There’s nothing worse than not getting paid for your hard work. But while it is disappointing, there is some consolation for small business-owners: you can claim the bad debt as a tax deduction.
As you prepare this year’s tax return, comb through your debtor’s ledger to see which of your outstanding debts can be classified as bad debts and be deducted. Don’t delay, because you have to do this before June 30 if you want to qualify for a deduction.
While you’re at it, use tax time to think about your debt collection procedures can be improved to boost your cash flow.
Is the debt deductible?
You can’t just claim a deduction for any old debt. The Tax Office can ask for proof that what you are claiming for is in fact a bad debt.
The debt owed to you must have been included in your assessable income. In accruals accounting this means you counted the income when you issued the invoice rather than waiting until you received payment.
You also have to have made a reasonable attempt to recover the debt. For a debt of a couple of hundred dollars, this might just be a phone call or a letter, because it’s not worth spending any more time collecting such a small amount. But for a debt in the tens of thousands of dollars, say, you probably want to consider legal action before you declare the debt bad.
Finally, you have to formally write off the debt in your accounting records. Even if you only write off part of a debt, it is possible to claim a deduction for the written-off portion. Watch out for debts owed to you by related parties (such as a family member or business partner) because these aren’t deductible.
And there’s a bit more good news about bad debts. If you pay GST on an accruals basis (that is, paying GST when invoices are issued, not waiting until payment) then you can get a refund on the GST you paid.
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