Your business may be able to claim a deduction for income that cannot be recovered from a customer or debtor. This unrecoverable income is known as a “bad debt”.
If your business accounts for assessable income on an accruals basis, an amount your business earns may be included in assessable income before payment is received (this cannot happen if your business accounts for assessable income on a cash basis). If your business determines there is no or little likelihood that an amount included in assessable income will be recovered from the debtor, that amount may be deductible as a bad debt.
To claim a deduction for the assessable income that cannot be recovered, your business needs to write off the unpaid amount as a bad debt (see below).
If your business subsequently recovers an amount that it wrote off as a bad debt and claimed as a tax deduction, the amount recovered must be included in its assessable income when it receives it.
Writing off a debt as bad is not the same as waiving or forgiving a debt. There are different tax consequences for debt forgiveness or waiver and there may also be tax consequences for the debtor.
How to write off a debt as bad
To claim a bad debt deduction for an amount included in your business’ assessable income that has not been recovered, it must:
- include the income in a tax return (whether in the current tax year or an earlier year);
- determine the debt is bad – there must be a debt owing to your business and it must be genuinely bad (i.e. it is unlikely to be recovered through any reasonable and commercial attempts); and
- write off the debt – this means that your business must have made the decision to write off the debt and recorded that decision in writing before the end of the tax year in which deduction is claimed.
If your business is a company, it must also satisfy the continuity of ownership or continuity of business test, as appropriate.
If your business has made a taxable sale and has paid GST to the ATO for that sale, but it has not received the consideration, either in whole or in part, and the debt is written off as bad, your business can claim a decreasing adjustment for the bad debt.
Tip! Talk to Southern Business Solutions if your business is owed money – you may be able to claim a tax deduction.
Ref: TaxWise Business News April 2021