Why Bad Debts Happen and How Smart Businesses Avoid Them

Why Bad Debts Happen and How Smart Businesses Avoid Them

Every business owner knows the quiet satisfaction of sending out an invoice. It’s the reward for hard work delivered and a promise of income to come. But what happens when that payment never arrives? That lingering unpaid invoice isn’t just an inconvenience—it’s a potential bad debt, and it can quietly erode your cash flow, profitability, and peace of mind. 

So, what exactly is a bad debt? 

In simple terms, a bad debt is money owed by a customer that will never be paid, either because they can’t or won’t. You may have to write it off in your accounts, absorbing it as a loss. And that’s a hit no growing business wants to take. 

In this guide, we’ll uncover why bad debts happen, how smart businesses prevent them, and what to do when things go wrong. If you’re looking to protect your business finances, reduce risk, and improve cash flow, this is for you. 

The “Why”: What Really Causes Bad Debts?

The "Why": What Really Causes Bad Debts?

Understanding the root causes of bad debts is the first step in building your defence. 

* Inadequate Credit Checks 

It’s tempting to welcome every sale with open arms, especially when you’re starting out. But extending credit without checking a customer’s payment history or financial health is like offering a parachute you’ve never tested. Credit reference agencies like Experian or Equifax can provide insight into a customer’s reliability—use them. 

* Vague or Incorrect Invoicing 

Invoices are legal documents, and even small errors can lead to delays or disputes. Missing purchase order numbers, incorrect amounts, or vague descriptions all give customers an excuse to delay payment. Your invoice should be crystal clear—lay out what you provided, when, how much it costs, and when it’s due. 

* Poor Communication & Follow-up 

If you’re not chasing invoices promptly, you may be sending the wrong message—that getting paid isn’t urgent. Many businesses fail here simply because they don’t have a structured follow-up system. 

* Customer Financial Distress or Insolvency 

Sometimes, even the best customers run into trouble. A sudden downturn, supply chain crisis, or internal mismanagement could leave your client unable to pay—or worse, in administration. These cases are unfortunately common and often out of your control. 

* Disputes Over Goods or Services 

If your customer is unhappy with the product or service, they might use payment as leverage. Disputes—no matter how minor—can stall cash flow for weeks or even months. Clear contracts, honest communication, and quick resolution are essential. 

* Inefficient Record-Keeping 

Can’t find that invoice? Don’t know who’s paid and who hasn’t? You’re not alone. Poor records lead to missed follow-ups, duplicated invoices, or even forgotten payments. This is where professional bookkeeping can make a dramatic difference. 

The “How”: 7 Smart Strategies to Avoid Bad Debts

The "How": 7 Smart Strategies to Avoid Bad Debts

It’s not enough to react—you need to plan ahead. These proven strategies will help you stay one step ahead of bad debts. 

1. Implement a Robust Credit Control Policy

Think of this as your credit playbook. Define: 

    • Who qualifies for credit 
    • Standard payment terms (e.g., 14 or 30 days) 
    • Your step-by-step late payment follow-up process 

Make use of UK credit reference agencies to assess new clients before extending credit. Prevention is always cheaper than cure. 

2. Issue Clear and Professional Invoices—Instantly

Send invoices immediately after completing a job. A professional invoice should include: 

    • Business and client details 
    • Unique invoice number 
    • Itemised description of goods/services 
    • Total amount including VAT 
    • Due date and payment methods 

3. Offer Multiple Payment Options

The easier it is to pay you, the faster you’ll get paid. Accept: 

    • BACS 
    • Debit and credit cards 
    • PayPal or Stripe 
    • Direct debit for recurring payments 

Don’t lose money because someone couldn’t pay their preferred way. 

4. Communicate Proactively and Consistently

A simple reminder before the due date often prevents delay. After that: 

    • Day 1 overdue: Send a friendly email reminder 
    • Day 7: Follow up again 
    • Day 14: Call to discuss 
    • Day 30: Send a formal reminder 

Consistency shows professionalism and urgency. 

5. Consider Upfront Payments or Deposits

Especially for large orders or new clients, request a deposit. It secures commitment, improves cash flow, and protects you if the relationship sours. 

6. Act on Disputes Immediately

Never let complaints sit unanswered. Respond quickly, document everything, and resolve the issue to unlock payment. Ignored disputes often turn into bad debts. 

7. Maintain Meticulous Financial Records

Accurate books allow you to spot slow payers before they become no-payers. 

    • Track all receivables 
    • Flag late accounts 
    • Monitor trends in payment behaviour 

Accounting for the Inevitable: The Bad Debt Provision 

Even the most diligent business faces the occasional bad debt. Accounting for it properly is key. 

What is a Bad Debt Provision? 

A bad debt provision (also known as an allowance for doubtful debts) is an amount set aside in your books to cover debts that may not be collected. 

It’s not a random guess—it’s an informed estimate based on past experience or specific customer risk. 

Why is it Important? 

In the UK, this is crucial for two reasons: 

    • It keeps your accounts accurate, ensuring you’re not overstating receivables. 
    • It complies with UK accounting principles like FRS 102/105, particularly the prudence concept. 

How Do You Record It? 

You record: 

      • A bad debt expense in your profit and loss account 
      • A bad debt provision (a contra-asset) on your balance sheet 

When a Debt Goes Bad: Your UK Action Plan 

Sometimes, despite best efforts, a debt becomes irrecoverable. 

Writing Off the Debt 

Once you’re sure the debt won’t be paid (e.g., after 90–120 days of no response), write it off. This means: 

    • Removing the invoice from your receivables 
    • Recording it as a bad debt expense 

Claiming VAT Bad Debt Relief 

If you’ve already paid VAT on the invoice to HMRC, you may be eligible to reclaim it. 

Conditions: 

    • The debt is over 6 months overdue 
    • It has been written off in your books 
    • The invoice was originally accounted for in your VAT returns 

Learn more about VAT Bad Debt Relief on GOV.UK  

Let Kwikbooks Be Your Financial Shield

Let Kwikbooks Be Your Financial Shield

Managing credit, chasing payments, and tracking your finances takes time—time you’d rather spend growing your business. 

At Kwikbooks, we do more than balance your books. We build proactive systems that prevent bad debts before they happen. From accurate invoicing and credit control to tracking slow payers and ensuring HMRC compliance, we’ve got your back. 

 Discover Our Bookkeeping Packages 

Conclusion & Key Takeaways 

Bad debts don’t just happen—they’re usually preventable. With clear systems, consistent follow-up, and smart bookkeeping, you can significantly reduce your risk. 

Remember: prevention beats collection. Be proactive, and your cash flow will thank you. 

Frequently Asked Questions

While there's no legal rule, many businesses consider writing off debts after 90–120 days. However, to reclaim VAT, the invoice must be at least 6 months overdue and written off in your accounts.

A doubtful debt is one you suspect may not be paid. A bad debt is confirmed as uncollectible and has been formally written off.

Yes. Debt collection agencies are commonly used as a last resort. They charge either a fixed fee or a percentage of the recovered debt.