This type of financing is an unregulated business exchange, and there are minimal stipulations or requirements to apply for one. Merchant cash advances enable businesses owners more freedom in how they use this lump sum of money.
To receive a large amount of upfront capital, small businesses must exchange a promise of a percentage of its future sales. Because the future is unpredictable and life has a strong current, you can understand where the risk does come in.
What is Alternative Lending
There comes a time in most business startups when funding from family and friends runs thin. When larger-scale institutional funding is needed, businesses attempt to turn to loans from the U.S. Small Business Administration.Unfortunately, stringent conditions like a minimum business operation of 2 years, annual revenue that exceeds $100,000, strong personal credit, large down payment, proof of the need for funds, and regulations on how the loan is used deter thousands of small businesses from financing with SBA.
This is where alternative forms of lending step in.
Alternative lending is financing that occurs outside of traditional institutions. Conventional types of lending are lines of credit, business credit cards, short and long term commercial loans and letters of credit. Alternative lending tends to be more flexible, more available, and less regulated.
Applying for alternative financing is more succinct and requires minimal information — a credit score, tax returns, bank statements, and a business plan.
Types of Alternative Lenders
- Marketplace Lenders: This form of financing is also called peer-to-peer lenders. A technological medium connects borrowers and investors. Marketplace lenders finance the loan by bundling funds from investors and crediting it to borrowers. It is based on a personal credit score.
- Direct Private Lenders: There is no institution connecting the lender and borrower. Finding a private lender, though, can be difficult, but there are a multitude of companies that can connect the two entities. Private lenders use personal capital to finance a loan that is flexible.
- Crowdfunding Platforms: This financing option is typical of startups. Crowdfunding is raising money through the public through online forums, crowdfunding platforms, and social media for a small business or project. Funders invest money for a portion of the equity in the business.
Types of Alternative Loans
- Lines of Credit: An alternative lender extends a line of credit to a borrower who pays interest. The loan requires collateral, a minimum operation of 2 years, and the company must be profitable.
- Installment Loans: This type of financing provides a large amount of money upfront. It is remitted in fixed intervals until paid off. Business owners must provide a valid Social Security Number or Individual Taxpayer Identification Number. Some Installment loan providers do finance individuals with credit below 630.
- Equipment Financing: Business Owners use a loan to purchase equipment needed for operation. The equipment is the collateral, which provides the lender with more security. Interest rates can be lower and approval rates are higher due to this reason.
Not every startup requires large equipment investments — this limits the scope of industries that could advantageously utilize this investment. Additionally, this financing only covers the equipment and cannot be used in other areas of the business.
- Merchant Cash Advances: An MCA is a lump-sum for small businesses that are financially strapped, have poor credit, and have only been in business for a short time (at least 3 months). It is a business transaction that exchanges a lump-sum for a future percentage of revenue from sales. Because sales vary, the payments will adjust accordingly.
- Microloans: Intuitively, microloans are small-scale loans that are typically under $50,000. This can be repaid in a few short months. Microloan lenders place restrictions on how business owners allocate the money.
- Bridge Loans: Rather than a loan backed with credit, a bridge loan is reinforced with assets. It is a short-term loan that provides instant cash flow. Assets act as collateral and can be real estate, inventory, or other assets. It bridges the gap of time that companies need until they can find a long-term financing option.
This financing comes with high extra fees such as an origination fee, which can be as high as 3% of the principal. Your current home is the required collateral.
- Invoice Factoring: With invoice factoring, a small business will sell its accounts receivable at a discount in exchange for a lump sum of cash. With an invoice factoring company, you essentially receive cash from your customers sooner than the typical 30 to 90 day window. Cash is fast with this loan type.
Invoice factoring can be a gamble because it depends on the reliability of your customers to pay on time. For the customers that don’t pay on time, the responsibility falls on you.
Why MCA is the Top Alternative
MCA is distinctively the best form of alternative lending — it has the laxest requirements and stipulations. Approval is not dependent on credit scores, businesses only have to be in operation for at least 3 months, and the application process requires little personal information. The liabilities and disadvantages of other lending types are far more risky than taking a merchant cash advance, as long as you are confident in the future sales of your business. This is why so many accredited investors have begun to choose merchant cash advances as their #1 alternative investment.
