Bad debt management is a task that just about every business must deal with in order to protect its interests and remain a viable operation. Debt of this type includes any obligations from customers that are likely to remain uncollectable and will ultimately be written off as losses. In order to keep bad debt to a minimum and protect the company from being undermined by customer defaults, it is important to qualify clients before doing business with them, to have an aggressive collection strategy in place, and also to create some type of financial reserves that can offset any debt that is ultimately uncollectable.
One of the best ways to structure a bad debt management strategy is to run credit checks on customers before ever extending credit privileges to them. By looking into the financial status of a prospective client, the company can determine if the customer meets the basic criteria necessary to be extended a line of credit, or even if the potential client is likely to pay monthly invoices in a reasonable period of time. If there are indications that the customer is more likely to default, the company can choose to either require that goods and services are paid upon delivery, or place limits on how much credit is extended to that client.
Along with establishing qualifications on the front end, bad debt management also calls for creating and maintaining a workable collections process. Here, the idea is to have specific steps that are initiated as the debt obligation ages. Normally, this will include reminder letters as the debt passes the 30, 60 and 90 day marks, with telephone contacts beginning to take place when the debt is aged roughly 45 days. In the event that collections efforts in-house are not successful, turning the debt over to a collection agency is choosing to write off as uncollectable debt is normally the next step. Should the collection agency recover the outstanding debt, it can always be re-entered into the company’s accounting books at a later date.
There will be situations in which the bad debt management process involves debts that will never be paid, such as in the case of a debtor bankruptcy. Here, the debt must be taken as a business write-off in order to claim any type of tax benefit from the loss. In many cases, companies create a special account that is known as a bad debt account or cushion account that helps to offset some of that loss. Cushion accounts are funded from surplus profits and normally represent a percentage of any current receivables that are over the 90-day mark. With this bad debt management fund in place, the company has reserves that help to offset debt when all collection efforts have failed and there is no real chance of ever collecting the debt from the customer.