Bad debt expense is the income statement charge a business records for receivables it does not expect to collect, recognized under US GAAP in the period the estimate is made rather than the period a particular customer stops paying. Under current US accounting standards the charge answers to a newer name: at the reporting date an entity reports in net income, as a credit loss expense, the amount necessary to adjust the allowance to management’s current estimate of expected credit losses (FASB Accounting Standards Update 2016-13, paragraph 326-20-30-1). Bad debt expense is the ledger name that same charge still carries in practice.
The Expense Is a Flow, the Allowance Is a Balance
One sentence separates the two accounts this term is usually tangled with. Bad debt expense is a flow through a period, closed to income at the end of it, while the allowance for doubtful accounts is a standing balance at a date, carried against gross accounts receivable until a write-off or a later adjustment moves it.
They are linked but rarely equal. The charge for a period is only the distance between where the allowance already stands and where the current estimate says it should stand, so a large allowance can sit above a small charge, and a small allowance above a large one. Sizing the estimate is the allowance’s job. Taking the charge is this account’s.
How the Charge Arises
Two methods produce an expense figure, and they put it in different periods.
Under the allowance method the estimate comes first. At the reporting date the entity records an allowance for credit losses on the assets in the standard’s scope and reports the true-up amount in net income (FASB Accounting Standards Update 2016-13, paragraph 326-20-30-1). A write-off, which is the removal of a specific customer balance judged uncollectible, is then deducted from the allowance rather than charged to income (FASB Accounting Standards Update 2016-13, paragraph 326-20-35-8). Expense never moves on the day a particular debt goes bad, because the charge was taken when the estimate was made. The two entries the allowance method runs on are set out in allowance for doubtful accounts.
Under the direct write-off method there is no estimate. The receivable goes straight to expense when it is judged bad, and nothing is carried against the balance in the meantime. GAAP does not leave that route open for reporting purposes, because an allowance is recorded at the reporting date (FASB Accounting Standards Update 2016-13, paragraph 326-20-30-1). Writing the receivable off when it goes bad is the tax return’s mechanic, not the book model.
What the Books Charge and What the Return Deducts
The book charge is not a deduction. The deduction turns on a debt becoming worthless within the taxable year rather than on an estimate of what a set of balances will do (26 U.S.C. 166(a)), and the evidence that settles whether a particular balance has reached that point is worked through in how to read an accounts receivable aging report.
The section carries no reserve route of its own. The subsection that once allowed a deduction for a reasonable addition to a reserve for bad debts was struck out in 1986 (26 U.S.C. 166).
The return line is narrower than the book account for the same reason. Form 1120 carries bad debts at line 15 (IRS, Form 1120 (2025)), and the instruction for that line is to enter the total debts that became worthless in whole or in part during the tax year, while a corporation using the cash method cannot claim a bad debt deduction unless the amount was previously included in income, and a small bank or thrift institution using the reserve method of section 585 should attach a statement showing how it figured the current year’s provision (IRS, Instructions for Form 1120 (2025)).
An estimate booked this year and deducted in a later one is a deductible temporary difference, meaning a difference that reverses when the deduction finally lands, which is where deferred tax assets come from.
For a taxpayer other than a corporation a nonbusiness debt leaves this account entirely. A nonbusiness debt is one other than a debt created or acquired in connection with a trade or business of the taxpayer, or a debt the loss from the worthlessness of which is incurred in the taxpayer’s trade or business, and where such a debt becomes worthless within the taxable year the loss is considered a loss from the sale or exchange, during the taxable year, of a capital asset held for not more than 1 year (26 U.S.C. 166(d)), which is the capital loss route rather than an expense on anyone’s books.
Where the Charge Lands in a Firm’s Work
On a multi-step income statement the charge usually sits among operating expenses, below gross profit, so it reduces operating income rather than the cost of what was sold.
Nothing posts it. There is no invoice, no bill and no bank line behind bad debt expense. It is produced during the close, from a schedule one person builds and another reviews, so the review is over the inputs and the method instead of over a source document.
A Worked Example
Say a company starts its first year of trading with no allowance, writes off specific invoices during the second year, and makes a fresh estimate at each reporting date.
Year 1
Allowance, opening 0
Estimate of expected credit losses at year end 7,500
Bad debt expense for the year 7,500
Allowance, closing 7,500
Accounts receivable, gross 180,000 (unchanged by the charge)
Accounts receivable, net 172,500
Year 2
Allowance, opening 7,500
Specific invoices written off in the year 5,000 (no expense recorded)
Allowance before the year-end adjustment 2,500
Estimate of expected credit losses at year end 6,000
Bad debt expense for the year 3,500
Allowance, closing 6,000The second year is the one worth reading twice. The invoices written off were larger than the year’s charge, and the charge matched neither the write-offs nor the estimate: it was only the distance between the allowance left after the write-offs and the new estimate. The write-offs moved gross receivables and the allowance by the same amount and never reached income, and the year-end charge moved the income statement without touching the gross receivable at all.
Common Questions
Debit bad debt expense and credit the allowance at the reporting date, for the amount necessary to bring the allowance to management’s current estimate (FASB Accounting Standards Update 2016-13, paragraph 326-20-30-1). The later write-off entry against a specific balance runs the other way and is set out in allowance for doubtful accounts.
Its normal balance is a debit, like every other expense, which is the opposite of the allowance it feeds. The adjustment is the amount necessary to bring the allowance to the current estimate, so where that estimate comes in below the allowance already carried, the entry runs the other way and the expense account is credited (FASB Accounting Standards Update 2016-13, paragraph 326-20-30-1).
On the books there is no cap. The charge is whatever the current estimate of expected credit losses supports, and it moves up or down with that estimate. On the return the amount is set by basis rather than by the face of the invoice: the basis for determining the amount of the deduction for any bad debt is the adjusted basis provided in section 1011 for determining the loss from the sale or other disposition of property (26 U.S.C. 166(b)). Where the debt is a noncorporate taxpayer’s nonbusiness debt, the loss enters as a short-term capital loss, and the limits on capital loss decide how much a single year can absorb.
A bad debt is a customer balance the business has judged it will not collect. The accounting question is when the loss is recognized, and under the allowance method it is recognized before that judgment is made about any particular customer, as an estimate charged at the reporting date.
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