Bad Debts Basics

An unpaid invoice hurts twice. Once when the customer does not pay, and again at tax time — because if the sale was booked as income, tax can fall due on money that never arrived. The bad debt deduction exists to fix exactly that. But it only works when the write-off is done properly, and "properly" has more moving parts than most owners expect.

What has to be true before you claim

• A real debt exists. You invoiced, the customer owes the amount, and the debt has not been forgiven, settled or traded away.
• The amount was already returned as income. The invoice must have been included in your assessable income, this year or an earlier one. In practice this means businesses reporting on an accruals basis.
• The debt is genuinely bad, not just slow. A customer who is late is a collection problem, not a bad debt. Genuinely bad looks like liquidation or bankruptcy, a debtor who has disappeared, or recovery attempts that have failed to the point where further pursuit is uneconomic — and you can show the attempts: reminders, statements, calls, a demand letter, a collection agency file.
• It is formally written off before 30th June. The write-off must actually happen in your accounts, with the decision recorded in writing, before the end of the income year you claim it in. Deciding in July, while preparing last year's return, does not rescue last year's deduction.

The cash-basis catch

Here is the misconception we correct most often: if you report income on a cash basis, there is no bad debt deduction to claim. The unpaid invoice never went into your income in the first place, so there is nothing to reverse. The commercial loss is real and it still deserves a proper collections process — but the tax system is not ignoring you; it simply never taxed you on that sale. The deduction belongs to accruals-basis businesses that were.

What about the GST?

If you account for GST on an accruals basis and have already paid GST on the unpaid invoice, a decreasing adjustment may be available once the debt is written off or has been overdue for 12 months or more — the conditions are specific, so confirm them before adjusting a BAS.

What we commonly see go wrong

• Deleting or crediting the invoice instead of writing it off. That erases the audit trail and can quietly misstate income — a bad debt should be visible as a write-off, not vanish.
• The write-off happening at tax time in the following year, missing the 30th June deadline for the year the claim was wanted.
• No evidence of recovery effort, especially for debts owed by friends, family or related entities — the debts most likely to be questioned.
• Provisions for doubtful debts treated as deductible. An estimate that some debts might go bad is not a write-off of a specific bad debt.
• Cash-basis businesses claiming the deduction anyway, or accruals businesses forgetting the GST adjustment that softens the blow.

A worked example

As an illustration: a labour-hire business reporting on accruals invoices a builder for several weeks of work. In May, the builder goes into liquidation. The file holds the unpaid invoices, the reminder emails, and the liquidator's first report to creditors suggesting little chance of a return for unsecured creditors. In June, the owner writes the debt off in the software with a short memo recording the decision and why. The deduction stands, and the possible GST adjustment gets checked before the next BAS. Now rerun it with one change — the write-off happens in August, during tax preparation. Same loss, same evidence, but the deduction now belongs to the later year at best. Timing was the only difference.

When to get help

If your aged receivables report carries balances that have been ancient for years, if a major customer has collapsed owing you real money, or if you are not sure whether your basis of accounting even allows the claim, it is worth getting the position checked before 30th June rather than after. A ten-minute review in June regularly saves a deduction that July cannot recover.

Can I write off an invoice just because the customer is very late paying?

No. A slow payer is a collection problem, not a bad debt. The debt needs to be genuinely unrecoverable — for example the debtor is in liquidation, cannot be located, or reasonable recovery attempts have failed — and you should hold evidence of those attempts.

I report income on a cash basis. Can I claim a bad debt deduction?

Generally no. On a cash basis the unpaid invoice was never included in your income, so there is nothing to deduct. The bad debt deduction is essentially for accruals-basis businesses that have already paid tax on income they never received.

What do I need to have done before 30th June to claim a bad debt?

The debt must be formally written off in your accounts before 30th June of the year you claim it, with a written record of the decision, and you should hold evidence that the debt had genuinely gone bad by then — not merely a plan to write it off later.