What Happens if You Default on a Merchant Cash Advance?
E.J. Simonsen | Jan 26, 2022
Merchant cash advances are an all-too-common debt trap for businesses. Unfortunately, most businesses don't know how deep the water is until it's too late. Merchant cash advance providers seem like they're offering a lifeline–until you miss a payment.
If you've heard horror stories of business's accounts being frozen or men like Gino showing up unannounced, it's important to know that you have rights. Here's what happens if you default on a merchant cash advance, and what you can do about it:
Menu: What Happens if You Default on an MCA
- How Does an MCA Work?
- What Happens if Your Business Misses MCA Payments?
- What Happens After A Business Defaults on an MCA
- If the MCA Lender has a Confession of Judgment
- If the MCA Lender does not have a Confession of Judgment
- What Happens After a Judgment is Filed Against Your Business by an MCA Lender?
- My Business Missed a Payment on an MCA — Who Can Help?
How Does an MCA Work?
To understand what happens when a business defaults on a merchant cash advance, it's important to understand how merchant cash advances work.
First and foremost, MCAs claim not to be loans in an attempt to avoid interest rate caps. MCA lenders appear to offer a unique, secured, asset-based type of funding, similar to receivables factoring but instead of selling specific receivables you are simply borrowing against your future receivables, or money you plan to make. This makes an MCA a unique type of funding that's risky yet easy to obtain.
So, how does the MCA funding work?
Essentially, you pledge all future income, all assets, and give a personal guarantee. In exchange, the MCA lender provides near instant funding. You then immediately start daily or weekly payments until this funding plus a significant premium is paid off — usually in the next 2-18 months. If your business manages to make all of its payments, it's likely that you'll have paid back your debt many times over.
MCA payments are calculated as a percentage of your sales, but as with any lender, there is a cost to borrowing. Unfortunately, most business owners don’t realize that the interest rate cap in Texas is an 18% APR, while the average rate for merchant cash advances is often in excess of 250% APR.
While MCA lenders would like for you to believe that their terms are as legitimate as any traditional lender, the truth is that your MCA lender does not operate like traditional, regulated lenders and the consequences of defaulting and their collection methods are much different.
What if Your Business Misses MCA Payments?
If you're worried about making payments, always consult your lender first, before you default. While most MCA lenders have a reputation for being unhelpful, it's important to at least try. They want their principal back, along with a choice premium, and talking to them before you miss a payment might help you get a short forbearance and avoid defaulting. The MCA contract may contain specific instructions for this communication.
If you do fear missing a payment, here are a few things to keep in mind:
Don't Borrow More Money
Many MCA lenders, when they see a business struggling to make payments, will offer an additional MCA or something called a reverse consolidation.
Both are attempts to get you to divulge your most recent customer list and borrow more money, which will only make your situation worse. Remember the Rule of Holes, "First rule, when you're in a hole, stop digging!"
Taking out an additional MCA or signing up for a reverse consolidation will only increase your business debt, and worsen your business's financial situation.
Do Invoke Reconciliation
If you've talked to your MCA lender, and they won't voluntarily work with you, you may be able to invoke reconciliation. Since your MCA payment is based on your business's revenue, if weekly or monthly revenue drops, it's unlikely your business will be able to make the planned payments calculated at the previous, higher revenue rate. For this reason, most MCA contracts include a reconciliation or re-adjustment clause.
This isn’t done out of kindness, it’s done to protect merchant cash advance lenders from being considered illegal or usurious loans. This clause typically states that if your business's revenue changes, your MCA lender may have the obligation to adjust or reduce your daily or weekly payment to ensure you're still paying an accurate portion of your receivables.
If You Miss a Payment, You Are In Default
If you've already missed a payment on your MCA, your business is technically in default. Missing any payment breaches (or breaks) the contract you've signed, at least according to the lender. When you default it invokes the lender's right to pursue you and your business. That includes the right to sue you and your business.
In most cases, MCA lenders require that business owners sign a personal guarantee to get the merchant cash advance. If you had to sign any type of personal guarantee, you may be personally liable for that business debt. This means your personal finances and assets (which can include your savings, your property, any investment accounts, and more) may also be at risk. This is just another reason why it's so important to ensure you have a qualified, local attorney with experience dealing with merchant cash advance lenders to defend your rights.
If your business defaults on an MCA, the collection process swiftly begins.
What Happens After A Business Defaults on an MCA?
Defaulting on an MCA is particularly scary for most businesses since MCA lenders take action quickly. They are quick to tell borrowers that they will sue them for fraud or seize property, send in-person collectors or property inspectors, file a collection lawsuit, Confessions of Judgment, UCC liens, or other legal collection efforts.
#1 If The MCA Lender Has a Confession of Judgment
If your MCA lender has a Confession of Judgment (CoJ) or Agreed Judgment (AJ), they are likely to move quickly against you. "Wait!" you say, "I heard CoJs are illegal." WRONG.
Unfortunately, they are just now more limited in their use. MCA lenders are prohibited from filing a CoJ in New York against a non-New York business. They can still file a normal lawsuit or file the CoJ in another state. Moreover, an Agreed Judgment while similar to a CoJ is different document. Let's take a look at what both documents are, and what they mean for your business.
Understanding the Confession of Judgment (or Agreed Judgment)
To get an MCA, most lenders require — but don't tell you upfront that they require — a Confession of Judgment (COJ) or an Agreed Judgment (AJ). It's frequently just one of the many papers your business needs to sign when entering into an MCA agreement, and it's one of the most frustrating consequences of an MCA.
Once signed, a Confession of Judgment waives many of your business’s legal rights to defense in the event the MCA is defaulted on. It allows the MCA lender to avoid a traditional and lengthy legal proceeding where they must prove to the court that you defaulted and how much you owe. Instead, you give them the power to tell a court that you “confessed” or agreed to a judgment. They can then move quickly to seize business and personal assets.
With a signed Confession of Judgment, creditors can often obtain the right to freeze your business and personal bank account in a matter of days.
#2 If the MCA Lender does NOT have a Confession of Judgment
Even if your MCA lender does not have a Confession of Judgment, they can still move against your business in a matter of weeks, and sometimes even just days.
Many MCA lenders leverage their access to your primary business bank account to build a database of your clients, vendors, other bank accounts, and other ecommerce accounts (Merchant Account, PayPal, Venmo, Cash App, etc.). If they have not already, they will file UCC liens against you and your business. With UCC liens in hand, they contact their most popular merchant account or digital payment processors in hopes of freezing and then seizing these funds. Next, they contact your largest customers, vendors, or those with whom you do business or routinely receive income or inventory to freeze and seize those assets.
Can an MCA Lender Freeze My Bank Account Without a Confession of Judgment?
Fortunately, they cannot immediately freeze your bank account without a judgement (CoJ or AJ) The MCA lender must file a lawsuit against you, usually a breach of contract claim for missed payments. According to the law, they are supposed to send you a summons or a notice of the lawsuit. Then, depending on the jurisdiction where that lawsuit is filled, you have a certain number of days in which you have to file a formal legal pleading in defense of that breach of contract lawsuit.
For example, in the state of New York, you would have 30 days from receiving a summons or notice to respond, and just 20 days to respond if your suit was served by hand. That deadline differs by jurisdiction, so it is important to pay close attention to where the suit is filed.
What's worse is that there are many unscrupulous lenders who will say they mailed you a summons letter, and use the date that the letter was mailed as the first day of your allotted response time.
If you have not filed a response within by the deadline required by the jurisdiction of your suit, the MCA lender will likely obtain a default judgment against you, which means you will no longer have opportunity to defend that lawsuit in that court.
What Happens After a Judgment is Filed Against Your Business by an MCA Lender?
Once a judgment is filed, your MCA lender will start working to collect your outstanding debt through any means possible. This can include, but isn't limited to:
- Freezing your bank account
- Calling you
- Emailing you
- Contacting your customers
- Harassing you on social media
And more. As we mentioned earlier in the post, there are many accounts of unscrupulous MCA lenders sending people like Gino directly to the place of business, unannounced, to attempt to collect money through scare tactics and threats. This is why it's so important for your business to seek support as soon as you recognize that you may be unable to support your MCA payments.
Once an MCA lender files a judgment, it can be very difficult to keep your business and your assets without legal support.
My Business Missed a Payment on an MCA — Who Can Help Me?
At The Lane Law Firm, we like to make it very clear to any business owner that merchant cash advances are rarely a good solution. That said, if your business has already taken an MCA and missed a payment, it's important to know that qualified help is available. A qualified merchant cash advance attorney in your state can help you resolve or restructure business debts, so you can get away from predatory and harassing creditors, and do your best to get your business back on track.
No matter where your business is in the MCA process, or where your business is located, it's always best to seek a local MCA attorney who is familiar with and experienced in your area. Every state has its own unique laws around lending and merchant cash advances — finding an attorney in your state is essential to finding quality representation. If you're looking for merchant cash advance representation in Texas, The Lane Law Firm has you covered. We're here to talk whenever you need us. Set up your free consultation today, and let's get you out of this merchant cash advance.