Accounts Receivable Dictionary

What is a Collection Agency?

A collection agency is a company that pursues payments on debts owed by individuals or businesses. They work as agents of creditors and collect debts for a fee or percentage of the total amount owed.

Importance in Accounts Receivable

Collection agencies play a crucial role in accounts receivable management. They help businesses recover debts that are hard to collect, thereby improving cash flow and reducing the burden of bad debts. Businesses often turn to collection agencies when their internal collection efforts have failed.

In Practice

When a debt becomes significantly past due, a company may hire a collection agency to recover the money. The agency contacts the debtor through letters, emails, and phone calls, informing them of the debt and requesting payment. If efforts fail, the agency may report the debt to credit bureaus or even take legal action, depending on the severity and amount of the debt.


For instance, a retail business may have several delinquent accounts from customers who purchased items on credit but failed to pay within the agreed timeframe. After exhausting internal collection efforts, the business hires a collection agency to recover the outstanding amounts.

Related Terms

  1. Debt Collector: An individual, agency, or company that is in the business of recovering money owed on delinquent accounts.
  2. Debt Recovery: The act of collecting payment from customers who have an overdue bill.
  3. Third-Party Collections: Collections performed by an external agency, not the original creditor.


When should a business consider using a collection agency?

A business should consider using a collection agency when its internal efforts to collect a debt have been unsuccessful. This usually happens when the debtor is significantly late on payments, typically 90 to 180 days past due. However, the timing can depend on the company's specific policies and the nature of its business. It's important to weigh the costs and potential recovery of using a collection agency versus writing off the debt.

What are the legal limits a collection agency must adhere to when collecting a debt?

In the United States, the Fair Debt Collection Practices Act (FDCPA) governs the conduct of third-party collection agencies. Some of the legal limits include:

- They must not contact the debtor at inconvenient times or places, such as before 8 a.m. or after 9 p.m., unless agreed by the debtor.
- They are prohibited from using harassing or abusive practices to collect a debt.
- They cannot use deceptive methods or make false representations to collect a debt.
- They must not contact the debtor if they know the debtor is represented by an attorney.
- They must cease communication if the debtor sends a written request asking them to do so.

It's important to note that these regulations can vary by country, so it's crucial to understand the specific laws in the country where the collection activity is taking place.

How do collection agencies affect a debtor's credit score?

When a debt is sent to a collection agency, it typically has a negative impact on the debtor's credit score. The collection account may appear on the debtor's credit report, indicating that the original creditor has given up on collecting the debt and has outsourced it to a third party. This can make it more difficult for the debtor to obtain credit in the future, as it signals to potential creditors that the debtor has a history of not paying their debts. The impact on the credit score depends on various factors, including the scoring model used and the rest of the debtor's credit profile.


Collection agencies are an essential tool for businesses in managing their accounts receivable and maintaining a healthy cash flow. While they are often seen as a last resort, their expertise and dedicated resources can make a significant difference in recovering hard-to-collect debts. Understanding when and how to use a collection agency can help businesses optimize their accounts receivable management strategy.