In business, law can help you reduce bad debts

In business, law can help you reduce bad debts

Amounts of money that a creditor must write off as a result of a default on the side of the debtor are referred to as bad debts. If a creditor keeps track of bad debts, they become uncollectible and are noted as charge-offs. All companies that offer credit to clients must account for the possibility of bad debt since there is never a guarantee that a payment will be made. These companies can determine how much of their receivables may become uncollectible by utilising either the percentage of sales technique or the accounts receivable (AR) ageing method.

Any credit given by a lender to a debtor that has no chance of ever being repaid, in full or in part, is considered a bad debt. Any lender whether it is a bank or other financial institution, a supplier, or a vendor, may have bad debt on their books. Bad debts become bad debts because the debtor is unable or unwilling to pay due to bankruptcy, financial hardship, or negligence. Before deciding that a bad debt is uncollectible, these companies may pursue all available options for collection, including collection activity and legal action.In India there a numerous legal provisions that might help a business to reduce the bad debts.

A deduction is permitted if a business or professional-related debt becomes unrecoverable in the prior fiscal year. If the loans given by banking or money lending companies are unable to recover the obligations in full or in part, a deduction may be made. The deduction is predicated on the existence of fully legal or court-enforceable unrecoverable debts.

Kinds of bad debts:

There are two types of bad debts –

  • Specific allowance
  • General allowance.

Methods for Debt Recovery: There are numerous ways to collect debt, some of which are categorised as legal and others as illegal. Calling the client or customer to resolve the issue amicably or using commission-based debt collectors are two non-legal ways to recover debt. Legal techniques for collecting debts include:

1) Civil Remedy: A party who has been wronged may send the debtor a legal notice to begin a civil lawsuit for unpaid debts or damages.

2) Criminal Remedy: When the issue is serious, the offended party may file a FIR at the local police station with jurisdiction over the subject. After the FIR is filed, a criminal case must be launched, and the legal process will then begin.

3) Out of Court Settlements: For a quick and efficient way, under this category, the aggrieved party can resolve the dispute and recover money through mediation, arbitration or negotiation.

Laws for Debt Recovery:

In India, recovering money or debt can be a difficult undertaking. Choosing which law to apply can be difficult due to the multiplicity of laws in existence. The following laws are applicable for money recovery under Indian jurisdiction:

  • Indian Contract Act, 1872: The cause of India's growing debt is primarily a breach of contract. In other words, a Contact is the source of the majority of debt recovery cases. According to the facts and circumstances of the case, the harmed party may rely on the following sections of the Contract Act:

1. Section 17: Fraud

2. Section 18: Misrepresentation

 3. Section 124: Contract of Indemnity

4. Section 126: Contract of Guarantee

5. Section 73: Compensation of Loss or Damage by breach of Contract.


  • Negotiable Instruments Act, 1881: When cheques are dishonoured under Section 138 for returning a promissory note or bill of exchange, this Act becomes applicable. To begin legal actions for debt recovery under the Negotiable Instruments Act, a legal notice must first be given.
  • Civil Procedure Code, 1908: Under Order 37, a summary suit can be filed for recovery of money for speedy disposal of cases.
  • Indian Penal Code, 1860: The Indian Penal Code may be invoked if the harmed party incurred debt as a result of any of the following:
  1. Criminal Breach of Trust, Section 405 and Section 406.
  2. Dishonest misappropriation of property, Section 403.
  3. Cheating, Section 415 and Section 417.
  • Recovery of Debts Due to Banks and Financial Institutions (RDDBFI Act), 1993: This applies when the person that is being wronged is a financial institution, such as a bank or a private finance corporation, and it establishes tribunals for adjudication and debt recovery.
  • Securitisation & Reconstruction of Financial Assets & Enforcement of Security Interest (SARFAESI) Act, 2002: By establishing Asset Reconstruction Companies, this Act seeks to control the securitization and reconstruction of financial assets.
  • Arbitration and Conciliation Act, 1996: Section 7 of the Arbitration and Conciliation Act may be used for an out-of-court settlement where there is an arbitration clause present or when the parties agree to utilise arbitration as a method of resolving disputes.
  • Insolvency and Bankruptcy Code, 1905: This Act becomes applicable only in cases where the opposite party becomes bankrupt or insolvent.

Letter Before Action

A formal letter delivered to the debtor by the creditor or the creditor's designated representative asking him to settle the debt before taking legal action against him is known as a Letter before Action (LBA). This letter serves as a final reminder and contains all the pertinent details, such as the due date for payment of the debt and any applicable interest. This serves as the debtor's last reminder to stay out of court.

How can a lawyer help?

A lawyer can assist in the filing of summary suits, applications under DRTs, or applications before NCLT because the process of recovering debt involves so many legal procedures and so many overlapping laws. The formalities involved in the recovery process can vary depending on the forum and jurisdiction that is selected. Therefore, a lawyer will be able to advise the creditor on the best course of action for recovering the debt, including whether to file a summary action before a civil court or an application before a tribunal, and if so, which tribunal is the right one to file with.

A good and skilled arbitrator or a lawyer can help a bus to reduce its bad debts by giving major and profitable legal advice.

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