Among the many year-end duties finance teams are working on is identifying an aged account that isn’t likely to pay. This is the type of customer that Accounts Receivable called and wrote to so many times to collect, it was handed off to Collections months ago, but all to no avail.
Maybe the customer’s in bankruptcy proceedings. Or your collections agency can’t even nail down the account’s current location or ability to pay.
Bottom line: You’re not going to collect on this debt. Year-end is the time to make the call on whether writing it off for tax purposes is the best move.
Get it off your books and move on
Keep in mind that once you’ve made the call to write off an unpaid account, it’s a done deal as far as the IRS is concerned.
The IRS requires a business to formally write off any and all receivables. Once it’s on the books, there’s no going back after an account for payment.
This is important for A/R staffers to remember, particularly if a client owes additional payments for goods or services, or if Sales decides to restart a relationship with a customer down the road. It happens: Maybe the account is back on its feet financially and is agreeing to make payments up front to reestablish a business relationship.
In cases like that, a written-off old debt should not be a topic of conversation between A/R and the client. An internal discussion and decision between Finance and Sales on whether to do business with someone that didn’t pay off a debt is as far as it should go.
To write off a bad debt, the IRS requires:
- proof of a customer’s debt (invoices for example)
- documentation showing the debt is part of your your gross income, and
- records showing the debt is fully or partially uncollectable.
Typically businesses will estimate a percentage of expected unpaid receivables based on previous years’ losses for tax purposes with the IRS. An unpaid debt can be written off based on days sales outstanding. For more help, check the IRS’ website here.