Merchant Cash Advance Held to Be a Purchase of Accounts Receivable, Not a Loan
A bankruptcy case from the Northern District of Georgia offers useful insight for firms that provide financing under a merchant cash advance agreement. The case arose from a suit by the debtor against a finance company that purchased $210,000 of the debtor’s accounts receivable for $150,000 prior to the bankruptcy filing. The debtor alleged, among other things, that the debtor had no liability to the finance company because the merchant cash advance agreement was a criminally usurious loan under New York law (which governed the merchant cash advance agreement). The debtor argued that the merchant cash advance agreement was structured in such a way that the occurrence of an Event of Default was inevitable, thus creating an obligation to pay 100% of the Purchased Amount as opposed to a contingent payment based on the collectability of the Purchased Amount of the receivables.
The court held that the finance company was not liable for criminal usury because its transaction with the debtor was not a loan, but rather a purchase of the debtor’s accounts receivable. The court reasoned that the agreement “bears all of the hallmarks of a sale of future receivables and not a loan”, including that the finance company expressly assumed the risk of collectability of the accounts, the agreement included a provision that allowed the daily debit amount to be adjusted once a month, the debtor’s filing of bankruptcy was not a default, and the agreement did not contain a fixed term of repayment. Click here to read more about the case and its implications.
Practice Pointer: The Georgia bankruptcy decision highlights the importance for firms that provide merchant cash advance financing to include provisions in their finance agreements that are consistent with a purchase of accounts receivable as opposed to a loan. So long as the agreement does not create a disguised loan, it should be upheld in accordance with its terms.
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