Factor Rates, APR and the Real Cost of a Merchant Cash Advance
A factor rate is not an interest rate, and the difference is where owners get surprised. The arithmetic, a worked example, and the three questions that tell you whether an advance is priced fairly.
A merchant cash advance is priced with a factor rate: a decimal, usually between 1.15 and 1.50, that you multiply by the amount advanced to get the total you will pay back. Advance $100,000 at a factor of 1.30 and you repay $130,000. The $30,000 is the cost, fixed at the start, and it does not shrink if you pay early.
Why the factor rate understates the cost
An interest rate is stated per year and charged on the balance you still owe. A factor rate is charged on the whole amount, up front, and collected over a term that is often much shorter than a year. The same $30,000 cost is a very different price on a twelve-month term than on a six-month one, and the factor rate does not show that.
A worked example
Take the $100,000 advance at 1.30, repaid over 200 business days, roughly nine months, at $650 a day. The cost is $30,000. Because the balance falls every day and the term is nine months, the equivalent annual rate works out to roughly 70% APR. The same advance repaid over 120 days at $1,083 a day carries the same $30,000 cost and an equivalent APR closer to 120%. Same factor, same dollars, double the annual rate, because the money was yours for half as long.
This is not an argument that advances are wrong. It is an argument that the factor rate alone tells you the dollars, not the price, and you should know both.
Three questions that tell you if it is fair
- What is the total cost in dollars, and over how many days? Those two numbers give you the price. Ask for both in writing before anything else.
- What happens if I pay early? Some funders discount the payback for early settlement; many do not. If the business might refinance into cheaper capital in a few months, this clause matters more than the factor.
- What is the remittance as a share of average daily deposits? If the daily payment is more than about 10 to 12% of a typical day's deposits, the account will run low on slow days and the advance will fund its own problems.
When an advance is the right tool
An advance makes sense when the money earns more than it costs inside the term: inventory you can turn in weeks, a job you can invoice at a margin, an emergency repair that keeps revenue flowing. It makes no sense for anything that pays back slowly, like a build-out or a long-term hire. The test is simple: if the use of funds does not generate cash inside the repayment window, choose a longer product even if it takes longer to close.
We show the equivalent APR on every advance we place, because a decision made on the full price is one the owner does not regret in month four.
Applications reach the desk directly.