Factor Rate to APR: What a Merchant Cash Advance Really Costs

Factor Rate to APR: What a Merchant Cash Advance Really Costs

Merchant cash advances and many short-term business loans are quoted with a factor rate such as 1.3 instead of an interest rate. A 1.3 factor rate on $50,000 means you repay $65,000, so it is tempting to read it as "30% interest". It is not. Because you start repaying within days and the balance shrinks quickly, the same $15,000 cost works out to an annual percentage rate (APR) of roughly 55% over 12 months, and over 100% over 6 months.

This guide shows how to convert a factor rate into APR with worked numbers, what changes the result, and the questions to ask before you sign. Our business loan calculator handles normal amortizing loans; this page covers the factor-rate products it does not model.

How a factor rate works

The math of the offer itself is simple:

• Total repayment = amount funded × factor rate. $50,000 × 1.3 = $65,000.
• Cost of funding = total repayment − amount funded. $65,000 − $50,000 = $15,000.
• Payment = total repayment ÷ number of payments. Over 12 months of business-day payments (about 252), that is $65,000 ÷ 252 = $257.94 a day. Weekly over 52 weeks, it is $1,250 a week.

Unlike a loan's interest, the $15,000 is usually fixed. It does not shrink if you pay early, unless the contract has a written early-payoff discount.

Why the APR is so much higher than the factor rate

A factor rate charges the full cost on the full amount for the full term. But with daily or weekly payments you only have the whole $50,000 for the first few days. On average over a 12-month term you hold about half of it. Paying $15,000 for the use of roughly $25,000 for a year is why the APR lands near double the "30%".

The APR below is the rate at which the payments exactly repay the amount funded (the standard annuity calculation, payments per year × the per-payment rate):

All six examples are for $50,000 funded:

• Factor 1.30, 12 months, 252 daily: $257.94/day, total cost $15,000, APR about 54.8%.
• Factor 1.30, 12 months, 52 weekly: $1,250.00/week, total cost $15,000, APR about 54.1%.
• Factor 1.30, 6 months, 126 daily: $515.87/day, total cost $15,000, APR about 109.3%.
• Factor 1.20, 6 months, 126 daily: $476.19/day, total cost $10,000, APR about 74.8%.
• Factor 1.15, 4 months, 84 daily: $684.52/day, total cost $7,500, APR about 85.0%.
• Factor 1.40, 12 months, 252 daily: $277.78/day, total cost $20,000, APR about 71.3%.

Two patterns stand out:

1. The shorter the term, the higher the APR for the same factor. 1.3 over 6 months costs the same $15,000 as over 12 months, but you have the money for half as long, so the APR doubles.
2. A "low" factor on a short term can be the most expensive deal. 1.15 over 4 months sounds cheap and costs only $7,500, but at 85% APR it costs more per dollar per year than 1.3 over 12 months.

A quick rule of thumb for level daily or weekly payments: APR ≈ 2 × (factor − 1) ÷ term in years. For 1.3 over one year that gives 60%, close to the exact 54.8%. Use it to sanity-check an offer on the phone, then work out the exact figure before you sign.

Fees change the real number

Origination or "underwriting" fees are usually taken out of the money you receive, but the factor applies to the full amount. If the $50,000 at 1.3 over 12 months has a 3% fee:

• You receive $50,000 − $1,500 = $48,500.
• You still repay $65,000, in the same $257.94 daily payments.
• Your total cost is $16,500, and the APR rises from 54.8% to about 61.5%.

Always calculate APR on the cash that actually lands in your bank account.

Compared with a normal term loan

For scale, a 12-month amortizing loan of $50,000 at 30% APR has monthly payments of $4,874.36 and costs $8,492.28 in interest. At 12% APR, payments are $4,442.44 and interest is $3,309.27. The 1.3-factor advance over the same 12 months costs $15,000, almost twice the 30% APR loan and more than four times the 12% loan. You can check any of these loan figures in the business loan calculator.

That does not mean factor-rate funding is never worth it. It is fast, often approved on sales history rather than credit, and some advances flex with your card sales. But it should pay for something that earns more than it costs: inventory you will sell within the term at a solid margin, or equipment that brings in revenue straight away.

Will the advance pay for itself?

Work backwards from the cost. Using the 1.3 factor example, you need the $50,000 to generate at least $15,000 of extra profit (not sales) over the term just to break even.

• If you buy inventory with a 40% gross margin, you need $15,000 ÷ 0.40 = $37,500 of extra sales from it within the year just to cover the cost.
• If the money covers payroll during a slow month and does not create new sales, it is a pure cost, and a cheaper line of credit or a payment plan with suppliers is almost always better.

The profit margin calculator and the cash flow forecast calculator help you check whether the daily payment fits: $257.94 every business day is about $5,416 a month (21 business days) coming out before anything else is paid.

Questions to ask before you sign

1. What is the total repayment, and what will actually be deposited? Get both numbers in writing.
2. What is the APR or estimated APR? California and New York require many commercial financing providers to disclose an estimated APR; elsewhere, ask, or calculate it yourself as above.
3. Is there an early payoff discount? Without one, paying early saves nothing.
4. Are payments fixed, or a percentage of card sales? A percentage (a "holdback") slows down in a bad month; a fixed daily debit does not.
5. Can the provider stack another advance on top? Two daily debits at once is the most common way businesses get into trouble with this kind of funding.
6. Is there a personal guarantee or a confession of judgment? Have a lawyer read anything that lets the provider collect without going to court.

Bottom line

Convert every factor rate to an APR before comparing offers. A rough doubling (2 × the factor's percentage ÷ the term in years) gets you close; the list above shows the exact figures for common deals. If the APR is above what a bank line of credit, an SBA loan or even a business credit card would charge, use the cheaper option if you can qualify, and save factor-rate money for short, profitable uses you can repay comfortably.

Related: cash flow management basics · how to forecast cash flow for 90 days · payback period calculator