When can a bad debt be tax-deductible?

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What is a bad debt?

A bad debt is a debt that cannot be satisfied in the normal course. This is mainly related to situations when the contractor does not pay for the purchased goods or services, despite the expiry of the payment deadline, calls for payment, etc. completed, it still incurred additional costs, paying the income tax and VAT on this transaction. So, if it is not possible to recover the amount due from the debtor, can the debt be classified as tax deductible costs?

Bad debt and tax deductible costs

Pursuant to Art. 23 sec. 1 point 20 of the Personal Income Tax Act, receivables written off as uncollectible are not considered tax deductible costs, except for such bad debts that previously pursuant to Art. 14 have been accounted for receivable and the irrecoverability of which has been made probable. According to the cited art. 14, income from activities is considered to be the amounts due, even if they have not been actually received, after excluding the value of the returned goods, granted discounts and discounts.

To prove the irrecoverability of receivables, the taxpayer must have one of the following documents:

a) a decision on irrecoverability, recognized by the creditor as being factual, issued by the competent authority of the enforcement proceedings, or

b) a court order to:

  • dismissing the petition for bankruptcy involving liquidation of assets when the assets of the insolvent debtor are insufficient to cover the costs of the proceedings, or
  • discontinuation of bankruptcy proceedings involving liquidation of assets, when the circumstance mentioned in point (a) a), or
  • completion of bankruptcy proceedings involving liquidation of assets, or

c) a report drawn up by the taxpayer stating that the expected litigation and enforcement costs related to the recovery of the debt would be equal to or greater than its amount.

The size of the bad debt

If the amounts of bad debts are small, a protocol drawn up by the taxpayer is sufficient, showing that the expected enforcement costs in connection with the recovery of the debt will be equal to or higher than the amount of the claim. If, on the other hand, the amount of the claim is significant, the taxpayer must have one of the other two documents specified in the above points in order to be included in the taxpayer, i.e. the decision of the enforcement authority or the court.

Thus, in order for the taxpayer to be able to include the uncollectible debt in the costs, firstly, it had to be income within the meaning of the provisions of the PIT Act, and secondly, the taxpayer must have properly documented its irrecoverability.