Collection policy refers to the procedure the firm follows to collect the past-due account. It is the procedures that a firm follows in attempting to collect accounts receivables. Accounts receivable payments are the main contributor to liquidity, cash flow and the working capital requirements of a business.
A balance must be struck between the costs and benefits of different collection policies. Changes in collection policy influence sales, the collection period, the bad debt loss percentage, and the percentage of customer who takes discounts. It is designed to maximize earnings and profit from sales revenue and minimize exposure to slow paying customers and trade losses ensuring strong cash and working capital position.
Collection policy goals can take a liberal or conservative approach to collections, allowing that to define their collections procedures. An example of the steps a company can take involves a friendly phone call to make sure payment is made on time, followed by a firm phone call when a payment is late, followed by a threatening letter, and lastly turning the client over to a collection agency.