Legal Definitions - bad debt

Bad debt refers to money owed to an individual or organization that is considered uncollectible and will likely never be repaid. This occurs when the debtor (the person or entity that owes the money) is unable or unwilling to fulfill their financial obligation, often due to bankruptcy, insolvency, disappearance, or other circumstances that make recovery impossible. For the creditor (the person or entity to whom the money is owed), bad debt represents a financial loss.

• A small graphic design firm completes a large project for a client, invoicing them for $10,000. Before the payment is due, the client company unexpectedly declares bankruptcy and liquidates all its assets, leaving no funds to pay its outstanding invoices. The $10,000 owed to the design firm becomes bad debt because there is no reasonable expectation of recovery.

• A regional bank issues a business loan of $500,000 to a local restaurant. After a year, the restaurant experiences severe financial difficulties due to unforeseen market changes and is forced to close its doors permanently. Despite the bank's efforts to recover the funds through legal means, the restaurant's assets are insufficient to cover the outstanding loan balance. The remaining unpaid portion of the loan is classified as bad debt by the bank.

• Sarah lends her former college roommate, Mark, $2,000 to help him cover an emergency medical bill, with a clear agreement for repayment within six months. After receiving the money, Mark moves to another state, changes his phone number, and ceases all communication with Sarah. Despite Sarah's attempts to contact him, she is unable to locate Mark or recover the money. The $2,000 becomes bad debt from Sarah's perspective, as it is now considered uncollectible.