A bad debt is money owed to you that you can't collect.
Bad debts occur when you provide products or services on credit. While some customers just need more time to pay, others (hopefully a small number!) never will, and the income from the sale is never realized.
Besides costing you money, bad debts complicate accounting. When you're using accrual-basis accounting (as most businesses do), you must recognize your income at the time of sale, not when it actually comes in. Because of the time lag as the non-paid sale becomes an overdue account, you go through various collection procedures, and the overdue account eventually becomes a bad debt, you may not realize that you have a bad debt until a later tax year.
The accounting solution is to make an allowance for bad debts, matching the bad debts against the sales when the bad debt accrued and making a "guesstimate" of the amount.
You may write off your bad debts on your income tax.
