The merchant cash advance industry is a comparatively new business and therefore hasn’t been strictly regulated yet. Nevertheless, there are some self-regulatory practices of the advance providing companies as well as some law provisions in state legislation.
Special licensing is needed by the law in the State of California. The regulation act is called the California finance lenders law. Its provisions state that if the agreement is structured as a true loan, a licensed finance broker may only broker loans to licensed finance lenders.
There are also certain certifications that are provided by the industry to salespeople who are trained in merchant cash advance lending practices. These certificates expire after two years and are a product of the self-regulation of the industry. Therefore, those who provide merchant cash advances are not required by the law to have such certification.
Many merchant cash advance providers share the opinion that pre-emptive self-regulation is necessary to prevent stricter federal legislation. Nevertheless, not much has been done yet in that aspect. Therefore, there isn’t a single act that regulates the providers of the product. This leads to various rates, holdback percentages and payments offered on the market.
Uniform training programs for advance providers could be a guarantee against potential lawsuits. Ethical practices learned by salesmen on training programs should be documented and certified, in case of an investigation or court trial.
Some salesmen aren’t even told about additional costs on these deals, such as transaction fees until they begin working with clients. Their training focuses only on rates and holdback percentages. This leads to the inability of providing precise information when advertising their product and merchants are unable to make a truly informed decision when choosing a cash advance providing company.
Small business lending has various forms, each one having different terms and risks for lenders. Cash advances are one of these forms, having significant differences than other forms. They are not treated as loans and aren’t regulated by the same laws. Nevertheless, the loan market is changing and regulation may soon include merchant cash advances, especially their most common form – the one that is directed towards immediate purchases for the business owners.
According to a bank report regarding merchant cash advance industry, this particular market is growing. To be precise, the market has doubled in the past two or three years. The number of individual advance contracts has increased significantly. This is partly due to the retreat of larger banks from small business lending, thus providing more space for smaller cash providers. They are also fast and efficient and business owners prefer working with them instead of bigger banks. Other factors that have contributed to the growth of the sector include the high approval rate, due to the less strict qualifying criteria that smaller lenders request. There also different collection practices that include periodic payments of a percentage of the business credit card sales.
Merchant cash advances did emerge as a result of the increase in credit card use in the United States and the first provider was established in 1998. For the next two decades, cash advances have developed characteristics that are different from those of other small business loans. One of them, for example, is the requirement of collateral for the loan. Nevertheless, cash advances are treated to be regulated like other loans and that may cause a shift in the direction of industry development. There is also an influx of competition in the market following the establishment of new market players.
Al these market changes are forcing different players to diversify their services by also offering various types of loans and lines of credit, combined with lower interest. Nevertheless, these changes won’t prevent merchant cash advance providers from achieving the expected 25% growth in years to come.
State regulatory institutions are concerned with the growth of the merchant cash advance industry and various online lending platforms. They are worried that those may be the cause of new forms of predatory lending practices. California, for example, is considering the implementation of the non-bank lending act to regulate cash advance providers. Illinois is suggesting extending the power of the Department of financial and professional regulation over small business lenders.
Therefore, the largest among the providers aim at forestalling any new regulation. They claim that self-regulatory acts would be enough and no other legislation would be necessary. Nevertheless, experts and observers believe that legislation is inevitable because of the tremendous industry growth in recent years. Logically, the first states to implement any regulations will be those with the highest consumption of the product.
Online lenders not only have filled the vacuum that the recent financial crisis left in the small business lending industry, they also invented new benefits for their customers, such as online application process and algorithmic risk evaluation. Those made the lending industry faster and more efficient.
There are three new models of small business lending. These are the online balance sheet lenders that provide capital for inventory purchases, peer-to-peer lenders who link borrowers and investors directly, and lender-agnostic marketplaces where borrowers may shop and compare lenders online.
Although all the innovation has proven to be beneficial for small business owners, there are also market players with a history of abusive conduct towards their clients. This includes aggressive marketing strategies or obscure terms in the contracts regarding fees and interest rates.
Therefore, the possibility of legislation at the state or even federal level seems inevitable. Recommendations are being made from experts to fill the gaps in the existing lending laws. Industry representatives aren’t excluded from the talks and their opinions are an important part of the legislation process.
A small, but firm step has been made in New York, where a new law requires that the local Department of financial services studies the lending industry and issues a report on their practices not later than the beginning of 2018.