What it means
When a borrower stops paying, a lender eventually writes the debt off its books as a loss. It may then sell the account to a debt buyer for a small percentage of the amount owed.
The buyer tries to collect, even years later. Most countries have a limitation period, which is a time limit after which a creditor can no longer sue to collect a debt.
The length varies by country, by region and by type of debt. Once it expires, the debt may still exist, but the creditor generally cannot win a court case to force payment.
The danger is that the buyer may try to revive the debt. In some places, a small payment or a written acknowledgement can restart the limitation clock, giving the collector a fresh legal right to sue.
Collectors may also have incomplete records, so the amount or even the debtor may be wrong. Good practice is to ask for written proof of the debt, including who owns it, how much is owed and the date of the last payment.
Debtors should avoid making a payment or admitting the debt until they have checked the facts and the rules that apply. Consumer protection agencies and qualified advisers can explain what collectors are allowed to do.
For businesses, the topic matters in two ways. Companies that hold old receivables should review whether they are still collectable, and finance teams should write off stale balances properly.
Companies that buy old debt need systems that keep accurate records and follow collection laws, since breaching them brings fines and damages.
In practice
Real-world examples.
Example
A consumer receives a letter claiming $4,200 for a credit card account closed nine years ago. She does not pay. Instead, she writes asking for proof of the debt, the date of the last payment and the name of the original lender.
Example
A small business owner finds that a customer owes $15,000 on invoices that are six years old. His accountant explains that the limitation period may have expired, and that suing would likely fail. He writes the balance off against profits.
Example
A debt buyer's compliance team reviews its collection scripts after a regulator warns the industry about threatening time-barred debt. It adds a statement that the debtor cannot be sued for the old balance. It also trains staff not to ask for token payments that restart the clock.
Formula
Calculation
Purchase price = Face value of debt x Price paid per dollar
Break-even recovery rate = Price paid per dollar (ignoring collection costs)
A debt buyer purchases a portfolio of old accounts with a face value of $1,000,000 for 3 cents on the dollar. The price is 1,000,000 x 0.03 = $30,000. To break even, the buyer must collect $30,000, which is a recovery of 30,000 / 1,000,000 = 3% of the face value. Every dollar collected beyond that, less collection costs, is profit.Case study
Seen in the real world.
Greystone Recovery is an illustrative, fictional debt buyer that purchases $5,000,000 of old consumer accounts for 2 cents on the dollar, a price of $100,000. It expects to recover 6% of the face value, or $300,000, and spends $120,000 on collection costs. The expected profit is 300,000 - 100,000 - 120,000 = $80,000.
Many of the accounts turn out to be past the limitation period. Greystone's legal team advises that it cannot sue on these accounts, so it changes its approach to offer voluntary settlements with clear disclosure. Recoveries fall to 4%, or $200,000.
The result is 200,000 - 100,000 - 120,000 = -$20,000, a loss. The illustrative lesson is that the economics of old debt depend on what the law allows the buyer to do. For consumers, the same lesson is that a stale debt is not live until the debtor makes it so.
Watch out
Common mistakes.
- Making a small payment to make a collector go away, when in some places it can restart the time limit for suing.
- Ignoring all letters, when a valid claim within the limitation period can lead to a court judgment.
- Assuming a time-barred debt is erased, when it may still exist and affect some records, though it generally cannot be enforced in court.
Questions
People also ask.
What is a limitation period?
It is the time limit after which a creditor can no longer sue to recover a debt, and its length depends on the jurisdiction and debt type.
What should I ask a collector to provide?
Written proof of who owns the debt, the amount, the original creditor and the date of the last payment.
Why is the debt so cheap for buyers?
Because old accounts have a low chance of recovery and uncertain records, so sellers accept a small fraction of face value.
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