1. Requirements for Deductibility of Bad Debts
RR No dated Nov. 19/02
(amending RR 5-99)
Requirements for Deductibility of Bad Debts
from Gross Income

2. Definition
Shall refer to those debts resulting from the worthlessness or uncollectibility, in whole or in part, of amounts due to the taxpayer by others, arising from money or from uncollectible amounts of income from goods sold or services rendered.

3. Requisites of Deductibility
There must be an existing indebtedness due to the taxpayer which must be valid and legally demandable;
The same must be connected with the taxpayer’s trade, business or practice of profession.

4. Requisites of Deductibility
Must not be sustained in a transaction entered into between related parties enumerated under Sec. 36(B) of the Tax Code of 1997;
Must be actually charged off from the books of accounts of the taxpayer as of the end of the taxable year;

5. Requisites of Deductibility
Must be actually ascertained to be worthless and uncollectible as of the end of taxable year.

6. “Actually ascertained to be worthless” defined:
Debt is not worthless simply because it is of doubtful value or difficult to collect;
It is determined by exercise of sound business judgment;
The worthlessness in a given case must depend upon the particular facts and the circumstances of the case.

7. In the case of Banks:
Without prejudice to the determination of the CIR whether or not bad debts are worthless and uncollectible, the taxpayer shall submit a BSP/MB written approval of the writing off of the indebtedness.

8. In case of insurance/ surety company
In no case may a receivable be written-off from the taxpayer’s books unless the company has been declared closed due to insolvency or any similar reason.

9. Tax Benefit Rule
The recovery of bad debts previously allowed as deduction in the preceding year/s shall be included as part of the taxpayer’s gross income in the year of such recovery to the extent of the income tax benefit.

10. Tax treatment on the Recovery of Bad Debts
Illustration
Case 1
Case 2
Case 3
Year of deduction (2001)
Net Income(loss) b4 BD
Less: BD written off
150,000
100,000
(50,000)
Net Income (loss) -
(200,000)
Extent of Income tax benefit

11. Tax treatment on the Recovery of Bad Debts
Case 1
Case 2
Case 3
Year of recovery
Amount received as recovery of bad debts
150,000
Amount to be included in the gross income in the year of receipt (equal to the extent of Income tax benefit)
100,000 -

12. End