Unpaid debts owed to your business can significantly impact cash flow and profitability, so it is important when deducting a bad debt that the right care is taken to ensure the deduction is processed properly and in line with Australian Taxation Office (ATO) guidelines.
To claim a bad debt as a tax deduction, the debt must be:
- in existence (meaning no deed of release has been executed) at time or write-off;
- be classified as a bad debt and be written off in the year of income the deduction is claimed.
The ATO requires evidence that the debt is actually “bad” and not merely “doubtful”. The question of whether a debt is a bad debt heavily depends on the actions taken and evidence to recover the amount. A Letter of Demand served to the debtor is a common form of evidence to prove your recovery efforts.
In addition, the ATO will require evidence of the debt write off. To satisfy this requirement keep a statement for all debtors written off during the year, showing:
- their name and address
- the amount of the debt
- the reason you regarded the debt as bad, and
- the year that you returned the amount as income.
Businesses should also consider the GST consequences of writing off a bad debt. If reporting GST on an accrual basis, they should have already paid GST to the Government on that income. When writing the debt off, they may be able to claim back the GST if this has not already occurred.
In the instance where payment is recouped after the debt has been allowed as a deduction, you will need to include this amount as assessable income within the year it was received and again pay GST to the ATO.
Navigating write-offs can sometimes be a mine field. For assistance claiming a bad debt or determining where a deduction should be recorded, contact your usual Mazars advisor or alternatively John Kotzur, Simone Gordon or Andrea Rawlinson.
Please note that this publication is intended to provide a general summary and should not be relied upon as a substitute for personal advice.