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Before handing over delinquent customer accounts to a collection agency, many small businesses make their own attempts to secure overdue payments. How successful they are largely depends on the debt collection system they have in place. Knowing how to effectively collect outstanding customer debt is an important tool that will improve your small business cash flow and help to maintain the general health of your small business.

The following is a brief guide to effective, internal debt collection:

• Create a clear credit policy. Outline the terms and conditions for establishing credit with your company, as well as the actions that will be taken when accounts are overdue. You should make sure to make this policy available to your customers, especially when an account is overdue, so that they know clearly what to expect.

• Assertive collection strategy. Being assertive in your collection efforts will send a clear message to your unpaid customers that you are up-to-date and in control of the situation. You can, for example, make a collection call a few days before an account’s due date, and then again a few days after the due date has passed. You should also discourage extended payments unless you have good reason to believe, based on past experience, that a customer will come through on the account.

• Review collection process. Your collection process should change to suit current economic or market conditions. When the economy is in a downturn, make sure you protecting your business against loss. This means have stricter requirements to buy on credit (like requiring a down payment at purchase). You should also step up your collection procedures by, for example, shortening the pay period and strengthening collection tactics.

• Keep accurate records. Make sure that you maintain clear, accurate, and up-to-date credit files and payment histories on each of your customers. You should also follow-up on any changes in payment patterns.

• Keep up communication. As long as the lines of communication are open there is always the chance that you will reach an agreement and receive some or all of the money owed to you. While you need to be firm, it does not mean that you should be rude or disrespectful. Doing so will only backfire on you. You can try meeting your customer in person to discuss a payment schedule.

• Know your options. You need to know what your options are if you are unable to collect the outstanding debt. You can, for example, try to find a good collection agency. This will give you piece of mind, and will allow you to quickly move the debt through your business so you can focus on other things.

You may also be able to claim part of the loss on your tax return. (Tax Code IRC 166, Reg. 1.166). You can not deduct any lost profits, nor money owed for services rendered, but you will be able to deduct the cost of the goods sold

Though offering customer lines of credit has become standard practice among small businesses across various industries, many businesses these days are finding themselves rich in outstanding receivables, but poor in cash flow. When in-house debt collection fails to reign in unpaid customer debt, a small business may want to consider hiring the assistance of a professional collection agency.

When to Use a Collection Agency

If you are on top of your billing process, then once a bill is overdue it should set in motion a series of actions, such as sending out statements and collection letters and making phone calls. If the debt remains unpaid after a reasonable amount of time has passed (usually between two to three months past the due date), then it should be handed over to a collection agency.

Keep in mind that timing can make a big difference when it comes to collecting on overdue accounts. Statistically, the likelihood of collecting on an unpaid account drops to 73% after three months have passed. If the unpaid account is over three months, then the probability of cashing in drops dramatically to 57% after six months, and to only 29% after one year.

What to Look for in a Collection Agency

Collection agencies are in the business of collecting unpaid debt, so they generally have the tools and the knowhow to get the job done. But not all collection agencies are equal.

The first thing you need to do is make sure that the collection agency is either a member of the Association of Credit and Collection Professionals or the Commercial Law League of America. Both of these organizations require that their members adhere to a strict code of ethics and business practices. Member agencies are also required to maintain a bond in the minimum amount of $300,000 for the protection of the companies they serve.

The next major factor is the collection agency’s recovery rate. You need to find out the percentage of unpaid debt that the collection agency expects to return to you. You should ask the collection agency to provide you with its “net back” figure. Net back means the amount of money returned to a company from the unpaid accounts after the agency has received its fee.

You should also ask the collection agency to give you a list of references. You could place a couple of calls to the businesses on this list and find out how satisfied they were with this particular agency.

When All Else Fails…

If you try to recover a debt, but are unsuccessful, you may be able to claim part of the loss on your tax return. (Tax Code IRC 166, Reg. 1.166). You can not deduct any lost profits, nor money owed for services rendered, but you will be able to deduct the cost of the goods sold.

When customers do not pay on time, it can take a big chunk out of a small business’ working capital. This added financial strain can put a small business in a difficult situation. It is well known that small business success is closely associated with the ability to maintain enough working capitol to pay for operation and growth. Therefore, being able to get the money tied up in outstanding customer receivables is essential for the business to thrive.

The following are a few tips on how you can get the money that your customers owe you:

• Streamline your billing system: If you want to maximize the money you get from outstanding customer receivables, then the first step to is to make sure that your billing system is running efficiently. You need to have a clear and accurate accounting of what is happening with your customer receivables. There are several accounting software programs on the market, such as QuickBooks, that can help you keep track of who has paid and automatically alert you when bills are overdue.

It is also good business practice to clearly record when you send out any written requests for payment or make any phone calls.

• Create a plan of action: You should have a set strategy for handling any overdue bills. This strategy will include when written requests for payment will be sent out, when phone calls will be made, and at what point the debt will be handed over to a collection agency.

• Offer incentives for early payment: Alternatively, you can try to make paying on time attractive to customers by offering discounts on the amount owed. Some customers will find that it is worth it to pay on time in order to take advantage of the price break.

• Reevaluate terms of payment: If you see that most of your customers are consistently paying their bills late, then you may want to reevaluate and adjust your terms of payment. Perhaps you can extend the payment period, but require an initial down payment at purchase.

• Factor accounts receivables: If your business is suffering from a cash shortage due to the amount of outstanding customer receivables it is sitting on, then you may want to consider factoring them. With account receivables factoring, a business sells its receivables at a discount to a factor company. The factor company, in turn, provides the business with instant payment.

Another benefit of factoring your accounts receivables is that once the factor company purchases the invoices, it becomes responsible for collecting the outstanding debt.

• Send bills to a collection agency: When a debt is overdue past a certain period then the best option may be to hand it over to a collection agency. Just keep in mind that the longer you wait, the less likely it will be for you to receive your money.