Dealing with Bad Debts

Please refer to HM Revenue and Customs guide 700-18 Relief from VAT on Bad Debts on the HMRC website.

If you make supplies of goods or services to a Customer but you are not paid, you may be able to claim relief from VAT on the Bad Debt you have incurred.

Similarly, you may have to repay VAT if you have received supplies of goods or services for which you have not paid, and for which your Supplier has claimed Bad Debt relief.

When it is decided that a particular debt will not be paid, the Customer is no longer called an outstanding Debtor, and becomes a Bad Debt.

You can write off the debt using the Write Off Bad Debts option in the Credit Control module.

If you do not have access to this module, in order to write the debt off the Customer account and the Sales Ledger (Debtors) Control account, the following process should be carried out:

Create a Bad Debt Nominal Account (typically in the Finance Charges section of the P & L).
Create a Sales Ledger Discount type Analysis record called Bad Debts (will not involve VAT), which:

Debits the Bad Debts Nominal Account and
Credits the Sales Ledger (Debtors) Control Nominal Account.

Enter a Sales Ledger Adjustment to Decrease Customer Balance (Credit Adjustment) for the Gross Value of the debt, using the Bad Debt Analysis code.

The VAT element has not yet been recovered from HM Revenue and Customs and can be dealt with later - see below.

Credit Control module

If you have access to the Credit Control module, then writing off the bad debts is an easy process. You will simply search for the Customer and the transaction and write off the debt.

Permission to do this is controlled by the User's Security Profile. See Write Off Bad Debts for more information.

VAT on Bad Debts

A business can claim relief from VAT on Bad Debts which are at least 6 months old, and which have been written off in the accounts.

This is claimed by adding the value of VAT on Bad Debts on to the value of input tax reclaimable on the VAT return, submitted for the VAT period in which the relief becomes available. This is achieved as follows:

To reclaim the VAT post a Debit VAT Journal:

On the Header window enter the Bad Debts Nominal Account Code as the Contra Account.

On the Detail line:

Also enter the Bad Debts Nominal Account Code,
leave the Net field as 0.00,
and click into the VAT box and enter the amount of VAT to be reclaimed.
The Gross value will then be the same as the VAT value.

This will have the effect of reducing the Bad Debt Cost in the P & L Account by the amount of the VAT being reclaimed, and the VAT will be added to your input tax and included in Box 4 of the VAT Return.

e.g. A Customer owes you £117.50

The effect of reclaiming the VAT is to remove the VAT from the Bad Debts account and add it onto the VAT Control account, as follows:

	Dr.	Cr.
Bad Debts Expense account	117.50	17.50
Sales (Debtors) Control account		117.50
VAT Control account	17.50

When the reclaimed VAT is received, the £17.50 will be Credited to the VAT Control account, and Debited to the Bank account.

This will leave the Bad Debts at £100.00.

Provision for Bad Debts

This is different to a Bad Debt written off.

A business may know from past experience that a percentage of debtors' balances are unlikely to be collected, and it is then considered prudent to make a provision for these.

This is handled by posting a Journal to:

Debit the Doubtful Debts expense account in the P & L, and Credit the Provision for Doubtful Debts account in the Balance Sheet.