Can Filing Bankruptcy Get You Out of Paying a Merchant Cash Advance?
If you own a small business, you may have looked into merchant cash advances to help with cash flow. A merchant cash advance provides you with a lump sum of money in exchange for a percentage of your future credit card sales. It can be an easy way to get quick funding when you need it.But what happens if your business runs into financial troubles down the road and you need to file for bankruptcy? Will filing bankruptcy get you out of paying back a merchant cash advance?
How Merchant Cash Advances Work
First, it’s important to understand what a merchant cash advance is and how it works.A merchant cash advance, often referred to as an MCA, is a form of business financing where a company provides you with a lump sum of cash in exchange for a percentage of your future credit card sales. An MCA company will provide you with the lump sum upfront, then take a fixed percentage of your daily credit card sales until the advance has been repaid in full, plus fees and interest.The key thing that sets merchant cash advances apart from traditional small business loans is that MCAs are not technically loans. With an MCA, the cash advance company purchases a portion of your future receivables rather than lending you money and requiring fixed monthly payments with interest like a bank would.This structure allows an MCA to bypass many of the regulations placed on banks and traditional lenders. And this unregulated nature is where much of the controversy around MCAs stems from, which leads us back to the original question…
Can You File Bankruptcy to Avoid Paying a Merchant Cash Advance?
This is a complex question with arguments on both sides. The short answer is maybe – it depends on your specific situation.On one hand, since MCAs are technically the purchase of future receivables and not loans, some argue that this means you should not be able to discharge the obligation in bankruptcy.However, recent cases have shown that courts may allow business owners to file bankruptcy to avoid paying merchant cash advances. Much of this depends on how the MCA agreement is structured and if the court sees it more as a loan or a purchase agreement.
What the Courts Have Said
There have been several recent court cases that may set precedents on this issue.In In re: Melanie Couch-Russell, the court ruled that the merchant cash advance agreement in question was essentially a disguised loan rather than a true sale of receivables. Since the agreement was deemed a loan, the court allowed the business owner to discharge the remaining obligation to repay the MCA through bankruptcy.However, in In re: Power Supply, LLC, the court ruled the opposite way. In this case, the judge determined the merchant cash advance agreement was a true sale of future receivables and not a loan. As such, he did not allow the repayment obligation to be discharged in bankruptcy.So as you can see, the outcomes vary depending on the specifics of each case and how the court views the MCA agreement.
Steps to Take Before Considering Bankruptcy
Filing bankruptcy is a last resort when facing extreme financial hardship. Before considering bankruptcy as an option to avoid paying a merchant cash advance, there are some steps you should take first:
- Contact the MCA company – Communicate openly about your struggles to repay the advance. Many MCAs may be willing to work with you by adjusting the percentage taken from daily credit card sales. This can help ease the burden while you work to turn business around.
- Seek help from a small business lawyer – An attorney experienced with MCAs can review your agreement and options. They may help negotiate with the MCA company on your behalf.
- Explore alternatives – Bankruptcy damages your personal credit and ability to get financing in the future. Be sure to understand all your options, like debt consolidation loans or settlement agreements, before resorting to bankruptcy.
- Get guidance from a bankruptcy lawyer – If bankruptcy ultimately makes sense for your situation, meet with an attorney to discuss the pros/cons and steps to take. They can provide insight into your odds of discharging the MCA obligation.
While the recent court decisions are encouraging, there is still risk involved with filing bankruptcy in hopes of avoiding merchant cash advance payments. Be sure to explore all options and understand possible outcomes before moving forward.
The Problem with Merchant Cash Advances
Merchant cash advances can be easy to obtain, but they often come with high fees and rates that are not clearly disclosed upfront. Some companies charge rates equivalent to 60% APR or more without making this clear. This causes many business owners to get caught in predatory lending cycles.The Federal Trade Commission has started taking action against some MCA companies for deceptive marketing and lending tactics. However, the industry remains largely unregulated overall.Many advocates argue that MCAs should be subject to the same laws and disclosure requirements as banks and online lenders. This would help protect small business owners from predatory lending practices.
Should You Ever Take a Merchant Cash Advance?
Merchant cash advances can sometimes serve as a lifeline for struggling small businesses who cannot obtain funding elsewhere. When used strategically in moderation, an MCA may help bridge a temporary cash flow gap.However, it‘s important to read the fine print and understand the equivalent APR before signing any MCA agreement. And you should have a plan to pay off the advance quickly without allowing fees to accumulate.Ideally, you would use the lump sum from an MCA to implement strategies to turn struggling aspects of your business around. This enables you to increase sales and pay off the advance responsibly under the agreed upon terms.Understand the risks involved before resorting to any kind of alternative small business financing. And be cautious about providers making claims or guarantees around the ability to discharge repayments in bankruptcy down the road.
Options If You Are Struggling with MCA Payments
If you do find yourself falling behind on merchant cash advance payments, know there are still options beyond bankruptcy:
- Renegotiate the agreement – Contact the MCA provider explain your situation and request adjustments to the percentage taken from daily credit card sales. Any reduction can help ease the burden.
- Explore debt consolidation – You may be able to take out a consolidation loan with lower rates and fixed monthly payments to pay off the MCA balance. This simplifies payments into one monthly bill.
- Restructure payments through settlement – Hire a lawyer to negotiate a lump sum settlement with the MCA provider. You pay a lower overall balance and the MCA company writes off the rest.
- Sell assets or company equity – Take steps to raise capital needed to pay off the MCA, like selling company property or equipment. As a last resort, you may look at selling minority equity in your business.
- Change credit card processors – Some MCA contracts prohibit this, but you may be able to shift credit card processing to a new provider. This can temporarily pause or reduce payments to the MCA company (but they may sue for breach of contract).
If struggling with an overwhelming MCA balance, be sure to consult experienced legal and financial professionals to understand all of your options. In some cases, bankruptcy may still be the most viable path forward.
The Bottom Line
Recent court decisions have shown there is a possibility of discharging merchant cash advance obligations through bankruptcy – but outcomes vary widely depending on your situation.Before considering bankruptcy, be sure to speak openly with the MCA provider, consult lawyers, and explore alternative options. While bankruptcy may still make sense in some situations, understand that route comes with lasting damage to your finances and ability to access business credit.And most importantly, avoid the pitfalls of predatory merchant cash advances in the first place. Only accept funds you have a solid plan to quickly repay, and thoroughly vet any alternative lending company you work with.With the right planning and professional guidance, you can resolve merchant cash advance debts without resorting to bankruptcy. Contact our legal team here at Delancey Street for a free consultation and insights into your options.
