What is a Bad Debt?

Summary

This video explains the concept of bad debt, which refers to money borrowed that a borrower cannot or will not repay. It also discusses related terms such as bad loans and delinquent loans. Bad debt often results when a borrower goes bankrupt, and the cost of recovering the debt exceeds the amount owed. A bad debt is written off as an expense by the lender, whereas a doubtful debt is a situation where the lender is unsure but still hopes to recover the money. The video provides clarity on how businesses should handle these types of debts.

Takeaways

• 💰 Bad debt is money that a borrower cannot or will not repay, which can also be called a bad loan or delinquent loan.
• 📉 The exact definition of bad debt varies by country and company, but it generally refers to loans that become problematic after being overdue for over 90 days.
• 🏦 In personal finance, a bad debt is often associated with high-interest loans taken to purchase goods or services.
• 🔴 A loan is considered a bad debt when the lender concludes that it will never be repaid, leading to a write-off in the profit and loss statement.
• ⚠️ Businesses should prepare for potential bad debts by making provisions as soon as they anticipate delinquent loans.
• 💸 Bad debts are often a result of the borrower going bankrupt or when the cost of recovering the money exceeds the amount owed.
• 📚 When the cost of collecting the debt is greater than the owed amount, it is more economical for the lender to write it off as a bad debt.
• ❗️ A bad debt must be removed from accounts receivable in accounting to accurately reflect the business's financial status.
• 🔄 A doubtful debt is a stage before bad debt, where the lender is uncertain if the debt will be repaid, so collection efforts continue.
• 💼 The main difference between bad debt and doubtful debt is the certainty of repayment—bad debt is a confirmed loss, while doubtful debt is still pursued with uncertainty.

Q & A

What is a bad debt?

A bad debt is money that someone borrowed but cannot or will not repay. It may also be referred to as a bad loan or delinquent loan.

Can the definition of bad debt vary?

Yes, the definition of bad debt may vary slightly from country to country and company to company.

What is an example of bad debt in personal finance?

In personal finance, a bad debt is often a high-interest debt taken on by consumers when purchasing something from a store.

When does a loan become a problem loan?

A loan becomes a problem loan when it is more than 90 days in arrears.

What happens when a lender concludes that a loan will never be repaid?

When a lender concludes that a loan will never be repaid, it becomes a bad debt.

What should accountants do with bad debts?

Accountants should write off the full amount of a bad debt in the profit and loss account.

What is recommended when a business sees a delinquent loan coming?

The business should make provisions for delinquent loans as soon as it anticipates one.

What often causes bad debts?

Bad debts are often the result of the borrower going into bankruptcy.

Why might a lender classify a loan as a bad debt?

A lender might classify a loan as a bad debt if the cost of recovering the money is greater than the amount owed.

What is the difference between a bad debt and a doubtful debt?

A bad debt is money the lender will never collect, resulting in a loss. A doubtful debt is one step before it becomes a bad debt, where the lender is unsure whether the debtor will pay.