Bad debt relief arises when a customer defaults in full or part on payment to a supplier where that supplier has accounted for VAT in respect of the supply. The conditions under which bad debt relief is allowed are set out in Section 10(3)(c) of the VAT Act and regulations 8(1)(m) and 16A of the VAT Regulations, 2006 (as amended).
The purpose of this leaflet is to explain the VAT relief available for bad debts written off, the conditions to be satisfied and how the relief should be calculated and claimed.
For business purposes, a debt is regarded as bad when the decision has been made that it is irrecoverable. This decision is usually arrived at when all reasonable efforts have been made, without success, to collect the debt in question and the supplier is in a position to reduce the amount of debts in his/her accounting records by the amount of the debts regarded as bad.
The expiry of the supplier’s trade credit period is not, on its own, sufficient to trigger an entitlement to bad debt relief. In general, an accountable person who has accounted for VAT on a supply (other than to a connected person) may claim relief for the VAT attributable to the supply where he/she is in a position to demonstrate that:
The VAT bad debt relief should be calculated in accordance with the VAT analysis of the transactions outlined in paragraph 10 below.
Bad debt relief is available only to traders who account for VAT on the invoice basis.
Bad debt relief is available only for bad debts actually written off and is not available in respect of specific or general provisions for bad or doubtful debts.
Reasonable steps will depend on the facts and circumstances of each case and can comprise a number of actions undertaken to recover the debt, including correspondence with the debtor, referral of the issue to a solicitor or a debt collection agency or other action undertaken, resulting in objective evidence that the trader is in a position to reasonably consider that the debt is bad and to reduce the amount of debts in his/her accounting records by the amount of the debts regarded as bad. Correspondence from a liquidator stating that there are no funds to pay non-preferential creditors would constitute such evidence and would justify the writing off of a debt.
A trader is required to retain evidence of action taken, including all correspondence, in attempting to recover the debt.
The bad debt must be written off in the day-to-day records of the business and transferred from the debtors account to a separate bad debts account. A trader is not required to wait until his financial year-end to write off a debt but may do so in the VAT return for the taxable period in which the debt is transferred to the bad debt account.
A trader’s records of all transactions in relation to bad debts written off must include
A trader seeking bad debt relief is required to keep copies of the relevant VAT invoices and evidence that the VAT had been accounted for. All records relating to bad debts written off must be kept for 6 years from the date of the write off.
Bad debt relief is not available where a debt is due from a person connected to the supplier. Section 7A(3) of the VAT Act determines the criteria for establishing whether or not a person is connected with another person. Section 7A(3) is reproduced in Appendix 1.
VAT law provides that a trader, including one operating on the cash basis, is obliged to issue a VAT credit note for a reduction in consideration or the allowance of a discount after the issue of a VAT invoice. However, the question of issuing a credit note does not arise in the case of a bad debt written off.
A claim for bad debt relief should be made in the VAT return for the period in which the debt is written off. This should be done by increasing the VAT on purchases figure in Box T2 on the VAT return form. Relief for the bad debt is allowed at the rate in operation at the date of the issue of the original VAT invoice or, in the case of a supply to an unregistered person, at the rate in force at the time of supply.
Where no payment has been received in respect of a supply, the relief will be in respect of the total amount of VAT accounted for on that supply.
Where a partial payment has been received in respect of a supply the relief will be based on the amount of VAT that is still outstanding in accordance with the following formula:
A × B / 100+ B
where:
A is the amount which is outstanding from the debtor in relation to the taxable supply; and
B is the percentage rate of VAT applicable to the supply.
Example: |
Bad debt relief for a supply, other than a supply under hire purchase: |
Sale Price of the Goods: €24,200 |
(B) VAT rate: 21% |
VAT amount accounted for on the supply: €4,200 |
Amount received from debtor: €14,520 |
(A) Amount outstanding from debtor: €9,680 |
The VAT adjustment for bad debt relief is €1,680, calculated as follows: |
€9,680 × 21 / 100 + 21 = €1,680 |
If a customer pays the VAT-exclusive amount charged for goods or services but refuses to pay the VAT charged, the relief should be calculated by entering the total unpaid amount at A in the formula in the preceding paragraph.
If after claiming bad debt relief, an accountable person receives payment of any part of the debt he/she must make an adjustment to the bad debt relief already claimed. The adjustment should be made by reducing the VAT on purchases figure in Box T2 on the VAT return form for the period in which the payment is received. The amount of the adjustment should be calculated by using the formula in paragraph 10 where A is the total amount received from the debtor.
Bad debt relief is not allowable in the case of leases, of ten years or more, which were created prior to 1 July 2008.
Where, as part of the transfer of a business in accordance with Sections 3(5)(b)(iii) or 5(8) of the VAT Act, the transferor of the business transfers debts that, subsequent to the transfer, are determined to be bad debts, there is no entitlement to bad debt relief. However, bad debt relief subject to the normal conditions is available in respect of any debts retained by the transferor that are not included in the transfer.
An entitlement to receive compensation payment under a policy of insurance against bad debts does not affect entitlement to bad debt relief. This is not affected by any condition of an insurance policy that may assign the right to recover the debt to the insurer.
No bad debt relief can be claimed to the extent that any payment is received by any third party in respect of a debt owed by a customer, e.g. payment by a guarantor or payment by a director of a debt owed by a company.
Payments in kind, e.g. goods or services bartered in exchange are also considered to be payments for supplies, valued at their open market prices.
If a supplier owes an amount of money to a purchaser, which can be set off against the amount owing to the supplier, the consideration to be written off as a bad debt must be reduced by the amount owed by the supplier.
Where a debt is assigned by one person to another without recourse, whether as part of a factoring or invoice-discounting arrangement or otherwise, the originator ceases to have an entitlement to any bad debt relief in relation to that debt. In a factoring or invoice-discounting arrangement, with recourse, the originator may be entitled to bad debt relief where all the other conditions in this leaflet are satisfied. Please refer to VAT Information Leaflet: Factoring and Invoice Discounting.
The sale of goods under an agreement for the reservation of title until the goods are paid for does not affect entitlement to bad debt relief.
Special rules apply to determine the amount of the relief in the case of hire purchase or credit sale. Please refer to VAT Information Leaflet: Hire-Purchase Transactions.
Enquiries regarding any issue contained in this Information Leaflet should be addressed to the Revenue District responsible for the taxpayer’s affairs. Contact details for all Revenue Districts.
VAT Interpretation Branch,
Indirect Taxes Division,
Dublin Castle.
January 2010