Using a Merchant Cash Advance for Payroll: What Business Owners Need to Know

When your business revenue is down, and payroll is due, you might be looking for another solution to get you by. A merchant cash advance (MCA) often seems like an easy answer. You can get approved quickly with minimal eligibility requirements, and the money is in your account within days. But using an MCA to cover payroll comes with major risks, and it often puts you in a worse position than you started in.

If you’re considering using an MCA for payroll, read this article to learn when it might make sense, the risks involved, and some alternatives to consider.

What Does It Mean to Use an MCA for Payroll?

An MCA, unlike a traditional bank loan, is a type of alternative business financing where a funder provides a lump sum of money. In exchange, the business repays the money through daily or weekly debits, often as a percentage of future sales.

Unlike traditional business financing, MCA funds come with virtually no restrictions, meaning you can use the money for anything, including payroll. Many other business owners use it to buy equipment, cover inventory gaps, or fund marketing.

Is It a Good Idea to Use a Merchant Cash Advance for Payroll?

Just because you can use an MCA to cover payroll doesn’t mean you should. In fact, it’s rarely a good option long-term, and it’s risky even as a one-time fix.

Using an MCA for payroll can create structural issues in your business. Payroll is a recurring expense that usually comes along every two weeks. Meanwhile, an MCA provides one-time cash flow, and repayment begins immediately. It doesn’t pause just because another payroll is coming. 

Once you start repaying your MCA, you’ll have less cash flowing into your bank account every day. Each payroll will become even harder to fund than the one before, which only exacerbates the problem. Ultimately, MCAs solve today’s payroll problem, but create tomorrow’s cash flow problem.

When Using an MCA for Payroll Might Make Sense

There are a few very specific scenarios where using an MCA for payroll might make sense. These situations could include:

• A known receivable is coming: If you know for sure that you have a guaranteed large sum of money coming, and you’re just waiting for payment, an MCA could make sense to bridge that gap.
• A seasonable bridge with clear revenue return: If you have a seasonal business model and make most of your money during a particular time of year, an MCA could help cover you during the off-season but you’d need to make sure it’s paid off with funds left over from the previous season.
• There are no capital alternatives: If no other financing options are available and the alternatives are missing payroll or closing your business, an MCA could be a final stopgap. 

Ultimately, an MCA is best when you have a concrete plan and the requisite budget to repay the funds before you sign anything. It’s simply a bridge, not a solution to your long-term problems.

The Risks of Using an MCA to Cover Payroll

Business owners who use MCAs to fund payroll, or any other business expenses, often run into these hidden risks:

• Daily debits that create a budget shortfall: It’s often the case that your daily debits exceed what’s left after the next payroll, creating a new shortfall.
• High factor rates: Typical factor rates on MCAs can add up to triple-digit interest rates, even if you pay the balance off early.
• Exposure of personal assets: MCA providers often include personal guarantees and confessions of judgment (COJ) in contracts, and these provisions put your personal assets at risk if the business can’t pay.
• MCA stacking: Many small business owners have no choice but to take out another MCA to cover the first one, creating an even larger budget gap and leading to default.

Safer Alternatives to Consider First

While there are situations where an MCA becomes the best option, it’s worth exhausting other options first, even those that feel uncomfortable. Most of them are cheaper and less risky than taking on an MCA. Here are some alternatives to consider: 

• Negotiate with vendors or landlords: If your vendors or landlord are willing to extend your payment terms, you may be able to meet payroll without taking on new debt. Most vendors would rather negotiate than lose a customer.
• Try invoice factoring: If you have outstanding invoices, you can convert them into receivables, typically at much lower rates than MCAs.
• Open a business line of credit: A business line of credit is revolving, meaning you can tap into it time and time again. The schedule is less aggressive, and the fees are considerably lower.
• Talk to your payroll provider about short-term deferral options: Some payroll companies offer short-term deferral arrangements for small businesses experiencing temporary cash flow gaps.
• Evaluate whether there’s a deeper revenue problem: If you have a true revenue problem, an MCA can’t fix it, and may even accelerate it. A business advisor or accountant may be a better option.

What If You’re Already Stuck With an MCA You Can’t Repay?

If you’re already stuck in an MCA and are struggling to repay it, the answer is not to take another advance. If anything, doing so will only make the problem worse. 

Instead, daily debits that are preventing you from making payroll are a sign to get legal help immediately. Many MCA contracts contain legal terms that may be challenging, including aggressive COJ clauses, vague reconciliation terms, or repayment structures that aren’t based on your revenue.

Tayne Law Group works with business owners who are struggling with their MCA obligations. We can help you negotiate with your lender, restructure your MCA, or defend against problematic MCA terms. We offer a consultation to review your contract before your missed payroll triggers legal issues. 

To learn more about how we can help, call (866) 890-7337 or fill out our short contact form to schedule a free phone consultation. We never share or sell your information, and all conversations are confidential.

Frequently Asked Questions

Can I use an MCA just to pay my employees this week?

MCAs offer fast funding and and have no use restrictions, so you could theoretically use them to cover payroll this week. However, unless you have a concrete plan to pay it off quickly, it’s likely to make your cash flow problem worse rather than better.

What happens if I can’t make payroll after taking an MCA?

Failing to pay your employees creates major legal and operational issues. Most states have wage payment laws, and you could be subject to stiff penalties if you can’t make payroll. If you have an outstanding MCA that’s preventing you from making payroll, speak to an attorney immediately.

Is it legal to use merchant cash advance funds for payroll taxes?

Yes, it’s legal to use MCA proceeds to pay for payroll taxes. However, MCA funds provide one-time cash flow, while payroll taxes are an ongoing expense. Unless you have a plan to repay the MCA and resolve your working capital issues, an MCA is likely to make the problem worse.

Will an MCA lender care what I use the money for?

No, most merchant cash advance companies don’t impose restrictions on how you use the funds. Funders collect payments from your daily or weekly credit and debit card sales, so they’re more concerned about your income stream than how you spend the money.

Can I get out of an MCA if the daily payments are preventing payroll?

There are some ways to get out of an MCA, but it’s difficult. An attorney can review your MCA contract for challengeable provisions. If you can’t get out of the MCA, you may at least have a reconciliation clause that allows you to lower your payments if your revenue drops, which could help ease your cash flow troubles.