What Is a Collection Agency?

A collection agency is a company used by lenders, or creditors, to recover funds that are past due, or from accounts that are in default. Often, a creditor will hire a collection agency after it has made multiple failed attempts to collect its receivables. A lender may outsource the debt-collection activity to a third party (the collection agency), or it may have an internal department or a debt-collection subsidiary that would handle the job.

How do Collection Agencies Work?

When a borrower defaults on his debts or fails to make scheduled loan payments, the creditor will report this delinquency to a credit bureau. Then, not only will the borrower's credit history be tarnished, but his debt will be turned over to a collection agency within three-to-six months of default.

When a borrower pays...

If the borrower pays his debt as a result of the collection agency's efforts, then the creditor pays the collection agency a percentage of the funds, or assets, that it recovers. Depending on the original agreement entered into with the creditor, the debtor may have to pay the full debt all at once, or a portion of it at a time.

When a borrower does not pay...

If the borrower still will not, or cannot cover his arrearage, the collection agency can update the borrower’s credit report with a "collection" status, which leads to a drop in the individual’s credit score. A low credit score can affect a person's chances of obtaining a loan in the long term, as an account under debt collection can remain on their credit report for seven years.

Collection agencies deploy multiple strategies to try to retrieve funds, such as

  • Calling the debtor’s personal and office telephones
  • Mailing numerous late-payment notices to the debtor
  • Contacting a debtor’s family, friends, and neighbors to confirm the debtor’s contact information
  • Appearing at the individual’s front door

Debt Collection Agency Regulations

Third-party collection agencies—but not creditors' in-house collection departments—are bound by the Fair Debt Collection Practices Act (FDCPA), of which we cite some rules below.

A debt collector may not

  • Proceed to collect an old debt that has been charged off as "uncollectible"—the debtor has either filed or bankruptcy, or cannot be located
  • Sue or threaten to sue a borrower because of his debt
  • Legally seize assets from a debtor—unless the collection agency has won a lawsuit against a debtor
  • Physically harm or threaten to harm a debtor in an attempt to extract a payment
  • Contact an individual at work if they have explicitly stated that their employer does not approve of such calls

A debt collector may

  • Attempt to collect a debt on which the statute of limitations—usually lasts between four and six years from the first day of default—has run out
  • Call an individual between 8 a.m. and 9 p.m. only
  • Contact the debtor’s employer about overdue child support and alimony, federal student loans, or taxes