How to Write Off Bad Debt: Clearing the Invoices That Will Never Be Paid

A wholesale bakery supplies bread to eleven cafés on 21-day terms. One of them, a corner café on Linden Street, runs up $3,650 across February and then quietly stops answering. By May the windows are papered over. The bakery’s books still say that $3,650 is an asset, still count it as February revenue, and still include it in the profit the owner will pay tax on.

That is the situation this piece is about: how to write off bad debt so your books stop describing money that no longer exists. We’ll use the bakery’s invoice to show the entry under both accepted methods, size a proper allowance from an aging report, handle the customer who pays up after you’ve given up, and deal with income tax and sales tax along the way.

Bad Debt in Plain Terms

A bad debt is a receivable you’ve stopped expecting to collect. Extend credit long enough and you will have some — it is a routine cost of letting customers pay later, and it belongs on the profit and loss statement like rent or fuel. What damages the books isn’t the loss itself. It’s leaving the loss parked in receivables, where it keeps pretending to be cash on the way.

When is it OK to write off an unpaid invoice?

When the evidence, not your hopes, says the money isn’t coming. Typical signals:

• The customer has entered bankruptcy, shut down, or sold up without settling its suppliers.
• Your collection agency has handed the account back as unrecoverable.
• Several documented attempts — calls, emails, a formal final notice — have gone unanswered.
• The amount is too small to justify what it would cost to pursue.

Put the rule in writing so it’s applied consistently: for instance, “any invoice 120 days past due gets reviewed at month end, and anything past 150 days is written off unless the customer is keeping to a payment plan.” Consistency is what your accountant, a lender or a tax examiner looks for. The review itself starts from your accounts receivable aging report.

Pick Your Method: Direct Write-Off or Allowance

Both methods end with the invoice gone from receivables. What differs is the month the loss shows up in your profit.

How to Write Off Bad Debt Directly, One Invoice at a Time

May 31. The bakery accepts the Linden Street invoice is lost:

Receivables shrink by $3,650, the invoice leaves the aging report, and May absorbs the expense. Link the credit to the customer and the original invoice number in the memo, so anyone looking at the account later sees a documented write-off rather than a balance that simply evaporated.

Direct write-off or allowance method — which should a small business use?

If bad debts are rare and small next to your sales, direct write-off is acceptable and far simpler. The weakness is timing: the café’s bread was February revenue, but the loss lands in May — and when the gap crosses a year end, one year looks better than it was and the next looks worse. That is why GAAP requires the allowance method once bad debts are big enough to matter, or once a bank or investor is reading your statements.

Building an Allowance for Doubtful Accounts

The allowance method starts from an honest admission: some of today’s receivables will never be paid, even if you can’t yet say which. You estimate that amount each month, expense it, and hold it in Allowance for Doubtful Accounts — a contra-asset shown right beneath Accounts Receivable on the balance sheet. Receivables less the allowance is what you realistically expect to collect.

How much should the allowance be?

The practical small-business approach applies a rising loss rate to each aging column. These rates are for illustration only — set yours from your own history of what actually went unpaid, adjusted for what you can see coming:

The account already carries $1,210 from earlier months, so the month-end adjusting entry adds only the shortfall:

When the café invoice is finally abandoned, the write-off draws on that reserve and never touches expense — the cost was recognised months ago:

Net receivables stay exactly where they were, because the asset and its contra-account fall together. For US private companies, the current expected credit loss model (ASC 326) now governs trade receivables; it frames the estimate around expected rather than already-incurred losses, and an aging schedule with rates adjusted for current and forecast conditions is still a widely used way to meet it.

The longest-lived invoices on most small-business books aren’t being collected. They’re being kept — out of hope, or because nobody wants to be the one to admit they’re gone.

When Money Arrives on an Invoice You Wrote Off

How do I record a payment on an invoice I already wrote off?

In two moves. First restore the receivable by reversing the write-off — debit Accounts Receivable, and credit whichever account absorbed it (Bad Debt Expense under direct write-off, the Allowance under the allowance method). Then post the receipt the ordinary way: debit the bank, credit Accounts Receivable. Skipping straight to “cash in, income up” leaves the customer’s record showing an unrecovered loss and an unexplained deposit, which is precisely the kind of loose end that wastes an accountant’s afternoon.

The Tax Side of a Write-Off

Is bad debt tax deductible for a small business?

In the US, generally yes, in the year the debt becomes worthless — but only if the amount was already counted as income. Accrual-basis businesses recorded the invoice as revenue, so they can usually deduct the loss. Cash-basis businesses never reported the unpaid amount, so there is nothing to take back. (Not sure which you are? Cash basis or accrual basis sorts it out.) The tax deduction follows actual write-offs rather than the allowance estimate, so expect book and tax figures to differ, and run the specifics past your tax adviser.

Does the sales tax come back?

Often. Where an uncollectible invoice included sales tax you have already paid over, many states allow you to reclaim it on a later return once the debt is written off. If the tax hasn’t been remitted yet, reduce Sales Tax Payable for that portion instead of charging it to bad debt. The rules vary by state, so confirm yours; recording sales tax correctly covers the liability account itself.

Should You Void the Invoice Instead?

Why not just void or delete it?

Because voiding claims the sale never happened, and it did. If the invoice sits in a period you’ve already closed, voiding also rewrites figures you may have reported to a lender or filed with a tax return. The other tempting shortcut — a credit memo or discount for the full amount — is no better: it reduces revenue rather than recording a loss, so your sales look smaller and your bad-debt history looks spotless. The usual ways it goes wrong:

1. Voiding or deleting the invoice. History disappears, and closed periods change underneath you.
2. Crediting it away. A contra-revenue entry disguises a credit loss as a price cut.
3. Writing off on cash-basis books. The income was never recorded, so the entry invents a second loss.
4. Saving it all for December. Every monthly report until then overstates profit.
5. Ignoring the sales tax. The expense is overstated or recoverable tax is left unclaimed.

How Kantivo Helps With Bad Debt

• An A/R aging report sorts every open invoice by days past due, so your write-off review and your allowance calculation work from the same numbers.
• Customer statements with an aging table go out across your whole customer list in one run — the collection effort that should come before any write-off.
• A chart of accounts you control. Add Bad Debt Expense and an Allowance for Doubtful Accounts contra-asset, and the balance sheet shows gross receivables, the reserve and the net figure.
• Adjusting-entry templates in Accountant Tools include a Bad Debt category, so the monthly allowance top-up is saved once and reused rather than rebuilt each close.
• Journal entries on a genuine double-entry ledger — a write-off that doesn’t balance never posts.
• Credit memos carry reason codes and post to Sales Returns or Sales Discounts, which keeps real price concessions apart from debts you couldn’t collect.

Frequently Asked Questions

What is the journal entry to write off a bad debt?

It depends on your method. With direct write-off, debit Bad Debt Expense and credit Accounts Receivable, linked to the customer and invoice. With the allowance method, debit Allowance for Doubtful Accounts and credit Accounts Receivable, because the expense was already booked as a monthly estimate. Either way, the invoice leaves receivables and the aging report.

When is it OK to write off an unpaid invoice?

Once the evidence says the money isn’t coming: bankruptcy or closure, a collector handing the account back, repeated documented attempts unanswered, or a balance too small to be worth pursuing. A written policy helps — review everything past 120 days and write off at 150 or 180 unless the customer is keeping to a payment plan.

Direct write-off or allowance method — which should a small business use?

If bad debts are rare and small relative to sales, direct write-off is acceptable and simpler. If they’re large enough to matter, or a lender, investor or reviewer relies on your statements, use the allowance method — GAAP requires it then, because it books the expected loss in the same period as the sales that caused it.

Is bad debt tax deductible for a small business?

Generally yes in the US, in the year the debt becomes worthless, provided the amount was already counted as income. Accrual-basis businesses can usually deduct it; cash-basis businesses can’t, since they never reported the unpaid amount. The deduction follows specific write-offs rather than the allowance estimate — check details with your tax adviser.

How do I record a payment on an invoice I already wrote off?

Put the receivable back first, then apply the payment. Debit Accounts Receivable and credit whichever account took the write-off — Bad Debt Expense or the Allowance. Then record the receipt as usual: debit cash, credit Accounts Receivable. Two steps keep the customer record honest, showing a recovered write-off rather than an unexplained deposit.

Should I void the invoice instead of writing it off?

No. Voiding says the sale never happened, and if the invoice is in a closed period it rewrites results you’ve already reported or filed. Clearing it with a discount or credit memo is also wrong, because that lowers revenue instead of recording a loss. Write it off to bad debt so the sale and the loss both stay on the record.

Where This Leaves You

Everything above reduces to a single principle: an invoice you no longer expect to collect is not an asset, and each month it stays on the books, both your balance sheet and your profit are overstated. If your receivables are modest, write invoices off directly as they die. If they aren’t, estimate the loss every month and let each write-off draw on the reserve you built.

Whichever you choose, don’t make a bad invoice vanish. Write it off, attach it to the customer, and keep the trail — the Linden Street café may never reopen, but if its owner ever does settle up, you’ll want the record to show exactly what was recovered.

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