What Is a Third Party? How Their Role Works and Examples

What Is a Third Party?

A third party is an individual or entity that is involved in a transaction but is not one of the principals and, thus, has a lesser interest in the transaction. An example of a third party would be the escrow company in a real estate transaction; the escrow party acts as a neutral agent by collecting the documents and money that the buyer and seller exchange when completing the transaction.

A collection agency may be another example of a third party. If a debtor owes a creditor a sum of money and hasn't been making the scheduled payments, the creditor is likely to hire a collection agency to ensure that the debtor honors his agreement.

Key Takeaways

  • Third parties work on behalf of one or more individuals involved in a transaction.
  • In the case of a real estate transaction, an escrow company works to protect all parties in the transaction.
  • In the case of third party debt collection, the third party sides with the lender to recover as much of the outstanding debt as possible and is incentivized accordingly.
  • Third party is also used to refer to outsourcing certain functions to an outside company to ensure efficient service for clients.

How a Third Party Works

A third party may also refer to an entity that a company uses to mitigate risk. For example, small investment firms face difficulty entering the industry when large firms continue leading the competition. One reason large firms grow more quickly is because they invest in middle- and back-office infrastructure. To stay competitive, many smaller firms outsource those functions as a method of gaining a greater share of the marketplace.

Small firms save time and money by leveraging scalable infrastructure with variable costs for trade operations, data storage, disaster recovery, and system integration and maintenance. By outsourcing middle- and back-office solutions, small firms take advantage of technology and processes for more efficient task completion, maximum operating efficiency, reduced operational risks, decreased reliance on manual processes, and minimal errors. Operational costs are reduced, compliance is enhanced, and tax and investor reporting improve.

Example of a Third Party

Real Estate Escrow Company

A real estate escrow company acts as a third party to hold deeds, documents, and funds involved in completing real estate transactions. The company deposits the funds in an account on behalf of the buyer and the seller. The escrow officer follows the directions of the lender, the buyer, and the seller in an efficient manner when handling the funds and documentation involved in the sale. For example, the officer pays authorized bills and responds to the principals’ authorized requests.

Although the escrow process follows a similar pattern for all homebuyers, the details differ among properties and specific transactions. The officer follows instructions when processing the escrow and, upon meeting all written requirements, delivers the documents and the funds to the appropriate parties before closing the escrow.

Collection Agency

A company may hire a collection agency for securing payment of company debt. Company invoices or initial customer contracts typically state at which time a collection agency may be used for securing outstanding payments. Some businesses can carry debt for years, whereas others expect payment within 90 days. The schedule depends on the market and the company’s relationship with the client.

When a business would pay more in court fees than the amount of the debt itself, the business may utilize a collection agency’s services instead of filing a lawsuit. The agency may pay the business 10% or less for each outstanding invoice, or it may agree to a large percentage of commission for recovered debts. The agency consolidates the company’s debt and goes to work recovering the outstanding balances.

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