“Bad Debt” is one of the most basic concepts in accounting. This term refers to debts that a company no longer expect to collect, and has written off to their income statement as an expense. Some say that bad debt is just a part of doing business, so businesses that do work on credit should factor into their finances that a portion of their outstanding debts will be noncollectable. But in the real world, even the best planning around bad debts can still prove out to be wrong and have serious repercussions for a company.
In fact, bad debt has spawned an entire industry in which companies buy bad debt from other companies in hope that they will collect on some of them and then take a portion of the payment as fees before passing along the rest of the funds to the company the from which the debt was purchased. These kinds of companies are currently at the center of a US Supreme Court case, in which it is being decided if these collection companies can lawfully submit claims for debts in bankruptcy court, even if the statute of limitations on the debt has run out. At issue is whether or not federal regulations around bankruptcy can influence how bankruptcy happens at the state level, where most bankruptcy proceedings take place. (Forbes)
For many companies, reducing the percentage of bad debt is a great way to boost the balance sheet. As a CPA, you can help companies understand which debt is the most lucrative to pursue, and then properly document it as part of the company’s annual filings.