Business cash advances

Loosely defined, the term ‘Business Cash Advance’ refers to a lump sum payment to a business in exchange for a pre-determined and agreed upon percentage of future credit and/or debit card transactions. The most important element to note is that a business cash advance is a factoring product and NOT A LOAN product.

A cash advance is different to a business loan, because instead of having an outstanding loan amount, interest rate, and term, a cash advance effectively sells future sales to the lender at a discount.

This means the terminology used is a little bit different, for example ‘advance rate’ instead of ‘loan amount’, and the two types of lending will feel a bit different for the business. Let’s have a look at business cash advances and see how they work.

How does a business cash advance work?

With a standard business loan, you get a lump sum at the start of the term, and then pay interest for as long as that amount is owed. This concept applies to loans, overdrafts, revolving credit facilities, and lots of other types of finance — in fact, most of the common forms of finance work on this principle.

With a loan, the total cost of the finance — i.e. the interest you pay on top of the principal lump sum — varies depending on how long you take to pay back the loan. Business cash advances turn this idea on its head. Instead of having interest constantly ‘running’, the total cost of finance is agreed up-front. So instead of a monthly interest calculation, there’s a fixed finished line you need to get to.

Merchant cash advances

The main advantage of merchant cash advances specifically is that once they’re set up, they require very little oversight. There’s no monthly repayment to worry about, because every single transaction pays down the debt, and you’ll know the total cost from the beginning.

Business owners often find that the repayments feel painless too, because rather than putting money aside you just carry on as normal, and the advance is automatically repaid. Most merchant cash advance providers offer an online login where you can see the status of your advance, and many will offer top-ups once a certain portion has been repaid.

Invoice finance

Although it’s not technically a type of business cash advance, invoice finance is worth mentioning here, because like these other products it works by selling something to the lender at a discount — namely, accounts receivable in the form of unpaid invoices. In fact, this is where ‘invoice discounting’ gets its name. Read our invoice discounting page for an example of how the pricing works.

The key point about invoice finance is that if your customers owe you money, you can get most of the value of these invoices from the lender within a day or two, and then the remainder minus fees once your customer has paid. If your business operates in an industry with long payment terms like recruitment or construction, invoice finance is a useful way of smoothing out cashflow bumps and making things a bit more predictable.

Overdraft alternatives

If you’re looking into business cash advances because of flexibility, it’s also worth considering overdrafts, business credit cards and their alternatives like revolving credit facilities. All of these products give you a pre-approved credit limit that you can use as and when you need — so they’re a useful safety net to have in place.

One downside compared to business cash advances is that the amount you can borrow might be lower, and the cost varies depending on your usage.