When traditional banks tighten their lending criteria, small and medium-sized businesses (SMBs) often turn to alternative financing to address gaps in working capital, purchase inventory, and maintain payroll. For decades, the Merchant Cash Advance (MCA) industry has helped fill this void, providing businesses with access to alternative sources of funding.
Because an MCA is typically structured as a purchase of future receivables rather than a traditional loan, the industry has historically operated differently from traditional bank lending and been subject to different regulatory requirements. This lack of regulatory consistency has raised concerns about complex contract terms, less transparent pricing, high-frequency daily withdrawals, and potentially significant annualized costs.
However, California has emerged as a national pioneer in reshaping the commercial finance landscape. If you operate a business in California, or if your financing agreement is subject to California law, you may be subject to some of the nation’s most comprehensive commercial financing disclosure requirements and other applicable protections.
As an extension of our general Merchant Cash Advance Regulation Guide, this comprehensive breakdown explores the specific rules governing MCAs in California. At Coastal Debt Resolve, our priority is empowering business owners through education. Understanding these regulatory frameworks can be an important first step in managing your cash flow and making informed decisions about your commercial debt.
1. The Pioneer of Transparency: California SB 1235
For years, MCA funders commonly quoted their capital using "factor rates" rather than Annual Percentage Rates (APRs). A factor rate is structured as a multiplier, such as 1.3 or 1.4. It tells a business owner the total repayment amount, but because it does not account for the timing of repayment, it can make determining the annualized cost of the capital more difficult.
California was the first state to mandate commercial financing disclosures of this kind. On September 30, 2018, California enacted Senate Bill 1235 (SB 1235). This legislation established commercial financing disclosure requirements applicable to certain transactions, including certain sales-based financing transactions. Following a multi-year rulemaking process, the California Department of Financial Protection and Innovation (DFPI) issued final regulations that took effect on December 9, 2022.
The Requirements of the Commercial Financing Disclosure Law
The core purpose of SB 1235 and the resulting DFPI regulations is to provide business owners with standardized cost and financing disclosures, enabling them to better understand and compare different commercial financing offers.
The disclosure requirements apply to providers extending covered commercial financing offers equal to or less than $500,000, subject to applicable exemptions and other requirements. Before a covered transaction is finalized, the funder is generally required to provide disclosures addressing several key metrics, including:
- The total amount of funds provided: The total amount of financing the business will receive.
- The total dollar cost of financing: The aggregate cost of the financing, including applicable underwriting, origination, administrative, and other fees required to be included under the regulations.
- The estimated Annual Percentage Rate (APR): The estimated cost of the financing expressed as an annualized rate.
- The term or estimated term: The term or estimated duration of the financing, as applicable.
- The method, frequency, and amount of payments: A breakdown of the method and frequency of payments, including applicable daily or weekly payment amounts.
- A description of prepayment policies: Information regarding the provider’s prepayment policies, including whether prepayment may result in additional costs or potential savings as applicable.
By requiring MCA providers to disclose an estimated APR alongside traditional factor rates, California regulators have translated complex financial mechanics into a standardized metric, significantly changing how commercial financing is disclosed and marketed in the state.
2. The Usury Loophole: Why MCAs Avoid Interest Rate Caps
To fully understand California's regulatory environment, it is important to understand how MCAs interact with the state's usury laws. California’s basic usury laws are established in Article XV of the California Constitution and generally limit the interest rate that may be charged on certain loans or forbearances, subject to applicable exemptions.
So, how can some MCA providers in California offer financing with effective APRs that may exceed 50%, 100%, or even 200%?
They achieve this through a key distinction. A merchant cash advance is generally structured as the purchase of a specified amount of a business's future receivables in exchange for an upfront lump-sum payment. Because these transactions are typically structured as purchases of future revenue rather than traditional loans, MCA funders may take the position that they do not fall under the same usury laws that generally apply to loans.
However, California law does not automatically accept this characterization at face value. Just because a contract is labeled an "MCA" does not necessarily mean it will be treated as one. As discussed below, courts may look beyond the label to the substance of the transaction and the surrounding circumstances when determining whether it operates as a purchase of future receivables or a loan.
3. The True Sale vs. Disguised Loan
A substantial issue in MCA-related litigation in California is whether a transaction is a genuine purchase of future receivables or, despite its characterization, operates as a commercial loan.
If a California court determines that a transaction characterized as an MCA actually operates as a loan, the transaction may be recharacterized and become subject to applicable usury and lending rules. To determine the true nature of the transaction, California courts generally look beyond the label of the agreement and examine the substance of the transaction and the surrounding circumstances.
When evaluating whether a transaction operates as a purchase of receivables or a loan, courts consider several factors, including:
A. The Right to Reconciliation
A true purchase of receivables generally involves the funder assuming some risk. If the business's sales drop, the payments should correspondingly adjust. Courts may look for a meaningful reconciliation provision, including whether the contract gives the business a genuine right to have its payments adjusted when revenues decline. If payment remains fixed regardless of actual sales, that may be one factor considered when evaluating whether the transaction operates more like a loan.
B. Fixed vs. Indefinite Terms
True sales of receivables generally do not have a strictly fixed repayment period. Because repayment is contingent on the rate at which the business generates future receivables, the duration of the transaction varies. By contrast, a rigid repayment obligation requiring a specified amount to be repaid within a fixed period more closely resembles characteristics associated with a traditional loan.
C. Absolute Recourse and Personal Guarantees
In a true sale, the funder generally assumes some risk that future receivables may not materialize as anticipated. Courts may consider whether the funder bears that risk or whether the agreement provides substantial recourse against the business or other parties. Some MCA agreements also include personal guarantees that may provide the funder with additional recourse if the business defaults. The scope and effect of a personal guarantee depend on the specific agreement and applicable law, and the existence of a guarantee may be one factor considered when evaluating the overall nature of the transaction.
4. Expanding Protections: Debt Collection and The Rosenthal Act
Even with disclosure requirements at the time of funding, business owners may still face significant challenges if their business experiences financial difficulties and defaults on an MCA. Because commercial debt has historically been excluded from many consumer protection laws, certain consumer debt collection protections have not traditionally extended to commercial financing obligations.
California has recently taken steps to curb these collection practices. Under Senate Bill 1286, California amended its Rosenthal Fair Debt Collection Practices Act. Effective July 1, 2025, this amendment extends certain consumer-like collection requirements and restrictions to covered commercial debt of $500,000 or less where the debtor is a natural person who guarantees the commercial obligations, subject to the law’s specific requirements.
For covered commercial debt, the Rosenthal Act prohibits or restricts certain collection practices, such as:
- Threatening certain actions against the business owner that are prohibited by law.
- Using obscene, profane, or threatening language.
- Communicating with third parties (like vendors or clients) in a manner intended to harass or embarrass the debtor regarding the debt.
- Making certain false or misleading representations about the character, amount, or legal status of the debt.
- Communicating with the debtor at certain unusual or unreasonable times or places.
These expanded protections represent a significant shift in California’s commercial debt collection landscape, providing covered commercial guarantors with important protections against certain collection practices.
5. The Misuse of UCC Liens in California
While disclosure laws and collection protections are important, they do not eliminate one of the MCA industry's significant leverage tools: the Uniform Commercial Code (UCC) lien.
When a California business takes an MCA, some funders file a UCC-1 financing statement in connection with a security interest granted under the MCA agreement. This public filing generally provides notice of the funder’s claimed security interest in the specified business assets. In the MCA space, the collateral described in the agreement may be broad and can include accounts receivable and other business assets.
If a business defaults on an advance in California, the funder may seek to use its UCC lien to secure its interests in the collateral. The enforcement of a UCC lien may pose severe potential risks to the business:
- Access to Additional Capital: It may become more difficult to obtain additional, lower-cost financing while a UCC-1 filing remains active, particularly where a bank or other prospective lender seeks a first-priority security interest in the company's assets.
- Funder Collection Efforts: A funder may have the ability to pursue its collateral in the event of default, depending on the agreement and applicable circumstances. In some cases, this may involve communications with the business's payment processors or customers concerning accounts receivable or other amounts owed to the business.
- Priority Disputes and Ongoing Encumbrances: A business may face priority disputes with other secured creditors, and in some cases, UCC filings may remain active even after the underlying obligation has been paid or is disputed.
Furthermore, if a business owner transfers assets with the intent to hinder, delay, or defraud creditors, the transfer may be subject to challenge under California's Uniform Voidable Transactions Act. If a court finds that assets were transferred to hinder, delay, or defraud creditors, it may void the transfer and order the assets returned. Whether a particular transfer may be voided, and what remedies may be available, depends on the specific circumstances and applicable law.
6. Navigating MCA Debt with Coastal Debt Resolve
California's regulatory environment has shifted toward greater transparency and protections for small and medium-sized businesses. From the DFPI's commercial financing disclosure requirements under SB 1235 to the expansion of certain Rosenthal Act collection protections, business owners now benefit from additional disclosure requirements and protections within California’s commercial financing landscape.
However, it is important to recognize the limitations of these laws. Transparency requirements primarily assist businesses before they enter into a financing agreement. If you are already in a cycle of high-frequency daily MCA withdrawals that are negatively affecting your operating cash flow, understanding the regulatory landscape is only the first step. You may also need a strategic plan for addressing your existing MCA obligations.
At Coastal Debt Resolve, we focus on MCA debt restructuring. We do not issue loans, nor do we attempt to temporarily mask the problem with reverse consolidations. Instead, our experienced negotiators work directly with business owners to understand their existing MCA obligations and pursue potential restructuring and settlement options.
We work toward potential reductions in principal balances and restructuring high-frequency daily ACH withdrawals into more manageable payment schedules. Our goal is to negotiate with MCA funders toward potential resolutions for less than the outstanding balances, depending on each business’s individual circumstances and creditor participation. Drawing on our experience with MCA agreements and California’s commercial financing landscape, we communicate directly with funders to help business owners work toward greater control over their cash flow and more manageable MCA obligations.
If your California business is struggling with unmanageable MCA obligations, you do not have to navigate the commercial debt resolution process alone. Contact Coastal Debt Resolve today at (888) 707-7177 for a free, confidential consultation. Let our debt advisors review your MCA agreements, analyze your business’s cash flow, and help you better understand potential options for addressing your commercial debt.
DISCLAIMER: Coastal Debt Resolve is not a law firm and does not provide legal, financial, or professional advice. Services are provided exclusively to businesses, not consumer or personal debt relief. Results vary based on individual circumstances, creditor participation, and other relevant factors, and outcomes are not guaranteed.
Frequently asked questions
Under California law, commercial financing providers, including Merchant Cash Advance companies, are required to provide clear disclosures before a contract is signed. Enforced by the Department of Financial Protection and Innovation (DFPI), these rules mandate that funders clearly state the total cost of financing, the estimated annual percentage rate (APR), and the payment schedule.
Generally, if an MCA is structured as a true purchase of future revenue, it is not classified as a loan under California law. This means that standard state usury laws, which cap interest rates on traditional loans, typically do not apply to these agreements. The specific terms in your contract, such as the true-up or reconciliation clause, determine how the advance is regulated.
California law generally prohibits the use of Confessions of Judgment against businesses operating within the state. However, because many MCA contracts are drafted under the laws of other states, jurisdictional disputes can still arise. It is important to review your specific agreement to understand how these jurisdictional clauses might impact your business.
Defaulting on your daily or weekly payments without a strategy can lead to severe collection tactics, such as frozen bank accounts or UCC liens. California business owners can seek professional commercial debt restructuring to help negotiate with funders. The goal of restructuring is to work toward a sustainable payment schedule that supports your operating cash flow without taking on new loans.
