Overview
- Learn how to provide for bad debts.
Why provide for bad debts?
You provide for bad debts in your business by estimating and setting aside funds to cover potential losses from customers who may not be able to pay their debts.
How to provide for bad debts?
You provide for bad debt by creating a bad debt reserve or allowance for doubtful debt accounts.
Here are the steps to provide for bad debt:
- Establish a credit policy: Develop a clear credit policy in your business. The credit policy needs to outline the terms and conditions for extending credit to customers. Include credit limits, payment terms and the process for handling any overdue accounts.
- Monitor accounts receivable: Regularly monitor accounts receivable by running the aged receivables report. Identify any signs of potential payment issues.
- Evaluate your customers' credit history: Identify outstanding payments due from your customers and evaluate your customers’ payment history.
- Calculate the bad debt provision: Estimate the amount of bad debt based on historical data, industry benchmarks, and the current economic environment that you’ll set aside to cover for potential losses. You may have an accounting policy that you’ve established within your business that will help you estimate.
- Regularly review and adjust bad debt provision: As part of your month end process, review and adjust the bad debt provision.
- Write off bad debts: When it becomes evident that your customer will not pay, write off the bad debt by removing it from accounts receivable and the allowance for doubtful debts.
Note: You may want to block the customer from sales in your business.
Tip: Refer to the AASB 1032 for guidance on bad debts.
Tip: Refer to Australian Taxation Office for rules around bad debts.
What’s next?
Find out how to write off bad debts.
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