What is Collection Agency?
A company hired by a business to recover unpaid debts from clients or customers who have failed to pay outstanding invoices.
Definition
A collection agency is a business that specializes in pursuing payments on unpaid debts owed to other businesses or organizations. When a business has exhausted its own collection efforts (sending invoices, reminders, and follow-up calls) without success, it may hire a collection agency to recover the debt. Collection agencies have specialized knowledge of debt collection laws, negotiation strategies, and legal processes. They typically work on a contingency fee basis — meaning they receive a percentage of the debt they successfully collect, and if they collect nothing, they receive no payment.
How Collection Agencies Work
The collection process typically follows these stages: The original creditor (business) attempts to collect payment using in-house methods such as invoices, reminder emails, and phone calls. If these efforts fail after a defined period (often 60–90 days), the creditor may engage a collection agency. The agency receives the debt information and begins contact attempts via phone, mail, and email. The agency may negotiate a payment plan or settlement with the debtor. If successful, the agency collects payment and remits the amount (minus its fee) to the original creditor. If traditional collection fails, the agency may recommend legal action.
Types of Collection Agencies
Collection agencies are broadly categorized as: First-Party Agencies — these are often an in-house extension of the original creditor's billing department, operating under the creditor's name to collect debts directly; Third-Party Agencies — independent collection agencies that collect debts on behalf of creditors, operating under their own name and using their own collection methods; and Debt Buyers — companies that purchase debts from original creditors at a discount and then pursue collection independently, keeping the full amount recovered as profit. The specific approach and legal obligations vary depending on which type of agency is handling the debt.
Using a Collection Agency as a Business Owner
Before engaging a collection agency, take these steps: Exhaust internal collection efforts — send at least 2–3 payment reminders and make phone contact before escalating; review your contract terms and ensure the client agreement supports collection efforts; consider offering a payment plan as an alternative to formal collection; understand the fee structure — contingency rates typically range from 25–50% depending on the age and size of the debt and whether it is first-party or third-party collection; check that the agency is licensed in your state (collection agencies must be licensed in many states); and choose an agency with experience in your industry.
Debt Collection Laws
In the United States, collection agencies are primarily governed by the Fair Debt Collection Practices Act (FDCPA) at the federal level, which sets standards for how collection agencies may contact debtors, what they may say, and what practices are prohibited. Most states also have their own debt collection laws that provide additional protections. Businesses collecting their own debts (rather than using an external agency) are not covered by the FDCPA but may be subject to state consumer protection laws. Contractors and freelancers collecting business-to-business debts generally face fewer regulations, but should still follow professional, lawful collection practices.