What Is a Collection Policy for a Business?

A collection policy provides a structured framework for businesses to manage outstanding payments. This formal document outlines procedures and guidelines for pursuing overdue accounts, ensuring consistent and fair treatment. Its primary purpose is to maintain healthy cash flow, which is essential for financial stability. By defining how and when to address unpaid invoices, a business can reduce bad debt and improve its financial health.

Core Components of a Collection Policy

A comprehensive collection policy includes specific details regarding payment expectations and the process for addressing delinquencies. It establishes clear payment terms, such as “net 30” days, and specifies due dates for invoices. The policy also defines grace periods, if offered, which allow a brief extension before an account is considered overdue.

The policy outlines initial contact methods for overdue accounts, which might involve automated email reminders or phone calls. It specifies the frequency and timing of follow-up communications. The policy also details escalation procedures, indicating when more formal actions are required, such as sending certified letters or involving a senior manager.

Criteria for account write-offs are also established within the policy, setting conditions under which an uncollectible debt is formally removed from accounts receivable. This occurs if collection efforts have been exhausted over a period and recovery is unlikely. The policy also assigns internal roles and responsibilities for collection activities, clarifying which department or individual handles initial contacts, escalations, or decisions regarding external collection agency referrals.

Stages of Debt Collection within a Policy

A collection policy guides a chronological progression of efforts to recover overdue payments, starting with gentle reminders and escalating as time passes. Early-stage actions commence shortly after an invoice becomes overdue, often within 1 to 10 days. These actions frequently involve sending automated email reminders or a polite phone call, serving as a soft reminder. The goal at this stage is to prompt payment without alienating the customer.

Mid-stage actions begin if payment is not received within 11 to 45 days, indicating a persistent oversight. These steps involve more formal communications, such as sending reminder letters or making follow-up calls with increased frequency. The tone may become firmer, emphasizing the overdue status and potential consequences like late fees. This stage aims to secure payment before the debt becomes significantly aged.

Late-stage actions are initiated when an account remains unpaid for an extended period, typically 46 to 90 days. These actions include sending formal demand letters, which state the intent to pursue further action if payment is not received. The policy dictates when an account might be referred to an internal legal department for review or to an external collection agency. Referral to a third-party collection agency, governed by the Fair Debt Collection Practices Act (FDCPA) for consumer debts, means the original creditor typically sells the debt or engages the agency on a contingency basis.

Developing a Collection Policy

Creating a robust collection policy begins with assessing a business’s current practices and identifying common payment issues. This initial step involves analyzing past due accounts to understand patterns, such as frequent delays from certain customer segments or specific invoice amounts. Defining clear objectives for the policy is also important, whether the goal is to improve cash flow by a certain percentage, reduce the average collection period, or maintain positive customer relationships while pursuing payments.

Involving relevant stakeholders across the organization, such as finance, sales, and customer service departments, ensures the policy is practical and considers various perspectives. For example, sales teams can provide insights into customer payment behaviors, while customer service can highlight common billing inquiries that lead to delays. Drafting the policy document requires careful articulation of all components, ensuring clarity, consistency, and compliance with applicable regulations, such as those related to consumer credit or billing disputes.

Once drafted, the policy must be communicated internally to all employees involved in the billing and collection process, providing necessary training on its implementation. External communication of payment terms and late payment policies to customers, often through contracts or invoices, is also important to set expectations upfront. Establishing a regular review process for the policy, perhaps annually or semi-annually, allows for adjustments based on changing business needs, economic conditions, or regulatory updates, ensuring its continued effectiveness.