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Subject:
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Regarding Section 231(1) of the Excise Tax Act ("ETA")
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Thank you for your e-mail of September 10, 1997 regarding bad debts and a criminal proceeding.
Statement of Facts
1. In late XXXXX , a printing firm, discovered the company's accounts receivable were overstated by XXXXX as a result of embezzlement by a trusted salesman.
2. The salesman has been prosecuted and a judgment for partial restitution has been ordered.
3. The company did not have insurance that covered this situation.
4. XXXXX has written off the XXXXX in accounts receivable and took a bad debt adjustment of approximately XXXXX
You have asked whether the provisions of ss. 231(1) of the ETA have been correctly applied in the above circumstances.
It is our view that the XXXXX firm would not be able to claim a bad debt adjustment on the GST portion of the accounts receivable that were stolen.
In order for a deduction in determining net tax to be available, it must be shown that the requirements of ss. 231(1) of the ETA have been met. Among these requirements, ss. 231(1) of the ETA requires a supply to have been made and "that it is established that the consideration and tax" for that particular supply "have become in whole or in part a bad debt."
The determination of whether an amount is a bad debt must be consistent with generally accepted accounting principles. Generally, a debt is a bad debt when all reasonable steps have been taken to obtain payment and it has become evident that the debt is uncollectible.
In the case at hand, the accounts receivable were paid by the clients. These funds were later stolen. In our view, this would not constitute a bad debt as the consideration and tax were paid by the recipients. We understand that under generally accepted accounting principles, this would not be treated as a bad debt expense. Instead, it would be treated as an extraordinary adjustment at year end. There is no provision in the Excise Tax Act which would allow for an adjustment for GST that was paid on an accounts receivable and subsequently stolen.
If, as a result of the judgment for partial restitution, the printing firm sets up an accounts receivable from the former employee and which the printing firm then writes off, ss. 231(1) would not apply. In this circumstance, a taxable supply has never been made to the employee nor GST payable. The printing firm would be unable to claim an adjustment to its net tax in respect of the judgment.
I wish my response could have been more favourable.
Sincerely
KerriAnne Boyd
Legislative References: 231(1)
NCS Subject Code(s): 11610-4
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