.
That said, if you’ve taken out an MCA and you’ve either defaulted on payments or you’re worried you might soon not be able to make the payments on your MCA, it’s important to take steps to protect yourself and your business. In particular, if you’re thinking about negotiating a settlement or you’ve been sued by your funder, it’s crucial that you seek the help of an experienced business debt relief attorney. MCA matters are very complex legally and the right legal advocate for your business can make the difference in the businesses survival.
At Tayne Law Group, we offer a free phone consultation to get to know your business and its challenges. We’ll discuss the services we can provide, including a strategy that makes sense to help you resolve your MCA debt. Call us today toll-free at (866) 890-7337 or fill out our short contact form. There’s no obligation and we will never share or sell your information.
