What happens if an unpaid debt is collected? VAT and corporation tax

When a company has an unpaid debt, it often recovers the VAT charged and records a tax-deductible impairment in corporation tax.

But what happens if, some time later, the debtor ends up paying? Does the VAT have to be charged again? Does the corporation tax have to be adjusted?

In this article, we explain how to proceed correctly when an unpaid debt is collected, distinguishing between different types of customers, in order to avoid errors, adjustments and problems with the tax authorities.

How can VAT be recovered from an unpaid debt?

Time requirement

When an invoice remains unpaid, the creditor company can recover the VAT charged. To do so:

• Six months or one year must have elapsed since the date of accrual of the transaction.
• Within the following six months, a corrective invoice must be issued for non-payment. This invoice allows for a lower amount of VAT charged to be declared in the period in which the corrective invoice is issued.

In the case of companies with a turnover of more than €6,010,121.04 in the previous year, they may only carry out VAT recovery procedures after one year has elapsed, rather than six months.

Formal requirements

In addition to the time requirement, the company must meet certain additional requirements, including:

• Have claimed payment through legal action, a notarial request or any other means that proves the claim (e.g. a registered fax).
• Notify the tax authorities of the correction within one month of issuing the corrective invoice, via the electronic headquarters.

What happens if, after recovering the VAT, the unpaid credit is collected?

If subsequent collection occurs, the course of action will depend on the type of debtor.

Company

If the customer is another company (either a sole trader or an entity), the creditor does not need to take any action:

• Upon receiving the correction of the initial invoice, the defaulting customer should have included the unpaid VAT in their periodic return as a reduction in input VAT.
• This customer became a debtor to the tax authorities (they returned the VAT that had been deducted and not paid to the tax authorities, by including it as lower input VAT in their settlement). Therefore, only the principal of the transaction without VAT remained outstanding.
• If the customer now pays the outstanding principal, the creditor company will no longer have to issue any invoices or demand payment of VAT.

An upward adjustment will be necessary in the event of: withdrawal of the legal claim without having collected the debt, agreement to collect after the payment demand, or agreement on a new due date between creditor and debtor.

In many cases, the courts that rule on these disputes order payment of the principal plus VAT, without taking into account that the VAT was no longer claimable because it had been corrected. In this case, it is recommended that the creditor company limit itself to collecting the principal and waive the collection of that VAT. If it does collect it, then it will be obliged to adjust the tax base upwards, since otherwise it would be appropriating an amount that should be paid to the tax authorities.

Private customer or public administration

The situation is different if the customer is a private individual or a public administration. As the debtor is not obliged to submit VAT returns, when the creditor company rectifies the initial invoice and recovers the VAT, it will not become a debtor to the tax authorities.

Therefore, if the customer pays at a later date, the creditor company must reissue a corrective invoice with VAT for the amount paid by the customer.

In these cases, it is understood that VAT is included in the amounts received and in the same proportion as the part of the consideration charged.

Practical example of partial collection of an unpaid debt

Initial debt:

• €10,000 + 21% VAT = €12,100

Partial collection: €5,000

• €4,132 → principal
• €868 → VAT

This VAT is the amount that the creditor company must itemise on the new invoice and include in its periodic return as VAT charged.

Unpaid loans and corporation tax: is impairment deductible?

Non-payment entails recording an expense for customer impairment in the accounts, which will only be tax deductible if one of the following requirements is met:

• The debtor has been declared bankrupt or prosecuted for asset stripping.
• The company has initiated legal or arbitration proceedings against the debtor.
• At least six months have elapsed since the transaction was due.

If these six months have not yet elapsed at the end of the financial year, it will be necessary to make a positive adjustment in corporation tax and wait until the following financial year.

Please note: impairment will not be deductible if:

• The debtor is a public entity, unless there is a legal or arbitration claim.
• The debtor is a related company, unless it is in bankruptcy and in liquidation.
• The credit is secured (mortgage, bank guarantee, credit insurance or surety).

If the guarantee only covers part of the debt, the impairment will only be deductible for the unsecured part.