Updated July 28, 2023
What is a Collection Agency?
The term “collection agency” refers to the third-party entities employed by lenders or creditors to recover funds either in default or past due. Typically, a lender hires a collection agency after having made several futile attempts at collecting its receivables. Once hired, it makes independent efforts to recover the pending payments by taking appropriate steps and actions.
How Does Collection Agency Work?
When a debtor defaults on its debt or misses scheduled loan payments, the lender reports the delinquency to a credit bureau. Then within 3 to 6 months of the default, the debt is turned over to a collection agency.
a) If the Borrower Pays
Suppose the collection agency can recover the debt successfully. In that case, the lender who hired it pays a certain percentage of the recovered fund in exchange for its collection effort.
b) If the Borrower Doesn’t Pay
Suppose the collection agency cannot recover the debt. In that case, it usually updates the debtor’s credit report with a “collection” status that deteriorates the debtor’s credit score, which can potentially affect the debtor’s chances of getting a loan in the future.
Several federal laws bind third-party collection agencies; some of their rules and regulations are as follows.
- Calls: Collection agencies are allowed to call the borrowers only between 8 a.m. and 9 p.m. Further, the agencies can’t call the borrowers if their employer doesn’t permit outside calls during office hours.
- Mail: Collection agencies can send emails, but not postcards, as their content would be visible to others. In the case of letters, the envelopes shouldn’t include any language or logo identifying them as being from collection agencies.
- Contacting friends and family: If a collection agency doesn’t have the borrower’s contact details, it allows one to contact the borrower’s friends and family. However, the agency is forbidden from revealing its identity to the relatives or discussing any aspect of the indebtedness with them.
- Disclosure: Collection agencies must disclose their identity to the intended borrowers – who they are and what they should do to collect the debt.
- Threats and obscenity: Collection agencies are not supposed to threaten or use profanity against borrowers. They are also prohibited from publicizing the borrowers’ situation.
How to Start a Collection Agency?
To start, it is important to follow the steps mentioned below.
1. Understand the Prerequisites of Opening a Collection Agency
The legal requirements vary significantly based on the state where one intends to operate – each state has unique needs. Firstly, they should register within their state. Later it can register and possibly get licenses in other states too.
2. Learn About the Various Debt Collection Laws
Plenty of laws govern the actions of It, and each state has different rules and regulations. So, one must research to learn about the various debt collection laws. Some of the major federal laws that a collection agency must comply with include Gramm-Leach-Bliley Act (GLBA), Telephone Consumer Protection Act (TCPA), Health Insurance Portability and Accountability Act (HIPAA), Fair Credit Reporting Act (FCRA), and Fair Debt Collection Practices Act (FDCPA).
3. Plan out Capital and Operating Expenses
The prospective collection agency must plan and arrange the capital required to complete the initial phase. After that, it needs to plan the operating expenses for the first 2-3 years – basic office supplies, salaries, and other operating expenses. Further, registration costs, obtaining necessary licenses & bonds, marketing, and securing clients should also be factored into the expenses. The costs would vary based on the number of states one intends to operate in.
4. Acquire Collection Agency Bonds and Debt Collection Licenses
Despite some variations from one state to another, the process of acquiring collection agency bonds and debt collection licenses is large as follows:
- Assign a registered agent in every state for which one has a Certificate of Authority. A Certificate of Authority can be acquired from the State level Secretary, and it contains important information about the business, such as its official name, name of the owners, legal status, etc.
- Some states mandate Collection Agency Bonds as part of the licensing process. A Collection Agency Bond is usually involved if the agency recovers the creditor’s money but fails to remit the funds.
- After acquiring the Certificate of Authority and Collection Agency Bond (if required), one can apply for the debt collection license.
Tips for Dealing
It is difficult to deal with collection agencies, but it can be managed with some strategy. Here are some tips that can help deal with collection agencies:
- The borrowers must learn about their rights per the relevant debt collection laws. They should immediately contact the Consumer Financial Protection Bureau if the rules are violated.
- It is difficult to confront collection agencies, but ignoring their calls or notices will only worsen things. As such, speaking to them and tackling the problem head-on is advisable.
- The borrower should try to take control of the conversation, and he/ she shouldn’t agree to anything in the initial contact. Then, the borrower should collect the relevant information and set up a follow-up call with the collection agency.
- If the borrower can pay the debt and it is the best option. Otherwise, the borrower can negotiate a payment plan with the collection agency that suits both parties.
Some of the key takeaways of the article are:
- It is a third-party entity that creditors and lenders hire to recover their funds either in default or past due.
- Several debt collection laws regulate the actions of collection agencies. These laws govern what they can do and what they can’t do.
- To start, one needs to understand the prerequisites of opening the business, learn about the various debt collection laws, plan out capital and operating expenses, and acquire collection agency bonds & debt collection licenses.
So, it can be seen that collection agencies are an important part of any banking system as it aids in the recovery of bad loans. These agencies have their own set of rules and regulations that govern their actions. Several collection agencies are available, and lenders or creditors should choose any collection agency based on their specific requirements.
This is a guide to Collection Agency. Here we discuss the definition, working, and how to start a Collection Agency along with regulations and tips. You may also have a look at the following articles to learn more –