In order to present a fair picture of the financial condition of the company, entrepreneurs are obliged to take care of the actual state of their assets and liabilities.

Given that the implementation of value adjustment and write-off of receivables affects the reduction of the company’s assets and the increase in costs, it is important to determine when the same costs will be tax deductible and when they will be non tax-deductible expenses.

A receivable from an entrepreneur arises from the sale of goods or services, on the basis of which the entrepreneur expects cash inflows and reports income on which he pays income tax.

But what if the customer is late with payment or does not pay his obligation?

1. Value adjustments of receivables

When is necessary to carry out value adjustment of receivables?

It is carried out when the receivables have not been collected within the agreed period of their due date, but there is still the possibility of their collection. In accordance with HSFI 11 (Croatian standards of financial reporting), it is important for the entrepreneur to assess the existence of objective evidence that may affect the impairment of receivables value, which may be indicated by:

– financial difficulties of the debtor,

– non-compliance with the contract resulting in late payment or non-payment of obligations,

– the possibility of bankruptcy or liquidation of the company.

The accounting adjustment is carried out through the reduction of the carrying amount on the expense accounts 445/and the receivables value adjustment account 129, while the tax recognition of the costs of value adjustment depends on the conditions set out in Article 9 of the Corporate Income Tax Act. This means that its tax effect consequently affects the accounting profit/loss, i.e. the corporate income tax base and at the end amount of tax to be paid.

With the value adjustment, the accounting value of the adjusted receivable is €0.00, but it is still kept in the balance sheet records and is carried forward to the next period.

Value adjustment of receivables – tax status

The value adjustment of receivables is considered a tax-deductible expense if the conditions set out in Article 9, paragraph 1 of the Corporate Income Tax Act (Official Gazette 177/04 – 114/23) are fulfilled:

1. Time lapse from the due date of the receivable: A value adjustment is tax recognized cost if more than 60 days have elapsed from the due date of the receivable to the end of the tax period (31 December), and the receivable has not been collected up to 15 days before the deadline for filing the tax return.

Most often, these are receivables whose maturity date is not later than 30 November, regardless of the amount of receivables per individual customer, but these can also be older receivables for which income was previously recognized, but no value adjustment were ever done.

It is important to note that in the case of such “older” claims, it should first be checked that the statute of limitations has not expired in the meantime.

2. Documented: A value adjustment can only be tax deductible for receivables for which income was previously recognized. The value adjustment must be documented in the analytical accounting and there should be a decision of the company on the adjustment.
3. Taking timely actions for the purpose of collection: For uncollected overdue receivables for which from the due date to the moment of the statute of limitations, (in accordance with the General Tax Act – the limitation period for mutual claims from commercial contracts in the trade of goods and services is 3 years), there should be documentation proving that actions have been taken with due diligence aimed at collecting receivables – initiating enforcement proceedings, lawsuits, applications in the bankruptcy estate or settlement in the course of bankruptcy proceedings, etc. (regardless of their outcome).

This means that if the previously made value adjustment was treated as a tax-deductible expense and at the time of the implementation of the value adjustment for the tax effect had a reduction in the corporate income tax base, and subsequently if no collection actions were taken until the statute of limitations occurred, the same will become a non tax-deductible expense on the day of the statute of limitations, which will result in an increase in the corporate income tax base.

In the event that the debtor, after the implementation of the value adjustment, subsequently pays (settles its debt) the amount of the value adjustment that previously increased the expenses as a tax-deductible expense and thus reduced the tax liability, at the time of collection it is to be included in the income of the period and then has the opposite tax effect – it increases the tax base i.e. increases the corporate income tax liability.

2. Write-offs of receivables

Write-off of receivables is carried out when there is no longer a possibility of collection (e.g. the onset of the statute of limitations occured, completed bankruptcy, etc.). Partial write-offs are also possible by agreement with the debtor, where part of the receivables are being paid and the rest is written off.

Tax recognition of write-offs of receivables is regulated by Article 9 of the Corporate Income Tax Act, where the key factors are related to the facts of whether it is:

• related persons receivables,
• the value of the receivables to be written off,
• and the actions taken regarding the collection of the same.

Therefore, one of the key conditions for a tax-deductible write-off requires the entrepreneur to act with the care of a good businessman, i.e. to undertake actions aimed at collecting receivables – initiating legal actions, enforcement, lawsuit, etc.

Accounting and tax aspects

For uncollected receivables for which the onset of the statute of limitations has occurred, the tax base is adjusted depending on the amount of the receivables and the conditions prescribed by Article 9 of the Corporate Income Tax Act.

An entrepreneur can write off uncollected receivables for which the onset of the statute of limitations has occurred as a tax-deductible expense:

• for those receivables that are time-barred and do not exceed the amount of € 665.00 per individual unrelated debtor who is a corporate income tax or income tax payer on the basis of self-employment and on the basis of an individual invoice or other equivalent document that does not exceed the stated amount.

This would mean that if the invoice is for an amount that is higher, e.g. €670.00 – there is no possibility of partial write-off, but the entire amount is considered to be not tax-deductible cost. If the entrepreneur has receivables from such a debtor for 2 or more unpaid invoices – e.g. invoice 1= 350.00€, invoice 2=250.00€ and invoice 3= 180.00€ – only two invoices can be tax deductible, the sum of the full amounts of which does not exceed the stated limit for tax-deductible write-off.

Note – the write-off of obsolete receivables from related parties, regardless of the fact that their amount does not exceed the amount of € 665.00, is always a non tax-deductible expense.

•  up to the amount of €40.00 for unrelated natural persons (citizens).

If it is a receivable for which it has been established that it is impossible to collect: A receivable that was previously subject to enforcement or settlement, but has not been collected, is also recognized as a tax-deductible expense.

Collected receivables after write-off: If the written off receivable is later collected, its tax status must be corrected and the tax base adjusted/increased.

It is also important to note that in accordance with Article 9. Paragraph 8 of the Corporate Income Tax Act, the tax deductible cost of writing off receivables from unrelated parties is also considered to be those write-offs for which the entrepreneur can prove that:

– the cost of initiating certain proceedings related to the collection of receivables (suing, initiating enforcement proceedings, etc.) exceeds the amount to be collected

– and those receivables for which, despite the fact that the entrepreneur has undertaken all actions with the care of a good businessman with the aim of collecting the receivables, the final impossibility of collection has nevertheless been established

In both cases, the entrepreneur is obliged to keep appropriate records of the actions taken as evidence on the basis of which it has determined the final non-collectibility of the receivables it writes off.

Concluding remarks

In both cases (value adjustment and write-off of receivables), the application of relevant tax and accounting standards must be undertaken to ensure the accuracy of financial reporting, while systematic monitoring, reconciliation and write-off of receivables is necessary to maintain liquidity and transparency of operations.

Author, Admin