Bad debt recovery

From CEOpedia | Management online

Bad Debt Recovery is recovered revenues from collections that were originally written off as bad debt (Piland, N.F., Glass, K.P. 1999). Bad debts are the debts that are never expected to be realised. It is also called unrealisable or irrecoverable debts.The bad debts should be transferred to the Profit&Loss Account in the year in which the sale took place to conform to the matching concept otherwise income of the folowing accounting year will be understated. It is treated as a business loss. Bad debts recovery occurs when a bad debt is realised. Often a debt which was considered as bad and written off previosly is recovered afterwards either partly or fully (Chakravarty, S.K. 2002).

Debt write-off

A delinquent loan becomes a defaulted loan when the chance of recovery becomes minimal. Defaulted loans result in loan write-offs. Write-offs sholud be considered after a certain period of time has passed and the loan has not been repaid. The decision to write off a loan and the timing of doing so are based on the policies of the MFI. Some MFIs choose to write loans off relativly quickly so that their balance sheets do not reflect basically worthless assets. Others choose not to write off loans as long as there is a remote possibility of collecting the loan. Regadless of when write-offs take place it is important that an MFI have an adequate loan loss reserve so that the net value of loans stated on the balance sheet accurately reflects the amount of revenue-generating assets. Once it has been determined that the likelihood of a particular loan being repaid is remote (the borrower has died, left area, or simply will not pay) a write off occurs.

Write-offs are only an accounting entry. They do not mean that loan recovery should not continue to be pursued if it makes economic sence. Writing off a loan does not mean the organization has relinquished its legal claim to recover the loan. If a loan that was previosly written off is recovered (the borrwer has repaid the loan) then the full amount recovered as revenue (credit) on the income statement. This is because the principal amount write off was recorded as an expense (throught the loan loss provision that created the loan loss reserve) and therefore if recovered it is recorded as revenue and not as a decrease in outstanding loan portfolio (assets) (Ledgerwood, J. 1999).

Bad Debt Expense is acccount used for uncollectible accounts receivable and notes receivable. It is very important that consistent and justifiable method of etimating the periodic charge to provision for bad debts should be applied systematically (Piland, N.F., Glass, K.P. 1999).

Debt collecting

Many bed debts are difficult to collect and are often written off. In most cases a organizations take many steps before deeming it a bad debt. The forced collection process at financial institutions usually involves the activation of security instruments, enforcement documents or promissory notes. When the creditor determines that all activities have been undertaken, but that the collection has not been successful, he can at any time sell the debt to a third party, e.g. a debt collection agency.

Collection attempts can continue even after the debt has been written off. Payment can still be made after the debt has been written off, making it a bad debt recovery. In an effort to reduce the share of uncollectible debts institutions take various preventive measures but also try to collect debts that have already been defined as uncollectible. One way to collect such debts is to hire companies or agencies for the collection of bad debts.

Preventing bad loans is far better than treating bad credit. Uncollectible loan can be solved by legal and non-legal means. Foreclosure and settlement are illegal strategies for managing bad loans. The main purpose of resolving the loan should be to recover the maximum amount of funds from the borrower. Banks must identify problem accounts and must take prompt management steps. When entering into compromise settlements, banks should keep in mind the return of the maximum loan amount and cost reduction, the examination of compromise proposals and the establishment of special departments to monitor non-performing loans and their collection (Afrin, S. 2020).

Bad debt in healthcare industry

Also, for example the healthcare industry is often plagued by (Shi, D., Zurada, J., Guan, J. 2014):

  • unpaid bills
  • collection agency fees and
  • outstanding medical testing costs.

All these factors contribute significantly to the rising cost of healthcare. Health care providers often have to treat patients on credit, especially in emergency and trauma cases. In recent years researchers have started to recognize the potential of data mining methods in improving our understanding of medical bad-debt, but there is relatively little research that examines the effectiveness of data mining methods in classifying bad debt in healthcare (Shi, D., Zurada, J., Guan, J. 2014).

The post bad-debt recovery strategies that are being used by MFIs currently such as recovery from savings or guarantos income, reminders, promise register and legal actions are less result oriented. The findings denoted that pre-debt recovery strategies such as high quality formal and informal pre-lending customer screening process, enhancement of skills of the field officers, who's given with the responsibility of assuring the feasibiity of the customer and portfolio tracking after the disbursement of the loan, enhancement of social capital among the group network system by providing business development services, improving financial literacy of customer can make a huge influence of the loan repayments which is possibly minimizes the default risk of non-performing loans (Rajapaksha, K.N.S., Ediriweera, E.A.I.N., Deshika, N.P.T. 2019).

Bad debt recoveryrecommended articles
Doubtful accountAccounts uncollectibleCreative accountingCredit managementBank referenceAccounting processAccounting PrinciplesSubsidiary accountLoan application


Author: Ivana Miškić