April 18, 2016

Moving From Merchant Cash Advances to Bank Loans: What Gives?


After capitalizing on the merchant cash advance realm, Square Capital is now restructuring its products into bank loans.

After the launch of its merchant cash advance product back in early 2014, Square Capital is now foregoing this realm in favor of bank loans.

It's a surprising move, given the fact that Square's merchant cash advances have been big business, advancing as much as $1 million a day to small businesses.

The San Francisco-based financial company publicly launched Square Capital - the firm's merchant cash advance branch - in an effort to provide cash advances to businesses who need fast cash but aren't necessarily eligible for qualification of a conventional bank loan. The company made use of proprietary algorithms to identify how much money it would loan out and the specific fees attached to the loans based on a business's sales data, daily sales tickets, and cash flow, among others.

Since the launch of their merchant cash advance arm, Square Capital has loaned out approximately $450 million to small business merchants. Not only are customers loving this program, it's also helped Square pad its bottom line with income and fees from this product.

Square promises to continue to offer fast cash as conveniently as its previous merchant cash advances, and says clients will not notice much of a change from their end. The application process for loans will still be simple, and qualified applicants can still get their hands on fast cash in as little as one business day. The difference is the borrowings are now structured as loans and are originated by a nationally chartered bank.

The loans offered by Square will carry a maximum term of 18 months, but borrowers have the option to repay their loans sooner. Similar to other online lending products, these new loan products will be originated and sold to investors.

Considering how successful Square Capital has been with its merchant cash advances, many are questioning why the firm would abandon them altogether and replace them with bank loan products.

The move has been said to have been made to boost growth while still providing valuable financial services to small business clients. Investors are more familiar with bank loans compared to merchant cash advances. By transforming their products into loans, Square is hoping that their pool of investors will grow and inevitably help to expand their business.

Regulatory implications that have been placed on Square and other online lenders have also had a lot to do with the changes. In addition, Square is hoping to reduce the risk of legal ramifications by changing its cash advances into loan products.



On occasion, merchant cash advances have been accused of infringing on interest rate caps, with court cases ensuing as a result. The outcomes of such cases depend on exactly how the cash advances are structured, and whether or not usury laws apply.

Not technically considered a cash advance any longer as a result of a change in structure, Square will continue to provide funds to its clients through bank-backed business loan products while partnering with Celtic Bank. Square hopes such collaboration with the bank will add a layer of protection against potential lawsuits, as state interest rate caps don't apply to banks.

This change comes during a time when online lenders continue to endure uncertain market conditions. For years, marketplace lenders have been experiencing incredible success, with hundreds of millions of dollars being invested in these lending platforms. But over the past couple of years, the market values of fintech firms, such as Lending Club and Prosper Marketplace, have dipped. Many have been extending loans to riskier borrowers to expand their loan portfolios, which has landed the loan investors with more defaulted loans than they'd care to hold.

Boosting Loan Portfolios Through Partnerships With Banks

Square Capital's recent move poses the question to many other online lenders about whether or not they should be teaming up with banks in order to limit originate product and benefit from the stability of long term funding.

Garnet Capital is well-versed in the realm of fostering a healthy and profitable collaboration between marketplace lenders and banks. Browse our white papers to find out how we can help buyers and sellers of loan portfolios.