When businesses lend money or sell things on credit, there’s always a chance that some customers won’t pay back. But what happens when a business can’t recover a debt? Should they still pay taxes on money they never received?
Let’s unpack this:
What is a Bad Debt?
A bad debt is money that someone owes you but you’ll probably never get back. This could happen if:
i. The person or company is bankrupt or has no money/assets left.
ii. They refuse to pay, and you’ve tried everything.
iii. They’ve disappeared and can’t be found.
iv. The legal time limit (6 years in Ghana) for collecting the debt has expired.
When this happens, businesses usually write off the debt, meaning they accept that they won’t get paid and move on. But how does this affect their taxes?
Can Businesses Deduct Bad Debts From Their Taxes?
Yes, but with rules. Businesses don’t have to pay tax on money they were supposed to receive but never actually got. However, before a business can deduct a bad debt from its taxable income, it must prove that it:
i.Tried every possible way to collect the debt.
ii.Couldn’t recover the money despite its best efforts.
iii.Has valid reasons to declare the debt as unrecoverable.
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The Ghana Revenue Authority (GRA) will check if the business did enough before allowing the deduction.
What Must a Business Do to Recover a Debt?
Before writing off a bad debt, businesses must show they took “reasonable steps” to get their money back. These steps include:
i. Sending reminders – Calling, texting, or emailing the debtor to remind them to pay.
ii. Hiring a debt collection agency – Getting professionals to help collect the debt.
iii. Restructuring the payment – Allowing the debtor to pay in smaller amounts over time.
iv. Taking legal action – Suing the debtor or going for arbitration/mediation.
If a business skips these steps, it may not be allowed to deduct the bad debt from taxes.
When is a Debt Officially Considered “Bad”?
A debt can only be written off when:
i. The debtor has died and left no assets to pay the debt.
ii. The debtor is bankrupt or their company has shut down, with no assets to recover.
iii. The legal time limit (6 years) has passed, meaning you can’t take legal action anymore.
iv. The debtor is missing and can’t be found despite multiple efforts.
v. Negotiations or legal action have failed, and court costs are too high to justify pursuing the debt.
vi. Other special circumstances make it impossible or too costly to recover the debt.
A Fair Balance
Businesses shouldn’t pay tax on money they’ll never receive, that wouldn’t be fair. But at the same time, the law prevents abuse by making sure businesses really tried to collect their debts before writing them off. The goal is to keep the tax system fair and honest, ensuring businesses don’t misuse bad debt deductions to reduce their taxes unfairly.
If you run a business, make sure to follow the right steps before declaring a bad debt because tax authorities will be watching.
Alhassan Aboagye on behalf of OSD and Partners. [email protected]
