The funds you received from a merchant cash advance were not income. That much is clear. What is less clear, and what trips up business owners and their accountants with equal frequency, is how to treat the costs associated with that advance when tax season arrives. The IRS has not issued definitive guidance specific to MCA transactions, and the resulting ambiguity creates both risk and opportunity.
Here are eight things worth understanding before you file.
The Advance Itself Is Not Taxable Income
Because an MCA is structured as a purchase of future receivables rather than a loan, the funds you receive are not taxable income. You have sold a portion of your future revenue at a discount. The buyer paid you today for revenue you will earn tomorrow. That transaction does not generate income in the year of receipt any more than selling inventory generates income separate from the sale price.
This is the one point on which the tax treatment is unambiguous. The advance amount does not appear on your tax return as income, and no MCA funder will issue a 1099 for the principal amount advanced.
Repayments Are Not Fully Deductible
The repayment of the advance amount is not a deductible expense. You are returning funds that were never income. Deducting the principal repayment would create a double benefit that the tax code does not permit.
What is potentially deductible is the difference between what you received and what you repay. If you received one hundred thousand dollars and your total repayment obligation is one hundred forty thousand dollars, the forty thousand dollar difference represents the cost of the transaction. That cost, in various forms and under various characterizations, is where the deduction analysis becomes interesting.
The Factor Rate Premium May Be Deductible as a Business Expense
The premium you pay above the advance amount, which is the factor rate cost, functions economically like interest. Whether the IRS treats it as interest depends on how the transaction is characterized for tax purposes.
If the MCA is treated as a purchase agreement, the premium is not interest in the technical sense, because interest is the cost of borrowing money, and a purchase of receivables is not a loan. But the premium may still be deductible as an ordinary and necessary business expense under Section 162 of the Internal Revenue Code. The argument is straightforward: the cost was incurred in connection with a trade or business, it was ordinary in the sense that businesses commonly incur it, and it was necessary in the sense that the business required funding.
If the MCA is recharacterized as a loan for tax purposes, the premium becomes interest, and the deduction falls under Section 163. The practical difference between a Section 162 deduction and a Section 163 deduction matters, because Section 163(j) imposes a limitation on business interest deductions that does not apply to general business expenses.
The classification of the premium as a business expense or as interest can change the amount you are permitted to deduct in a given year.
The Section 163(j) Limitation May Apply
For businesses with average annual gross receipts exceeding a threshold that adjusts annually for inflation, Section 163(j) limits the deduction for business interest expense to thirty percent of adjusted taxable income. Interest that exceeds this limit can be carried forward to future years, but it cannot be deducted in the current year.
If your MCA costs are characterized as interest, this limitation applies. If they are characterized as a general business expense, it does not. The distinction has real dollar consequences for businesses that are already at or near the interest deduction limit due to other debt service obligations.
Small businesses with average annual gross receipts below the threshold are exempt from the limitation. For those businesses, the characterization question matters less.
Origination Fees and Broker Commissions Are Generally Deductible
Separate from the factor rate premium, most MCA transactions involve origination fees, administrative fees, and in many cases broker commissions that are deducted from the advance amount before funding. If you were approved for one hundred thousand dollars but received only ninety-two thousand after fees, the eight thousand dollar difference represents transaction costs.
These fees are generally deductible as business expenses in the year incurred. They are not interest, regardless of how the MCA itself is characterized, because they represent the cost of obtaining financing rather than the cost of using money over time.
The challenge is documentation. Many MCA funders do not provide a clear breakdown of fees at closing. The funding agreement may state the advance amount and the total repayment obligation without specifying what portion of the difference between the funded amount and the approved amount represents fees versus factor rate premium. Request a detailed breakdown at the time of funding. Reconstructing it at tax time is more difficult and less reliable.
Timing of the Deduction Depends on Your Accounting Method
Cash basis taxpayers deduct expenses when paid. Accrual basis taxpayers deduct expenses when the obligation is fixed and determinable, regardless of when payment occurs. The difference affects the timing of MCA cost deductions in ways that are not intuitive.
On a cash basis, the factor rate premium is deducted as repayments are made. If your MCA has a term of eight months, the deductible portion of each daily or weekly payment is recognized as paid. On an accrual basis, the entire premium may be deductible in the year the MCA is executed, because the obligation to pay the total repayment amount becomes fixed at funding.
For businesses with MCAs that span two tax years, the cash versus accrual distinction can shift a meaningful amount of deduction from one year to the next. The choice of method is not specific to MCA costs; it is the method the business uses for all transactions. But its impact on MCA deductions is worth understanding.
Settlement Amounts Create Their Own Tax Consequences
If you settle an MCA for less than the full repayment amount, the forgiven balance may constitute cancellation of debt income under Section 61(a)(12) of the Internal Revenue Code. The funder may issue a 1099-C for the amount forgiven.
There are exceptions. If you are insolvent at the time of the cancellation, meaning your total liabilities exceed your total assets, you can exclude the cancelled debt from income under Section 108. Bankruptcy provides a similar exclusion. But the exclusion requires disclosure on your tax return and, in some cases, a reduction in other tax attributes such as net operating loss carryforwards.
The interaction between a settlement and the earlier deductions claimed on MCA costs requires careful analysis. If you deducted factor rate costs on payments made before the settlement, and then received forgiveness of the remaining balance, the total tax treatment must be consistent. Your accountant needs to know about the settlement, its timing, and the amount forgiven in order to report the transaction accurately.
Legal Fees Incurred in MCA Disputes Are Deductible
Attorney fees incurred in defending against an MCA collection action, negotiating a settlement, or challenging the enforceability of an MCA agreement are deductible as ordinary and necessary business expenses. The deduction applies regardless of the outcome of the dispute.
This is sometimes the overlooked line item. Business owners focus on the MCA costs themselves and forget that the legal fees they paid to resolve the situation are independently deductible. The same applies to accounting fees incurred in analyzing the tax treatment of the MCA transaction.
The deduction is available in the year the fees are paid (for cash basis taxpayers) or incurred (for accrual basis taxpayers). If the legal engagement spans two tax years, the deduction follows the payment or accrual accordingly.
The tax treatment of MCA costs sits in an area where the IRS has provided less guidance than the volume of transactions would seem to warrant. Reasonable positions exist on both sides of the characterization question, and the right approach depends on the specific terms of your agreement, the structure of your business, and your broader tax situation.
What is not reasonable is ignoring the deduction entirely. The costs associated with merchant cash advances represent real business expenses, and failing to claim available deductions leaves money with the government that belongs in your business. A conversation with a tax professional who understands MCA transactions is worth having before you file. And if you are facing an MCA dispute that will generate legal fees and potentially a settlement with tax consequences, a consultation with our office can help you understand both the legal and the financial dimensions of the situation.
Related Articles:
Most MCA calculators perform one operation: they multiply the advance amount by the factor rate and return the total repayment. That figure is correct as far as it goes. It does not go far enough. The factor rate captures the largest component of cost, but it omits categories of expense that, taken together, can increase the effective price of capital by 30 to 50 percent above the stated terms. A calculator that ignores these costs produces a number that is technically accurate and practically misleading.
Origination Fees Deducted Before Funding
The origination fee is deducted from the advance before the wire is sent. On a hundred thousand dollar advance with a three percent origination fee, the merchant receives ninety seven thousand dollars. The repayment obligation, however, is calculated on the full hundred thousand. The factor rate of 1.3 produces a repayment of one hundred thirty thousand dollars, but the actual cost of the ninety seven thousand dollars received is thirty three thousand, not thirty thousand.
Origination fees in the MCA industry range from two to ten percent. The variance is wide, and the fee is often described in language that buries it within the agreement’s closing conditions. A true cost calculator that does not subtract the origination fee from the funded amount before calculating cost will understate the effective rate on every transaction.
Broker Commissions Built Into the Factor Rate
If a broker arranged the advance, their commission is embedded in the factor rate. The merchant sees a factor rate of 1.35 and assumes that reflects the funder’s pricing. In many cases, the funder’s base rate was 1.2, and the difference was added to compensate the broker. The merchant pays for the introduction without knowing the introduction carried a price.
This cost is invisible unless the merchant asks the right question, and the right question is rarely asked because the merchant does not know the broker is being compensated through the rate rather than by the funder separately. A calculator that accepts the stated factor rate at face value has no mechanism to identify or account for this margin.
On a two hundred thousand dollar advance, the difference between a 1.2 and a 1.35 factor rate is thirty thousand dollars. That is the price of not knowing who brought the deal to the table and how they were paid for it.
ACH and Processing Fees
The daily or weekly debit that repays the advance often carries its own fee. ACH processing costs, typically small on a per transaction basis, compound over the life of the advance. A business repaying over two hundred business days at a per debit fee of even a few dollars accumulates a cost that no one calculated at closing. These fees appear on bank statements, not on the MCA agreement, and they are easy to miss when one is focused on the larger numbers.
Split processing fees, charged when the funder routes daily credit card receipts through its own processor, add another layer. The merchant’s effective processing rate increases, but the increase is attributed to the payment processor, not the MCA. The cost is real. Its source is obscured.
NSF and Failed Payment Penalties
When a daily debit fails because the merchant’s account lacks sufficient funds, the MCA agreement typically imposes a penalty. The failed payment charge varies but often sits between twenty five and one hundred dollars per occurrence. For a business experiencing the cash flow difficulties that prompted the MCA in the first place, failed debits are not hypothetical. They are frequent.
A month of sporadic NSF events can add several hundred dollars to the cost of the advance. Over the full repayment term, the accumulated penalties become a meaningful percentage of the original advance amount. But because these charges are contingent, no calculator can predict them with precision. A good calculator should at least flag the risk and model a scenario in which a percentage of daily debits fail.
Lockbox and Reserve Account Requirements
Some MCA agreements require the merchant to route all revenue through a lockbox controlled by the funder. The holdback is extracted before the remaining funds are released to the merchant’s operating account. Lockbox arrangements carry administrative fees, and they introduce a delay between the time revenue is collected and the time the merchant can access it.
That delay has a cost. A business that receives its revenue one or two days late, every day, for the duration of the advance, operates with permanently reduced working capital. The lockbox fee itself may be modest. The opportunity cost of the delayed access is not, particularly for businesses with thin margins or daily vendor payment obligations.
Early Termination and Payoff Penalties
Some MCA agreements impose a fee for early payoff. This provision seems to contradict the fixed cost structure of the factor rate, since the total is already predetermined. But the penalty exists in certain contracts as an additional charge triggered when the merchant retires the advance before the expected term. It protects the funder’s return on capital that was deployed for a shorter period than anticipated.
The existence of an early termination penalty in an MCA agreement also carries legal significance. Courts have cited such provisions as evidence that the transaction functions more like a loan than a receivables purchase, since a true receivables buyer should be indifferent to the timing of repayment. But that legal argument, however valid, does not reduce the immediate financial cost to the merchant who triggers the penalty.
The Renewal and Stacking Premium
When a merchant renews an MCA or takes a second position advance from a different funder, the new factor rate is almost always higher than the first. The merchant’s risk profile has changed. The new funder is lending into a situation where another funder already holds a claim on the business’s daily revenue. The premium for that additional risk flows into a higher factor rate, which the merchant pays on the full new advance amount.
A true cost calculator should model the cumulative effect of stacked advances, including the compounding of multiple factor rates, multiple origination fees, and multiple daily debits. The cost of the second or third advance cannot be evaluated in isolation. It must be assessed against the total daily outflow the business is already committed to.
The seven costs described here are not exotic or unusual. They appear in the majority of MCA transactions. The difference between a competent evaluation and a superficial one is whether these costs are included in the analysis. A calculator that accounts only for the factor rate tells the merchant what the funder wants them to know. A calculator that accounts for all seven tells the merchant what they need to know.
Our office performs this analysis as part of every initial consultation. The call costs nothing. The calculation it produces is the one that changes the decision.
Related Articles
Closing a business does not close a merchant cash advance. The obligation persists after the entity dissolves, the doors lock, and the revenue that was supposed to satisfy the advance ceases entirely. What the MCA funder purchased was a portion of your future receivables. When those receivables stop existing, the funder’s response is not to accept the loss. It is to pursue the person behind the entity.
The decision to close a business carrying MCA debt requires understanding what survives the closure and what legal exposure remains after the operating account goes to zero.
The Personal Guarantee Survives the Business
If you signed a personal guarantee as part of your MCA agreement, and the overwhelming majority of agreements require one, the guarantee converts a business obligation into a personal one the moment the business can no longer pay. The funder does not need the business to exist in order to collect. The guarantee is a direct claim against you as an individual, enforceable against personal bank accounts, real property, and other assets.
The personal guarantee does not expire when the business closes. It does not diminish. It becomes, in practical terms, the only instrument the funder needs. I have seen business owners close their companies believing the MCA dies with the entity, then receive a demand letter at their home address six weeks later. The surprise is genuine. The liability was always there.
UCC Liens Attach to Business Assets
MCA funders file UCC liens against business assets at the time the advance is made. When the business closes and assets are liquidated or distributed, the UCC lien gives the funder a priority claim on those assets. Equipment, inventory, accounts receivable, intellectual property: the lien’s scope depends on the filing but it is often broad enough to encompass everything the business owns.
If you are closing the business and intend to sell assets, whether to a buyer or in a wind down, the MCA funder’s UCC lien must be addressed. A sale of encumbered assets without satisfying or subordinating the lien creates liability for the seller and, potentially, for the buyer. The process of removing a UCC lien requires either satisfaction of the underlying obligation or legal action to compel the funder to file a termination statement.
Confessions of Judgment Can Be Enforced After Closure
A confession of judgment signed as part of the MCA agreement permits the funder to obtain a court judgment without notice or hearing. The funder can file the confession of judgment after the business has closed, obtaining a judgment against both the entity and the individual guarantor. In jurisdictions where confessions of judgment remain enforceable, this process can occur without the business owner’s knowledge until the judgment appears on a credit report or a bank account is levied.
The confession was signed on a Tuesday afternoon in the funder’s office. It was enforced on a Thursday morning in a courthouse the business owner had never visited.
New York has reformed its confession of judgment practices following documented abuse, but the instrument remains available in other states. If your MCA contains a confession of judgment and you are contemplating closure, address the instrument before filing dissolution paperwork.
The MCA May Be Recharacterizable as a Loan
A business that is closing has, paradoxically, a clearer recharacterization argument than a business that continues to operate. The fundamental question in MCA recharacterization is whether the funder bore genuine risk of loss. If the funder included a personal guarantee, a confession of judgment, and a fixed daily withdrawal that did not adjust to actual revenue, the risk was never on the funder. It was on the merchant.
Where the funder bore no genuine risk of loss, courts have recharacterized MCA agreements as loans subject to state usury statutes. The effective annual rates on many MCAs, when calculated as loans, exceed the criminal usury threshold in New York and the civil usury limits in most other jurisdictions. Recharacterization does not eliminate the obligation, but it may void the agreement or reduce the enforceable amount to the principal advanced plus legal interest.
This analysis is worth pursuing even during closure, because the recharacterization affects the enforceability of the personal guarantee and the confession of judgment that flow from the same agreement.
Dissolution Does Not Stop Collection
Filing articles of dissolution with the state terminates the legal existence of the business entity. It does not terminate the funder’s right to collect on the personal guarantee, enforce the confession of judgment, or pursue the UCC lien against assets that were distributed in the dissolution. The closure of the business may actually accelerate the funder’s collection timeline, because the funder now perceives that remaining assets are being distributed and its recovery window is narrowing.
Some MCA agreements contain acceleration clauses triggered by dissolution. Under these provisions, the entire remaining balance of the purchased receivables becomes immediately due upon closure, regardless of the original remittance schedule. The acceleration clause transforms a daily obligation into a lump sum demand at the worst possible moment.
Bankruptcy May Be the Appropriate Path
For a business owner closing a company with MCA debt that exceeds the value of remaining assets and personal resources, bankruptcy provides the most orderly resolution. Chapter 7 liquidation permits discharge of eligible debts, potentially including the personal guarantee on an MCA. Chapter 11 reorganization, available under the streamlined Subchapter V for qualifying small businesses, permits restructuring of obligations while the business winds down or transitions.
Whether MCA debt is dischargeable in bankruptcy depends on the nature of the obligation and the specific terms of the agreement. Courts have addressed this question with varying conclusions, and the analysis requires a fact specific examination of each contract. The MCA funder will argue the obligation is not dischargeable. Your attorney will examine whether the agreement constitutes a loan, a true sale, or something between, and the characterization determines the discharge analysis.
Timing Determines Your Options
The business owner who consults an attorney before closing retains options that disappear after dissolution. Settlement negotiations conducted while the business is still operating carry different weight than negotiations conducted after the entity has dissolved and assets have been distributed. The funder’s willingness to accept a reduced settlement correlates with the perceived likelihood of full recovery, and a business in the process of closing represents a declining recovery prospect that the funder may prefer to resolve quickly.
A spring closure negotiated in January produces better outcomes than a spring closure announced in April. The funder who believes you have options behaves differently than the funder who believes you have none.
Closing a business is a decision that carries weight regardless of the financial circumstances. When MCA debt is part of the equation, the weight increases and the margin for error decreases. The personal guarantee, the UCC lien, the confession of judgment: these instruments were designed to survive the closure of the business, and they do.
A first conversation with an attorney who handles MCA defense costs nothing and clarifies what the closure process will actually involve. That clarity is worth more than assumptions, and assumptions are what most business owners carry into this process.
Related Articles
Your receptionist does not owe the MCA company anything. Your office manager signed nothing. Your warehouse staff made no personal guarantee. And yet the phone at the front desk rings, and a voice on the other end tells whoever answers that the business is in default, that legal action is imminent, that the owner should call back immediately or face consequences. This happens. It happens often enough that the pattern has become its own category of violation.
Inform Your Staff Immediately
The worst outcome is an employee who receives a threatening call and does not tell you about it. The second worst outcome is an employee who panics, provides information to the caller, or makes commitments on your behalf. Before either of those things happens, you need a brief, direct conversation with anyone who answers the phone at your business.
The message is simple. A collection company may call. They are not law enforcement. They have no authority to demand information. The only correct response is to take the caller’s name and number and hand the note to you. Nothing else. No confirmation that you are the owner. No discussion of the business’s financial condition. No promise that you will return the call.
This conversation takes five minutes. Its absence can cost considerably more.
Record the Calls
If your phone system permits recording and your jurisdiction allows it, activate the recording function. In one party consent states, the employee receiving the call is the consenting party, and no disclosure to the caller is required. In two party consent states, the employee must inform the caller that the conversation is being recorded before the recording begins.
The recording captures what the collector actually said, not what anyone remembers the collector having said three weeks later. Memories compress. Recordings do not. And the content of these calls, the threats, the misrepresentations, the implied authority, is frequently more extreme than what the caller would repeat in a courtroom.
Preserve Written Evidence of Every Contact
Ask each employee who received a call to write down what happened while the conversation is fresh. Date, time, caller’s name or identifying information, what was said, what was requested. If the contact came by email or text, preserve the original without forwarding it through a chain that might strip metadata. Screenshot it. Save it. File it somewhere that will not be accidentally deleted during a routine phone cleanup in April.
Written contemporaneous notes carry weight in litigation because they were created near the event, before the litigation itself shaped anyone’s recollection. A note taken on the day of the call is worth more, as evidence, than a detailed deposition answer given eighteen months later.
Engage an Attorney and Redirect Communication
Once counsel is retained, the collector must communicate with the attorney, not with you and certainly not with your employees. Your attorney sends a representation letter to the MCA company. The letter identifies the client, states that counsel has been retained, and directs all future communication to the attorney’s office. After receipt of that letter, each subsequent call to your business is a separate violation of the applicable collection statute.
The representation letter does not resolve the underlying debt. It does not settle the dispute. What it does is install a barrier between the collector and your employees that the collector cannot lawfully breach.
Assess Whether the Threats Constitute Criminal Conduct
A collector who tells your employee that the owner will be arrested has made a false statement about criminal process. A collector who tells your employee that the business will be “shut down by the authorities” has implied governmental action that is not occurring. Depending on jurisdiction, these statements may constitute criminal harassment, coercion, or making terroristic threats. The line between aggressive collection and criminal conduct is thinner than most collectors appreciate, and it is crossed more often than most borrowers realize.
If the statements made to your employees rise to a criminal level, a police report is appropriate. The report may not result in prosecution. It will, however, create an official record of the conduct that becomes admissible in any subsequent civil proceeding. And the existence of that police report changes the settlement conversation in ways that favor the borrower.
File Regulatory Complaints
The FTC, the CFPB, and your state’s attorney general office all accept complaints about collection practices that target employees. The complaint should include the name of the MCA company, the name of any collection firm involved, the dates of contact, and a summary of what was communicated to your employees. Attach recordings or written notes if available.
State regulators have taken an increasingly active posture toward MCA collection practices. The New Jersey Attorney General’s settlement with an MCA company over unfair and deceptive practices included specific findings related to the manner in which the company pursued collections. California’s DFPI has expanded its authority over commercial financing transactions. These agencies act on complaints. Filing one is not symbolic. It is functional.
Consider a Workplace Harassment Claim
Your employees have their own rights. An employee who is subjected to threatening, abusive, or intimidating phone calls at work may have a basis for a harassment claim independent of any claim you hold against the MCA company. The collector is creating a hostile work environment not for the debtor, but for third parties who have no involvement in the debt. That is a separate tort with its own elements and its own damages.
We acknowledge this is an aggressive legal theory. Not every jurisdiction has recognized it, and the case law is sparse. But the theory is sound, and in the right factual circumstances, it adds a dimension to the dispute that the MCA company did not anticipate.
Use the Evidence to Strengthen Your Negotiating Position
Everything documented in the steps above becomes leverage in the settlement conversation. An MCA company that threatened your employees has created exposure for itself that exists independent of whether you owe the underlying balance. The company knows this once your attorney communicates the evidence. And the company’s willingness to settle, and the terms on which it will settle, shift accordingly.
The pattern we observe is consistent. The MCA company begins collection with an assumption that the borrower will absorb the abuse and eventually pay. When the borrower instead documents the abuse, retains counsel, and presents the documented violations as the basis for counterclaims, the company recalculates. The recalculation favors the borrower nearly every time, because the statutory exposure from collection violations can exceed the amount of the underlying debt.
Eight actions, and most of them cost nothing except attention. The collector’s advantage is chaos. Your advantage is order. A filing cabinet, a phone log, an attorney’s letterhead. These are not dramatic instruments. They are effective ones.
If an MCA company has contacted your employees, we are available for a consultation at no cost. The conversation begins with what was said to your staff, and it moves toward what we can do about it.
Related Articles:
The business that cannot be saved can still be closed well. An assignment for the benefit of creditors offers a mechanism for that closing, one that operates outside the federal bankruptcy system, moves on a compressed timeline, and preserves more value for creditors than the alternative most owners assume is their only option. The ABC, as practitioners call it, has existed in American commercial law for over a century. It has never been more relevant than it is now.
You Choose the Assignee
In a Chapter 7 bankruptcy, the court appoints a trustee from a panel. The debtor has no voice in the selection. In an assignment for the benefit of creditors, the business selects the assignee, the individual or firm that will take title to the assets, liquidate them, and distribute the proceeds to creditors. This distinction matters more than any procedural comparison might suggest. The assignee who understands the industry, who possesses contacts among potential purchasers, who has conducted similar wind downs, will extract more value from the asset base than a generalist trustee working from a court appointment list.
We have seen the selection of an experienced assignee produce purchase prices for business assets that exceeded what a bankruptcy trustee obtained in a comparable liquidation by meaningful margins. The assignee’s reputation in the relevant market attracts bidders. A trustee’s appointment does not.
There Is No Automatic Stay
This is the fact that changes the calculus for businesses facing active litigation or aggressive collection. A bankruptcy filing triggers the automatic stay under Section 362, which halts all creditor action against the debtor and its assets. An ABC provides no such protection. Creditors may continue to pursue judgments, levy on assets, and enforce liens during the assignment process. For the business whose principal concern is stopping a particular creditor from seizing a particular asset, bankruptcy may be the necessary tool despite its costs.
The ABC trades the shield of the automatic stay for the speed of a process unencumbered by federal procedural requirements. Whether that trade favors the debtor depends entirely on what the creditors are doing at the moment the decision is made.
But for the business that has already ceased operations, or whose creditors are not actively litigating, the absence of the stay is an acceptable cost for the efficiency the ABC provides.
The Process Moves Faster Than Bankruptcy
A Chapter 7 case in a busy federal district can remain open for a year or longer. An ABC, depending on the jurisdiction and the complexity of the asset base, can reach substantial completion in ninety to one hundred eighty days. The assignee takes possession, markets the assets, conducts sales, and begins distributions on a timeline that the bankruptcy court’s docket cannot match. For the owner who has already made the decision to close, speed is not a luxury. It is the difference between preserving residual value and watching administrative costs consume it.
The compressed timeline also serves creditors. A vendor owed money by a defunct business would rather receive thirty cents on the dollar in four months than forty cents in eighteen. The time value of money is not an abstraction to the small creditor awaiting distribution.
The New Uniform Act Changes the Landscape
In October 2025, the Uniform Law Commission approved the Uniform Assignment for Benefit of Creditors Act, the first attempt to standardize ABC procedures across all fifty states. Before this Act, the process varied dramatically by jurisdiction. Some states required court supervision. Others did not. Some permitted asset sales free and clear of unsecured claims. Others imposed restrictions that made the process less attractive than bankruptcy. Nebraska has already enacted the uniform act, and legislators in Alabama, Arizona, Utah, Iowa, Oklahoma, Colorado, and West Virginia have introduced it in their respective chambers.
The Act establishes duties and powers for both assignor and assignee, creates a claims allowance process, addresses interstate assignments, and provides liability protections. As adoption spreads, the ABC will become a more predictable and therefore more attractive exit mechanism. The practitioner advising a distressed business in 2026 should know whether the client’s state has adopted the uniform act or still operates under common law or older statutory frameworks.
Assets Can Be Sold Free of Unsecured Debt
A purchaser acquiring assets through an ABC does not inherit the assignor’s unsecured obligations. This clean transfer is what makes the ABC viable as a going concern sale mechanism. The buyer obtains the equipment, inventory, intellectual property, and customer lists without the accounts payable, the disputed invoices, and the unsecured loan balances that made the business insolvent. The distinction between secured and unsecured matters here. Secured creditors retain their lien rights, and the sale proceeds are distributed according to lien priority before unsecured creditors receive anything.
This structure creates an incentive for strategic buyers. The competitor who has wanted to acquire the distressed business’s customer base or geographic footprint can do so through the ABC at a discount, without the Section 363 sale procedures and potential overbid mechanisms that accompany a bankruptcy asset sale.
Personal Guarantees Survive the Assignment
The ABC does not discharge the owner’s personal liability on guaranteed obligations. This is the fact owners most need to hear and least want to. The business entity’s assets transfer to the assignee, the unsecured debts that exceed the asset value are written off against the entity, but the personal guarantee on the commercial lease, the SBA loan, the MCA agreement, all of those survive. The owner remains liable in his or her individual capacity for the guaranteed amounts.
This reality means the ABC is a business exit strategy, not a personal debt resolution. The owner who completes an ABC and walks away from the entity may still face collection on the personal guarantees. A separate strategy, whether negotiation, settlement, or personal bankruptcy, may be required to address those residual obligations. I have watched owners proceed through an ABC without understanding this distinction, and the surprise that followed was not pleasant.
The ABC Preserves Privacy
A bankruptcy filing is a matter of public record, searchable through PACER, reported by credit agencies, and increasingly indexed by commercial databases that potential business partners, landlords, and lenders consult before extending credit. An ABC, particularly in states that do not require court supervision, generates far less public exposure. The assignment itself is a private contractual arrangement. The asset sales may attract market attention, but the distress that precipitated the assignment does not receive the same broadcast that a bankruptcy petition ensures.
For the owner who intends to start another business, and many do, the reduced stigma of an ABC relative to a bankruptcy filing creates practical advantages in the months and years that follow the closure. The question on the next lease application, the next credit application, the next vendor agreement, asks about bankruptcy. It does not ask about assignments for the benefit of creditors.
The decision between an ABC and bankruptcy is not one that should be made in isolation or under the pressure of a creditor’s deadline. It requires an assessment of the asset base, the creditor composition, the status of any pending litigation, and the owner’s personal exposure on guarantees. A consultation establishes which path preserves the most value and creates the cleanest exit for the owner who built the business and now must close it with care.
Related Articles
Slice Merchant Services operates at the intersection of payment processing and business funding, offering merchant cash advances alongside its point of sale systems. That dual role creates a relationship where the company that processes your transactions also finances your business and collects repayment from the same revenue stream it controls. The reviews from business owners who have experienced both sides of that arrangement reveal patterns that warrant careful examination.
The POS System and the MCA Are Connected
Slice does not function as a standalone MCA provider. The company’s merchant cash advances are offered to businesses already using its payment processing and POS infrastructure. That connection means the funder has direct visibility into the merchant’s daily transaction volume, a level of information access that most independent MCA companies must obtain through bank statements and third-party reports.
When the entity funding your advance also processes your credit card transactions, the dynamic shifts. The funder does not need to estimate your revenue. It observes your revenue in real time, every sale, every refund, every slow afternoon. That information asymmetry favors the funder in every subsequent negotiation, from initial pricing to reconciliation requests.
Equipment Contracts That Bind
Business owners report that Slice’s POS equipment comes with agreements extending to forty-eight months. The equipment lease and the merchant cash advance may operate as separate contracts, but their practical effect is unified. A business that wishes to exit its MCA relationship with Slice may find that doing so requires terminating the equipment agreement as well, at a cost that reportedly reaches five hundred dollars in early termination fees.
That termination fee creates a structural disincentive to leave. A merchant who is unhappy with the MCA terms must weigh the cost of exiting the equipment contract against the cost of continuing to repay an advance on unfavorable terms. The equipment agreement functions, in effect, as a retention mechanism for the MCA relationship.
Fee Transparency Complaints
The Better Business Bureau has recorded complaints about Slice over a rolling three-year period, and a recurring theme involves fees that the merchant did not anticipate. Processing fees, equipment costs, and MCA-related charges appear on statements in configurations that business owners describe as difficult to reconcile with what they were told during the sales process.
The invoice arrives with line items the conversation never mentioned. Each one is small. Together, they constitute a second cost of doing business that the merchant did not budget for.
When a business owner cannot reconstruct the basis for a charge from the terms disclosed at signing, the complaint transcends customer service. It enters the territory of disclosure obligations and, in some states, unfair business practices statutes.
Transaction Holds and Missing Funds
Among the more alarming complaints, business owners have reported instances where customer transactions were approved and customers were charged, but the corresponding funds were not transmitted to the merchant. The customer’s card was debited. The merchant’s account was not credited. The gap between those two events represents the merchant’s revenue, held by the processing company without apparent explanation.
Whether these instances reflect technical errors, compliance holds, or reserve requirements, the effect on the business is identical. Revenue that should have arrived did not. And when the same company holding those funds is also collecting daily MCA repayments from the merchant’s account, the practical impact compounds. The merchant loses revenue on one side while continuing to make payments on the other.
Sales Practices and Contract Discrepancies
Reviews describe a pattern where the terms presented during the sales process differ from the terms that appear in the executed contract. The salesperson emphasizes flexibility, low fees, and the convenience of integrated processing and funding. The contract contains termination fees, equipment obligations, and MCA terms that the conversation did not address with equivalent specificity.
This is not a complaint unique to Slice. It defines the MCA industry. But the integrated nature of Slice’s offering, where processing, equipment, and funding exist within a single vendor relationship, means the discrepancies accumulate within one contractual ecosystem rather than spreading across multiple providers.
Difficulty Canceling Services
Business owners who decide to exit their relationship with Slice report that the cancellation process is neither simple nor swift. Multiple contacts are required. Fees attach. Equipment must be returned according to specific procedures, and the MCA obligation persists independently of the processing relationship. A merchant who cancels payment processing does not thereby cancel the cash advance. The daily debits continue from the merchant’s bank account through ACH authorization even after the POS terminal goes dark.
Reconciliation Is Not Automatic
Despite Slice’s real-time visibility into the merchant’s transaction volume, business owners report that payment adjustments during revenue declines require the merchant to initiate the request. The system that can observe a thirty percent drop in daily sales does not automatically reduce the daily MCA debit by a corresponding amount. The merchant must ask. The asking requires documentation. The documentation requires time the struggling business may not possess.
One would expect that a funder with direct access to transaction data would automate reconciliation. That it does not suggests the fixed payment structure serves the funder’s cash flow requirements more than it serves the contractual framework of a receivables purchase.
The Integrated Model Creates Concentrated Risk
The eighth takeaway is structural. When one company processes your payments, leases your equipment, and funds your advance, the relationship concentrates risk in a single counterparty. A dispute with Slice affects your processing, your equipment, and your MCA simultaneously. There is no firewall between the funding relationship and the operational infrastructure of your business.
That concentration is not inherently unlawful. It is, rather, a design that demands more careful scrutiny before the merchant signs. After signing, when the integrated relationship produces the complaints described above, the path forward requires legal counsel experienced in MCA disputes and vendor contract review. A consultation is where that analysis begins, and it costs nothing to start.
Related Articles:
Disagreement with a UCC filing is not the same as helplessness. The Uniform Commercial Code provides a structured set of remedies for debtors who believe a filing is invalid, unauthorized, or no longer reflects a live obligation. The challenge is that these remedies require initiative. The system does not self-correct. A filing stays on the record until someone acts to remove it, and the burden of initiating that action falls on the debtor.
Challenge the Authorization
A UCC-1 financing statement can be filed only by a person who holds a security agreement authenticated by the debtor. That is the rule under Section 9-509. If no security agreement was ever signed, or if the agreement that was signed does not support the scope of the filing, the filing lacks authorization. This is the most direct ground for challenge, and it is the one that carries the clearest statutory remedy.
Challenging authorization begins with assembling the documentary record. Pull the filing from the secretary of state’s database. Compare it against every agreement you signed with the named secured party. If no agreement exists, the filing is unauthorized as a matter of law. If an agreement exists but describes narrower collateral than the filing claims, the filing exceeds its authorization and can be challenged on that basis.
The practical difficulty is that some MCA funders include UCC filing authorization buried in the terms of a revenue purchase agreement. The debtor may not recall signing it. The agreement may have been presented electronically with minimal review time. But if the authorization is there, however obscurely placed, the filing has a legal basis, and the challenge must shift to other grounds.
Attack the Debtor Name
Article 9 requires that the financing statement provide the correct legal name of the debtor. Under Section 9-503, the name on the filing must match the debtor’s name as it appears on the organizational documents filed with the state, or for individuals, as it appears on the debtor’s driver’s license. An error in the debtor’s name can render the filing “seriously misleading” under Section 9-506, which means it is ineffective as a perfected security interest.
This is a technical defense, but a powerful one. Courts have invalidated filings over missing corporate suffixes, misspelled names, and incorrect entity designations. In In re Borden, a bankruptcy court held that a filing against “Borden” when the debtor’s legal name was “Borden, Inc.” was seriously misleading and failed to perfect the security interest. The secured party lost its priority position because of a missing three letters.
If the filing against your business contains a name error, that error may be the fastest path to rendering the filing legally ineffective.
Use the Formal Demand and Accounting Request
Section 9-210 provides a mechanism called a Request for Accounting. The debtor sends an authenticated request to the secured party asking for a statement of the aggregate unpaid amount of the secured obligation, an identification of the collateral, and an approval or correction of a list of collateral. The secured party must respond within 14 days.
The accounting request serves two purposes. First, it forces the secured party to state, on the record, what it claims the debtor owes and what collateral it claims. If the secured party’s response is inconsistent with the terms of the original agreement, or if the response reveals that the obligation has been satisfied, the debtor has evidence to support a termination demand. Second, if the secured party fails to respond, the debtor can use that failure to support a claim for damages under Section 9-625.
The accounting request is an underused tool. It shifts the burden of explanation to the creditor and creates a documentary record that can be used in court.
File a Correction Statement and Pursue Statutory Damages
When the secured party refuses to terminate the filing, the debtor has two concurrent options. The first is a correction statement under Section 9-518, which places a notice on the public record that the debtor disputes the filing. The second is a claim for statutory damages under Section 9-625, which imposes a minimum recovery of five hundred dollars for each instance of noncompliance, plus actual damages if provable.
These remedies work together. The correction statement alerts third parties to the dispute, potentially mitigating ongoing commercial harm. The damages claim provides an economic incentive for the secured party to cooperate. Some secured parties who ignore demand letters respond when they learn that their refusal to terminate exposes them to liability that exceeds the value of the original transaction.
And here is where the strategy becomes layered. The debtor files the correction statement, sends the statutory demand for termination, documents the 20-day waiting period, and then initiates the damages action. Each step builds on the last. Each step creates a record that makes the debtor’s position stronger in court.
Litigate the Underlying Obligation
Sometimes the dispute is not about the filing itself but about the debt it secures. If the underlying transaction was unconscionable, if the MCA agreement was a disguised loan that violates usury statutes, or if the funder breached the terms of the agreement, the debtor may have grounds to void the obligation entirely. And if the obligation is void, the security interest that depends on it falls with it.
This is the most aggressive strategy and the most resource-intensive. It requires litigation on the merits of the underlying transaction, not just the mechanics of the filing. But for debtors who believe the entire deal was fraudulent or unenforceable, it is the strategy that addresses the root cause rather than the symptom.
A 2024 ruling in New York addressed an MCA agreement that a court recharacterized as a criminally usurious loan. The court voided the agreement, and the funder’s UCC filing, which depended on a valid security interest arising from that agreement, lost its foundation. The debtor obtained a court order directing termination of the filing.
Each of these strategies carries different costs, timelines, and probabilities of success. The right approach depends on the specific facts: whether the filing is authorized, whether the debtor name is correct, whether the obligation is disputed, and how much commercial harm the filing is causing. A consultation with an attorney who handles UCC disputes is where the analysis begins. That first call carries no obligation and no fee.
Related Articles
Split withholding is the arrangement that MCA funders prefer you never fully understand. Under this structure, your credit card processor diverts a fixed percentage of every transaction to the funder before you see the money. The deduction happens upstream. By the time revenue reaches your account, the funder has already been paid.
For the funder, this mechanism offers something that direct ACH debits cannot: a collection method that operates without your active involvement and, in many cases, without your daily awareness. For the business owner, it creates a relationship between three parties where the interests of two are aligned against the third.
How the Split Actually Works
In a split withholding arrangement, the MCA company does not withdraw funds from your bank account. Instead, it instructs your credit card processor to divide your daily card receipts according to a specified percentage. The funder’s share goes directly to the funder. Your share goes to your account. The split is automatic, and it occurs at the processor level before settlement.
The percentage is fixed at the time of funding. Whether you process a strong day or a weak one, the same proportion is withheld. On paper, this means repayment fluctuates with revenue. In practice, the percentage was calculated based on projected volume, and when actual volume falls below those projections, the dollar amount withheld may be tolerable even as the percentage consumes an increasingly painful share of your actual margin.
The psychological effect is distinct from ACH debits. With a direct withdrawal, you watch the money leave your account. With split withholding, you simply receive less than you earned. The difference in visibility is not accidental.
The Processor Becomes a Gatekeeper
Once a split withholding arrangement is in place, your credit card processor occupies a position of significant control over your cash flow. The processor has agreed to divert funds to the MCA company, and that agreement typically exists between the processor and the funder, not between you and the processor. You are a party to the MCA agreement. You may not be a party to the split instruction.
This matters when you want to change the arrangement. Contacting your processor to request that the split be modified or terminated may produce no result, because the processor’s obligation runs to the funder, not to you. Some processors will honor a merchant’s request to stop the split. Others will refuse unless the funder provides written authorization. Others still will simply direct you to speak with the funder.
I represented a restaurant owner last autumn who attempted to change credit card processors to escape a split withholding arrangement. The MCA agreement contained a provision prohibiting the merchant from switching processors without the funder’s consent. The provision was buried on page fourteen of the contract.
The funder designed this arrangement to be difficult to disrupt. Understanding that design is the first step toward disrupting it effectively.
Split Withholding and the Loan vs. Purchase Distinction
Whether an MCA constitutes a purchase of future receivables or a disguised loan is the central legal question in this industry. Split withholding arrangements have occupied an unusual position in that analysis. Courts have sometimes viewed the split mechanism as evidence that repayment is genuinely contingent on revenue, because the funder receives less when the merchant processes less. If card sales decline, the dollar amount diverted declines proportionally.
But that analysis does not always hold. When the MCA agreement also includes a personal guarantee, a confession of judgment, a prohibition on changing processors, and a requirement that the merchant maintain a minimum processing volume, the contingency begins to look theoretical rather than real. The funder has constructed a system where the risk of nonpayment is distributed entirely to the merchant, regardless of the split’s nominal connection to revenue.
A court evaluating your specific agreement will examine the totality of its terms. The split withholding mechanism, standing alone, does not determine the transaction’s legal character. The terms that surround it do.
Switching Processors Is Not Simple
The most direct way to interrupt a split withholding arrangement would appear to be changing your credit card processor. If the split instruction lives at the processor level, removing the processor removes the mechanism. But MCA agreements anticipate this maneuver. Nearly every agreement I have examined contains a provision that either prohibits the merchant from changing processors during the repayment period or requires the funder’s written consent before any change.
Violating that provision constitutes a breach of contract and, in most agreements, an event of default. Default triggers the same cascade of consequences that applies to any other breach: acceleration of the remaining balance, activation of personal guarantees, enforcement of UCC liens, and, where applicable, filing of confessions of judgment.
There are circumstances where switching processors is the correct tactical decision. When the MCA agreement is subject to a viable usury challenge, or when the funder has itself breached the agreement, the contractual prohibition against switching may be unenforceable or moot. But that determination requires legal analysis specific to your agreement and jurisdiction. Switching without that analysis invites consequences that could have been avoided.
Your Rights Are Not Absent, But They Require Assertion
Even within a split withholding arrangement, you retain the right to demand reconciliation if your revenue has declined. You retain the right to request a complete accounting of all amounts withheld to date. You retain the right to challenge the agreement’s characterization if its terms suggest it is a loan rather than a purchase. And you retain the right to engage counsel to evaluate the agreement’s enforceability under the laws of your state.
Virginia, California, and New York have each developed distinct bodies of law governing MCA transactions, and the regulatory landscape continues to shift. Virginia’s 2022 registration and disclosure requirements for MCA funders introduced protections that did not previously exist. California’s disclosure requirements under its commercial financing disclosure law impose obligations on funders that affect how split withholding arrangements must be documented. The ground is moving beneath this industry, and the movement favors merchants.
None of these rights self-execute. A reconciliation clause means nothing until you invoke it. A usury defense means nothing until you raise it. A disclosure violation means nothing until you identify it and present it to a court. The architecture of the split withholding arrangement is designed to make the funder’s collection seamless. Your response must be designed with comparable precision.
A conversation with an attorney who handles MCA disputes is the most efficient way to determine which rights apply to your particular arrangement and how to exercise them in the correct sequence. Our office provides that consultation at no charge. The call is where the analysis begins.
Related Articles
Wisconsin’s criminal usury statute caps interest at eighteen percent for licensed lenders. That number matters, because most merchant cash advance agreements, once their effective annual cost is calculated, exceed it by a factor of five or ten. The gap between the statutory cap and the actual cost of a typical MCA defines the legal terrain on which Wisconsin business owners can contest these agreements. Seven options deserve examination.
Recharacterization and the Usury Cap
The Wisconsin Consumer Act requires licensing for any entity that charges more than eighteen percent annual interest. MCA funders avoid this requirement by structuring their agreements as purchases of future receivables rather than loans. The distinction is not as stable as the funders would prefer. When a Wisconsin court examines the substance of the transaction and finds that the repayment amount is fixed, that the daily withdrawals bear no relation to actual revenue, that the reconciliation clause has never been exercised, the court may determine that the agreement functions as a loan regardless of its label.
Once recharacterized, the funder faces two problems simultaneously. The first is the usury violation: an unlicensed entity charging rates that exceed the statutory cap. The second is the licensing violation: a lender operating in Wisconsin without the required Consumer Act license. Either problem alone creates meaningful exposure. Together, they produce the kind of legal position that makes settlement attractive.
Challenging the Confession of Judgment
Wisconsin law restricts the enforcement of confessions of judgment. The provision appears in many MCA agreements because those agreements are drafted in New York, where confessions of judgment were historically the preferred enforcement mechanism. A Wisconsin business owner who signed an agreement containing such a clause holds a defense that undermines the funder’s ability to obtain a judgment without litigation.
If a judgment has already been entered in New York based on a confession of judgment, Wisconsin courts will examine the underlying procedure before domesticating it. The analysis turns on whether the New York procedure comports with Wisconsin public policy. In many cases, it does not.
ACH Revocation
The mechanical step that produces the most immediate relief is the revocation of ACH authorization. NACHA operating rules permit the account holder to revoke the authorization that enables daily withdrawals. The revocation is a right, not a breach of contract, though the funder will characterize it otherwise.
For the Milwaukee restaurant owner watching thirty percent of daily revenue disappear before the bank opens, the revocation transforms the situation from passive extraction to active negotiation. The funder must now pursue collection through conventional channels, which means filing a lawsuit, which means submitting the agreement to judicial scrutiny that the funder structured the transaction to avoid.
The revocation does not eliminate the debt. It eliminates the funder’s preferred method of collection. That shift in method changes everything that follows.
Wisconsin Consumer Act Violations
Beyond the interest rate cap, the Wisconsin Consumer Act imposes disclosure requirements, prohibits certain unfair practices, and provides remedies for violations that include actual damages, statutory penalties, and attorney fees. The Act was designed to protect borrowers from predatory lending practices, and its provisions apply with particular force when an MCA is recharacterized as a loan.
The disclosure obligations are specific. A lender must provide written notice of the total cost of credit, the annual percentage rate, and the repayment schedule in a format that permits meaningful comparison. MCA funders, operating under the assumption that their agreements are not loans, rarely provide these disclosures. The omission becomes a violation once the recharacterization argument succeeds, and the statutory penalties for disclosure violations are imposed per transaction.
Negotiated Restructuring
A competent negotiation begins with the legal analysis, not with the settlement offer. When an attorney can articulate the recharacterization argument, identify the Wisconsin Consumer Act violations, and quantify the funder’s exposure, the negotiation proceeds from a different starting point than the one the funder anticipated.
We restructure these obligations into fixed monthly payments at rates that reflect the actual risk profile of the business. The funder’s alternative is litigation in which its agreement will be examined under the usury statute, the Consumer Act, and the recharacterization doctrine. That alternative is expensive and uncertain. Most funders prefer the restructuring.
The results vary, but settlements in the range of forty to sixty cents on the dollar are common where the legal exposure is genuine.
Chapter 128 Receivership
Wisconsin offers a state receivership option under Chapter 128 that provides an alternative to federal bankruptcy. The proceeding permits a court-appointed receiver to manage the debtor’s assets, negotiate with creditors, and implement a repayment plan that reflects the business’s actual capacity. For Wisconsin businesses that want to avoid the stigma and expense of federal bankruptcy, Chapter 128 provides a mechanism for structured relief.
The receivership does not carry the same automatic stay as a federal bankruptcy filing, but it provides a framework within which MCA obligations can be addressed alongside other debts. The receiver’s authority to negotiate on behalf of the business concentrates the creditors’ attention and reduces the bilateral pressure that makes individual negotiation difficult.
Federal Bankruptcy Protection
When the aggregate MCA burden exceeds what negotiation and restructuring can address, Chapter 11 reorganization remains available. The automatic stay halts all collection activity. The daily withdrawals cease. The funder becomes a creditor in the proceeding, subject to the court’s jurisdiction and the reorganization plan’s terms.
For Wisconsin small businesses, the Subchapter V provisions of Chapter 11, designed for entities with debts below a specified threshold, reduce the cost and complexity of reorganization. The business owner retains control, proposes a plan within ninety days, and can restructure MCA obligations along with other debt in a single proceeding.
Bankruptcy is the option that most business owners want to avoid. Sometimes it is the option that circumstances demand. In Wisconsin, the availability of Chapter 128 as an alternative means that federal bankruptcy truly is the last resort, deployed only when the situation requires the full protection of the automatic stay.
The seven options above are not sequential. They are not mutually exclusive. The right combination depends on the terms of the agreement, the conduct of the funder, the number of advances outstanding, and the financial condition of the business. Wisconsin law provides the tools. An attorney determines which ones fit the situation.
A consultation is where that determination begins. A first call costs nothing and assumes nothing.
Related Articles
Behind every merchant cash advance sits a contract. Behind many of those contracts sits another one: the participation agreement. This second document governs who actually owns the receivables your business sold, how decisions about your account are made, and why the funder on the phone may lack the authority to resolve your situation.
What a Participation Agreement Is
A participation agreement is the contract between the MCA originator and the investors who funded all or part of your advance. Under a true participation structure, the investor acquires the right to receive payments exclusively from the MCA provider. The investor holds no direct interest in the underlying merchant contract. Under a co-funder structure, each investor becomes a pro rata owner of the receivable purchase itself, holding a defined percentage share of both the risk and the return.
The distinction matters, though not to the borrower’s daily experience. The money still leaves your account on the same schedule. But the distinction determines who makes decisions when the arrangement breaks down.
The Borrower Is Not a Party to It
You will not see the participation agreement. You will not sign it. You will not be told it exists. The contract you signed is between your business and the originator. The participation agreement is between the originator and its investors. These are separate legal relationships, and the second one governs the first in ways that remain invisible until a dispute arises.
This invisibility is not an oversight. It is a feature of the structure. The participation agreement allocates risk and return among the funding parties. The merchant agreement allocates obligation to the business owner. The two documents operate in parallel, and the borrower stands on only one side of that parallel.
Securities Law Hangs Over the Entire Structure
The question that regulators have been circling for years is whether MCA participation interests constitute securities under federal law. Under the Reves test, a note or investment instrument is presumed to be a security unless it bears a close resemblance to a category of instruments that courts have recognized as falling outside the securities laws. MCA participations do not fit neatly into any of those recognized exceptions.
The Howey test presents a related challenge. If investors contribute money to a common enterprise, with the expectation of profits derived from the efforts of others, the instrument is an investment contract. A passive investor in an MCA deal contributes capital, expects returns, and relies entirely on the originator to underwrite, fund, collect, and distribute. The argument that this is not an investment contract requires a certain creativity.
The originator calls it a participation. The investor calls it an opportunity. The SEC may eventually call it an unregistered security.
No definitive ruling has settled the question across the industry. But the legal architecture is fragile, and both the Florida bankruptcy cases involving MCA firms with nationwide investors and the enforcement trajectory of the New York Attorney General suggest the regulatory patience is thinning.
Participation Agreements Affect Settlement Negotiations
When a business owner attempts to settle an MCA obligation, the participation agreement determines whether the originator can accept the offer. Some participation agreements grant the originator discretion to settle within a predefined range. Others require investor approval for any deviation from the original terms. A few require unanimous consent among all participants.
The practical effect is delay. An attorney sends a settlement offer. The originator reviews it, then consults the investors. The investors may be individuals with no staff, no urgency, and no experience evaluating merchant distress. Weeks pass. The daily debits continue. The borrower’s cash position deteriorates while the decision circulates through a chain the borrower cannot see or influence.
I have encountered situations where an originator expressed willingness to settle but could not obtain investor approval within any reasonable timeframe. The deal sat in limbo. The business did not.
Default Triggers May Differ
The merchant agreement defines what constitutes default from the borrower’s perspective: missed payments, bank account closure, breach of covenant. But the participation agreement may define a separate set of triggers that govern the originator’s obligations to its investors. If the originator fails to collect at a certain rate, or if delinquency across its portfolio exceeds a threshold, the participation agreement may require accelerated action against individual merchants.
What this means in practice is that a borrower who is current on payments may still find the originator behaving aggressively, because the originator’s obligations to its investors demand a posture that the merchant’s performance alone would not justify. The participation agreement creates pressure that flows downhill.
Disclosure Is Minimal
California and New York have enacted commercial financing disclosure requirements that oblige MCA providers to share certain cost information with borrowers. These disclosures address the total repayment amount, the estimated annual percentage rate, and other terms of the merchant agreement itself. They do not require disclosure of the participation structure behind the deal.
A borrower in New York receives a disclosure form that details the factor rate, the total purchase price, and the estimated APR equivalent. Nowhere on that form does it state that the advance is funded by eleven individual investors through a participation agreement that restricts the originator’s ability to modify terms. The disclosure regime addresses the transaction. It does not address the ownership.
Why This Matters for Your Strategy
Understanding participation agreements changes the approach to MCA disputes. A borrower who knows the deal is participated will pursue different settlement tactics than one who assumes a single funder holds the entire position. The attorney representing the borrower will structure the offer differently, anticipate different objections, and plan for a longer timeline.
The existence of a participation agreement also opens questions about whether the originator properly represented the nature of the transaction to its investors, whether the investors were properly qualified, and whether the participation itself was offered in compliance with applicable securities regulations. These questions do not resolve the borrower’s immediate cash flow crisis. But they introduce pressure on the originator from a direction the originator would prefer to avoid.
Participation agreements are the architecture behind the architecture. They determine who profits, who decides, and who absorbs the loss when a merchant cannot perform. The borrower who understands this structure enters negotiations with more information than the originator expects.
A consultation with counsel experienced in MCA structures is where that understanding begins. The call is free.
Related Articles