The State of California has recently enacted changes to its sales and use tax laws, particularly concerning bad debt deductions for lenders and affiliated entities. These changes, outlined in Senate Bill 167 (Ch. 34, Laws 2024), are designed to clarify the tax responsibilities surrounding bad debts and impact lenders, affiliated entities, and retailers.
Key Changes Effective January 1, 2025:
Lenders and Affiliated Entities:
Starting on January 1, 2025, lenders may no longer take a bad debt deduction or file claims for refunds for accounts found worthless.
Affiliated entities (defined under Section 1504 of Title 26 of the United States Code) of a retailer will also be unable to take bad debt deductions or file refund claims for accounts deemed worthless after this date.
A lender refers to anyone who holds a retail account purchased from a retailer or through a direct contract with the retailer, which has previously reported the tax. Affiliates and assignees of these persons are also considered lenders.
Historical Deductions:
Lenders and affiliated entities are allowed to continue taking bad debt deductions or file refund claims for accounts written off as worthless before January 1, 2025.
Refund claims must be filed within three years from the date the account was written off for income tax purposes.
Collection of Previously Claimed Bad Debts:
Suppose a lender or affiliated entity subsequently collects on previously written-off bad debts. In that case, they are required to report the taxable percentage of the collected amount to the California Department of Tax and Fee Administration.
Retailers' Bad Debt Deductions:
Retailers can continue to claim bad debt deductions for sales or use tax already paid to the state, which remains unaffected by the new legislation. Retailers can also still claim deductions for bad debts written off after January 1, 2025, if the debt is worthless for income tax purposes.
What This Means for Lenders, Affiliated Entities, and Retailers:
For lenders and affiliated entities, these changes may limit their ability to recover taxes previously reported, which increases the importance of efficient debt collection prior to January 1, 2025. Retailers, however, remain unaffected in their ability to claim bad debt deductions moving forward. Businesses and affiliated entities must review and adjust their accounting practices accordingly to ensure compliance with the new law.
Businesses should consult with their CPA or tax professionals to understand how these changes impact their operations and to explore strategies for managing bad debt more effectively.
For further details or assistance with specific cases related to bad debt deductions under the new rules, please reach out to a tax advisor or the California Department of Tax and Fee Administration.
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