Bad debts and GST: getting the GST back on an invoice that was never paid

First, is it really bad?

A debt is bad when there is no reasonable expectation it will be paid: the customer has vanished, is insolvent, disputes it and will not budge, or the amount is too small to pursue any further. Slow is not bad. Before writing anything off, send the reminders, make the call, and consider a formal letter of demand; see chasing late invoices. The write-off comes when those steps have failed.

When you do decide, record it: a note in your bookkeeping or a short memo with the invoice number, the amount, the date and why it is being written off. That record is what supports both the GST adjustment and the income tax deduction.

Cash basis: nothing to adjust

Most sole traders account for GST on a cash basis, which means a sale only enters the BAS when the money arrives. If it never arrives, the sale never enters the BAS, no GST was ever reported at 1A, and there is nothing to recover. Write the debt off in your invoicing records so it stops showing as outstanding, and that is the end of it for GST.

The same logic applies to income tax if you also report income on a cash (receipts) basis: the income was never returned, so there is no deduction to claim. You simply did the work for free.

Accruals basis: the decreasing adjustment

On accruals you reported the GST when you issued the invoice. Once the debt is written off as bad, or the amount has been overdue for 12 months or more, you are entitled to a decreasing adjustment equal to the GST on the unpaid amount. Report it on the BAS for the period in which you wrote it off or the 12 months passed. On the simpler BAS the adjustment is included at 1B; on the full form it goes in the adjustment labels.

Example: an $11,000 invoice issued in March, GST $1,000 reported in the March quarter. In the following March it is a year overdue and clearly not coming. Decreasing adjustment of $1,000 on the March quarter BAS a year later.

If part of the invoice was paid, the adjustment is limited to the GST on the unpaid part.

If the customer pays after all

Recoveries happen. If you receive some or all of a debt you already adjusted for, you make an increasing adjustment for the GST on the amount recovered, in the period you receive it. The two adjustments net to the right answer over time. Keep the paper trail: the original invoice, the write-off note, the adjustment, and the later payment.

The buyer’s side

The rules cut both ways. If you are on accruals and claimed a GST credit on a supplier’s invoice you have not paid for 12 months, or the supplier has written it off, you must make an increasing adjustment to hand the credit back. If you later pay, you claim it again. On the cash basis you only ever claimed credits on what you paid, so again there is nothing to adjust.

Income tax treatment

For income tax, a bad debt is deductible if the amount was included in your assessable income in this or an earlier year, it is written off as bad during the income year (before 30 June, with a written record), and it is not merely doubtful. Businesses on a cash basis for income tax cannot claim it, because the income was never returned. Talk to your accountant about which basis your return uses; it does not have to match your GST basis.

Avoiding the next one

Deposits before starting, progress invoices on longer jobs, short payment terms, and automatic reminders the day an invoice falls due all shrink the exposure. So does knowing which customers are slow before the amounts get large. FlowFi sends reminders automatically and shows outstanding invoices in the weekly summary, so a debt that is drifting toward bad is visible at 30 days, not 300.