Should I use a debt settlement company for my merchant cash advances or refinance them?

Two ways to stop the debits

An owner with three or four advances debiting the account every day wants one thing: for the debits to stop. There are two ways to make that happen, and they point in opposite directions.

A debt settlement or stop-payment program has the business stop paying. The program usually tells the owner to revoke the ACH authorizations or change bank accounts, then contacts each funder offering a lump sum or a reduced payment plan, funded from monthly deposits the owner makes into an account the program controls. The program charges a fee, commonly tied to the enrolled balance or to the amount it says it saved, and that fee comes out of the same deposits before or alongside any payment to a funder.

A refinance has a new lender pay each advance off at closing, from a written payoff letter, and replaces the daily debits with one monthly loan payment the business can carry. The advances end paid, not defaulted. The mechanics are on refinancing merchant cash advances into term debt, and Transparent's approach to these files is set out on MCA refinancing.

Both end the drain on the account. Only one leaves the business in a condition the next lender will lend to.

What happens when the payments stop

Settlement programs describe the funders as eager to negotiate. Some are. But stopping payment is almost always a breach of the advance agreement, and the agreement usually spells out what follows. Owners should read their own contracts before enrolling, because the consequences land on the business and often on the owner personally.

• The whole balance comes due. Default provisions typically make the full remaining purchased amount payable at once, often with default fees and collection costs added. The number being negotiated can end up larger than the number the owner enrolled.
• The owner's guarantee is triggered. Most advances carry a performance guarantee from the owner. A deliberate stop in payment is the event those guarantees are written for.
• Confessions of judgment. Where an agreement includes one and it is enforceable, a funder can obtain a judgment without an ordinary lawsuit. See what a confession of judgment means for your business.
• Frozen bank accounts. With a judgment in hand, a funder can move to restrain or levy the business's bank accounts. A freeze does not wait for payroll.
• Letters to your customers. Many funders hold a UCC filing over receivables and may notify the business's customers to pay the funder directly. For a business that invoices commercial customers, that letter can cost more than the advance.
• Several funders at once. A program usually stops paying every funder together. Each one acts on its own schedule, and the business is defending all of them while the program negotiates one at a time.

A settlement program does not pause the funders' remedies. It gives each funder a reason to use them. Money building up in the program's account while it prepares an offer does not stop a suit or a freeze.

Side by side

How a settled or defaulted advance reads to a senior lender

A bank or private credit lender underwriting the business a year or two later runs a lien search and a judgment search, reads the bank statements and asks for a debt schedule. A settlement program leaves marks in all four places.

• Judgments. A judgment entered on a confession or after a lawsuit shows up on the search. The lender wants proof that it was satisfied and released, not a letter from the program saying it was handled.
• UCC filings. A funder that settled may never file its termination. Until it does, the new lender cannot take the first position it requires. See removing a UCC filing from a lender you paid off.
• Returned and stopped debits. Months of statements showing revoked ACH debits and payments to a settlement company are read the same way a credit officer reads any deliberate default: the business chose not to pay a contract it signed.
• Open settlements. A settlement still being paid is a live obligation. A lender cannot close over a claim whose final amount depends on a negotiation that has not finished, and a funder that has not settled at all can still sue.

None of this is always fatal. Lenders do refinance businesses with a resolved, documented default in their past and strong earnings since. But a settlement program adds a problem to explain rather than removing one. How lenders read advance history generally is covered in whether past cash advances hurt your chances of a bank loan.

Why a business with real earnings should refinance

The case for settlement rests on the idea that the business cannot pay. Many businesses with stacked advances can pay; what they cannot do is pay on the advances' schedule. The earnings are there, and the daily debits take them faster than they arrive.

On these numbers the business is not insolvent. It has a payment schedule problem that a term loan fixes. A settlement program would put the same business into default with four funders, a guarantee called and customers receiving letters, in order to negotiate down a balance the business could have repaid over time. The refinance costs interest; the settlement costs the business's standing with every lender it will need next.

A refinance also leaves room to do what settlement programs promise. A lender paying off advances works from each funder's payoff letter, and some funders will discount an early payoff for a borrower who is current and paying in full at closing. That is a negotiated payoff from a position of strength, documented in writing, with the lien released at closing. It is worth asking for; it is not worth building into the numbers. Understanding what the advances really cost helps frame the conversation: see how to calculate the real APR of a cash advance.

The test is simple to state: rebuild earnings without the advance costs and ask whether they cover one monthly payment with room to spare. If they do, the business needs a refinance, not a settlement.

When settlement or a workout is the honest answer

Some businesses cannot carry the debt on any term a lender will offer. Earnings before advance costs are thin or negative, the advances funded losses rather than a one-time gap, and the payoff is larger than the business can service. A refinance lender will see that and decline, and it should.

For those businesses the choices are a negotiated restructuring or a formal process, and they deserve a lawyer rather than a program. Before any of that, check two things in the agreements already signed:

• The reconciliation clause. Many advances let the business ask the funder to adjust the debit to actual receipts when sales fall. It is a contractual right, used without defaulting. See asking a funder for a reconciliation.
• Anti-stacking and cross-default terms. Taking another advance to cover the gap usually breaches the ones already in place. See anti-stacking clauses. A so-called reverse consolidation is another advance, not a way out.

If a restructuring does happen, ask an accountant how any forgiven amount is treated for tax, and ask counsel how releases, dismissals and lien terminations will be documented. The goal is the same as in a refinance: a paper trail that shows each funder's claim ended, because the next lender will ask for it.

What a refinance lender needs from you

A refinance works when the file answers the questions a credit officer asks about advances before they are asked:

• Every advance agreement, with its purchased amount, factor, debit amount and frequency, and any renewals.
• A current payoff letter from each funder, dated close to the expected closing.
• A debt schedule listing the advances beside every other obligation.
• The last full year's P&L and balance sheet, and a year-to-date P&L through last month-end.
• Business bank statements for the months the advances have been debiting.
• A short written account of why the advances were taken and what has changed since.
• Disclosure of anything already in default, sued on or subject to a judgment.

Once the documents are in, Transparent builds the lender package — financing model, lender presentation, blind teaser and underwriting memo — in a day, and takes it to the lenders that fit the file, out of a book of 1,800+: 1,148 of them write term and private credit, and 235 write asset-based loans and lines. Transparent charges nothing before a loan closes. The package presents the business as a company with real earnings that needs one loan in place of several advances. See the package and how we underwrite.