Stuck in the Middle – UCC Notices from Merchant Cash Advance Companies  

03.05.2024

Assume your company owes money to a vendor of goods or services.  Pretty much everyone in business has monthly bills to pay.  But what do you do when your company receives a letter from a new company, instructing you not to pay your vendor but instead to pay the sender of the letter?  The letter explains that your vendor has assigned your account to the new company, so that what you owe is a debt that now belongs to the new company.  The letter goes on to warn that if you ignore it and pay your vendor, you will still remain liable to the new company.

If you receive a letter like the one described above, there’s a decent chance it comes from a “merchant cash advance” company (an MCA) that has provided financing to your vendor and is now trying to collect what it’s owed. 

What are MCAs?

MCAs are a breed of finance company that provide funding to  small (and typically distressed) businesses in need of cash to cover short-term expenses.  Financing  from an MCA differs from a traditional loan provided by a bank or other lender.  A typical bank loan is just that: the lender advances funds, the borrower agrees to repay the loan (plus interest) over time (say 12 months in monthly installments), and the borrower grants the lender a lien (also known as a security interest) in the borrower’s accounts receivable as security for repayment.   

MCA financing is technically not a loan.  Instead, it is, in theory, at least, a “purchase” by the MCA of a fixed amount of its client’s future accounts receivable.  The MCA may, for instance, purchase $200,000 of its client’s future accounts receivable (effectively the client’s future revenues) in exchange for a lump sum payment of, for example, $150,000.  The client is then required to remit its future revenues, often on a daily basis, to the MCA until the MCA receives the full $200,000 it purchased.  If the rate of return on MCA financing is calculated in terms of a percentage (similar to an interest rate), the effective percentage return rate on MCA financing can be staggering, sometimes well over 100 percent per annum.

Whether MCA financing should be treated as a purchase of future revenues rather than a disguised form of loan has been a matter of controversy in the courts.  The implications can be significant.  For instance, a loan may be subject to state usury laws, limiting the interest that can be charged, while a true purchase of future accounts might not be. 

It should come as no surprise that MCA clients (who typically did not qualify for a more traditional loan from a bank or other lender) struggle to satisfy their obligations to their MCA.  When an MCA client (i.e., your vendor of goods or services) fails to remit the (daily) amounts due, the MCA will often send a notice to the client’s own customers (i.e. your company), advising that what you owe the vendor must be paid to the MCA and not to your vendor.

Notices Sent by MCA’s

A letter from an MCA demanding payment of what your company owes to a vendor should not be ignored.  If the letter is properly “authenticated”  under the Uniform Commercial Code (the UCC), then your company is required to remit payment to the MCA and not your vendor.  Payment to your vendor after receiving an authenticated demand for payment will not discharge your company’s obligation to pay the MCA, exposing you to double liability.

The question then becomes what is authenticated notice?  And how do you know if notice is sufficient?

Sufficiency of Notice

Under section 9-406 of the UCC (which has been enacted in some form in all 50 states), authentication can normally be satisfied by sending the notice on the MCA’s letterhead or on a form upon which the MCA’s name appears.  Notices do not have to be signed by the MCA client (again, your vendor).

Options Going Forward

If you have any question as to the sufficiency of a notice from an MCA, the UCC contains a remedy.  You can require the MCA to “timely provide reasonable proof of an assignment” under section 9-406 the UCC.  If the MCA fails to furnish reasonable proof, then a company may remit payment to its vendor even if it initially received a valid notification of the MCA’s claim. 

Being stuck between an aggressive MCA and a vendor seeking payments from its customers to fund operations can put  customers of the vendor in a difficult position.  Hirschler’s bankruptcy and creditor’s rights team has experience advising all parties to MCA transactions and disputes.  Let us know how we can help.