As a general rule, debts written off as uncollectable cannot be considered as tax deductible. However, in certain situations, the provisions of Polish tax law provide some exceptions. According to these provisions, only strictly defined uncollectable debts (which based on the tax law were firstly booked as taxable revenues) may be considered by the taxpayer as a tax-deductible cost, provided that:
a) their uncollectability was properly documented (e.g. by a court decision),
b) their uncollectability may be considered probable (e.g. debtor’s death).
The difference between a) and b) is that in a) you can simply deduct the uncollectable debt from the tax revenues and forget about it, but in b) you can deduct the uncollectable debt from the tax revenues temporarily and if the uncollectability is not properly documented before the expiration of the right to claim this debt, the taxpayer must treat the debt as a taxable revenue at the moment of expiration of the right to claim the debt.
For example that’d be the case if you don’t report the claim to the court at all and the right to claim the debt expires.
How to document the uncollectability properly?
There are three possibilities, in accordance with art. 23 paragraph 2 of the Natural Persons Income Tax Act:
1) a decision on irrecoverability, recognized by the creditor as corresponding to the factual state, issued by the competent authority of the enforcement proceedings (for example the decision to discontinue the enforcement proceedings due to its ineffectiveness, i.e. the lack of property suitable for execution, the content of such a provision/document should clearly indicate that the debtor does not have property from which execution could be effectively carried out); or
2) court order, which rules:
a) dismissal of the application for declaration of bankruptcy, if the assets of the insolvent debtor are not sufficient to cover the costs of the proceedings or are sufficient only to cover those costs, or
b) discontinuation of bankruptcy proceedings if the circumstance referred to in point a), or
c) the end of the bankruptcy proceedings, or
3) a report prepared by the taxpayer stating that the expected legal and enforcement costs related to the recovery of claims would be equal to or higher than its amount.
How to prove, that the uncollectability may be considered probable?
There are a few possibilities mentioned in accordance art. 23 paragraph 3 of the Natural Persons Income Tax Act, such as debtor’s death or the claim was confirmed by a valid court judgment and directed to the way of enforcement proceedings, but the taxpayer may also prove in another way, that the uncollectability may be considered probable, with the reservation however, that he must prove that at the time the write-off was made, there existed grounds for recognizing that it is probable that the debtor would not pay the debt.
In practice if you don’t have a court decision the most common solution is the one from p. 3) – you prepare a report, in which you calculate the expected legal and enforcement costs related to the recovery of a debt, and if this amount is equal to or higher than the debt you can simply deduct the uncollectable debt from the tax revenues. In the report prepared on the statement that the legal and enforcement costs exceed the value of receivables, you may take into account / indicate among others court costs, costs of legal representation, costs of advance payment for experts, costs of enforcement proceedings, etc.
If you can’t document the uncollectability you can deduct the uncollectable debt from the tax revenues temporarily (if you prove in any way that the uncollectability may be considered probable), and then make sure the uncollectability is properly documented before the expiration of the right to claim this debt.