Bad Debt is the term used to describe any accounts receivable balances that are unlikely to be paid.
Usually after a period of attempted collection recovery, unpaid accounts may be written off as bad debt. Businesses can write off the debt as an expense on their income statements or against the company's accounts receivable reserve balance.
When do Debts become Bad?
The definition of bad debt depends on your credit policies and payment terms. For instance, if the invoice was due within 30 days and it remains unpaid 90 days later, it may be written off as bad debt. As long as the debts remain unpaid and are included in the accounts receivable balance, the company's DSO and accounts receivable turnover ratio are affected.
The debt could also be written off earlier if it appears the invoice will not be paid. Reasons for non-payment include:
- Client's declaration of bankruptcy
- Client was merged, downsized, or acquired by another company
- Invoice or contract disputes with the client
- Non-responsive or negative responses from the client or their accounts payable department
Can Bad Debt be recovered?
Bad debt can be wholly or partially recovered with the help of a third party collections agency. Third party collections may be assigned the debt to investigate, with no fees unless the account is recovered. Some commercial collections agencies, such as Enterprise Recovery, may also offer litigation assistance from an in-house legal team to recover bad debt.
Collections agencies may also help negotiate a settlement in the event that the entire debt cannot be recovered. Bad debt that has been written off previously and subsequently recovered must be included as business income.