Definition:

A bad-debt deduction is a tax deduction that allows businesses to deduct the amount of uncollectible accounts receivable from their taxable income. It’s a way to offset the loss of revenue from customers who fail to pay their bills.

Key points about bad-debt deductions:

  • Uncollectible accounts: Bad-debt deductions are only allowed for accounts receivable that are truly uncollectible.
  • Methods: There are two primary methods for accounting for bad debts: the direct write-off method and the allowance method.
  • Tax implications: The timing and amount of the bad-debt deduction can have significant tax implications.
  • Documentation: Businesses must maintain adequate documentation to support bad-debt deductions.

Why is the bad-debt deduction important?

  • Tax savings: It allows businesses to reduce their taxable income and potentially save on taxes.
  • Financial reporting: Bad-debt deductions are reflected on the income statement as an expense.
  • Cash flow management: Understanding bad-debt deductions can help businesses manage their cash flow by anticipating potential losses from uncollectible accounts.

It’s important to consult with a tax professional to ensure that bad-debt deductions are claimed correctly and in accordance with applicable tax laws.

In essence, a bad-debt deduction is a tax deduction that allows businesses to offset the loss of revenue from uncollectible accounts receivable.