Writing off debt is an event that has a huge effect in the profit and loss account of any business. Several transactions are made on credit and when this is done, there is the risk that some of your suppliers or customers may never pay the debt causing it to become bad. These debts are termed as bad debts and they are an expense to the business.
When Debt Needs to Be Written Off
There are several situations in which customers or suppliers owe your business money. But, it is not always that you need to write off the debt. There are a few situations in which writing off debt is your only option. These include when a debtor refuses to pay one of a number of receivables, when a debtor refuses to pay a part of an invoice, when the debtor's business has failed and he is unable to clear a portion of the debt, or when the debtor has filed for bankruptcy.
Results of Writing off Debt
Writing off debt has a lot of impact on the profit or loss of the business. In the accrual system of accounting, debt is posted as an income to the business and hence tax is calculated for it in the accounting period in which it originates. Hence, when debt is written off, the amount has to be charged as an expense to the business. But the good thing about writing off debt is that you could claim a deduction on your income tax for the period during which it is written off.
Debt can be written off as bad debt only in the accounting period in which it becomes uncollectible. It needs to be posted as an expense and when you file your tax returns, you need to provide proof of the debt in the form of a written document. You will also be required to provide proof that you have attempted to collect the debt and that it has become uncollectible. Finally, you should have the necessary account statements to show that the debt has caused an expense to your business.
Writing off debt has a major impact on a business. Though the money becomes unrecoverable, the fact that it brings you tax returns helps you to recover the expenses partially.