If you run an agency long enough, you will have a client who simply does not pay. Maybe they go into administration. Maybe they dispute the work and refuse to settle. Maybe they just vanish. Whatever the reason, you are left with an unpaid invoice that hits your profit and your cash flow.

Here is the good news. You can claim corporation tax relief on that bad debt. HMRC does not expect you to pay tax on income you never received. The process is straightforward if you handle it correctly. Get it wrong and you leave money on the table, or worse, trigger an HMRC enquiry.

This guide covers exactly how to claim bad debt relief for your corporation tax agency return. Real numbers. Real examples. No fluff.

What Qualifies as a Bad Debt for Corporation Tax Purposes

Not every late payment is a bad debt. HMRC draws a clear line between a debt that is genuinely irrecoverable and one that is simply overdue.

A bad debt must meet three conditions:

  • The debt is legally owed to your agency
  • You have taken reasonable steps to recover it
  • It is now considered irrecoverable

"Reasonable steps" does not mean you must take the client to court. It means you have sent reminders, made phone calls, issued formal demands, and perhaps instructed a debt collection agency. If the client has entered administration or liquidation, that alone is sufficient evidence.

What does not qualify? A client who is three weeks late but has promised to pay next month. A debt you have simply forgotten to chase. A dispute where you have not yet exhausted your recovery options. HMRC expects you to have genuinely tried before writing it off.

The Difference Between Bad Debt Relief and a Bad Debt Provision

This is where many agency founders get confused. There are two separate things you can do in your accounts, and they have different tax treatments.

Bad debt provision (specific provision). You suspect a client will not pay, but the debt is not yet irrecoverable. You can create a provision in your management accounts to reflect the risk. For tax purposes, HMRC does not allow relief on general provisions or doubtful debts. You can only claim relief on specific debts that are actually bad, not ones you think might become bad.

Bad debt write-off (actual relief). You have determined the debt is irrecoverable. You remove it from your debtors and claim corporation tax relief on the amount. This is what we are talking about in this guide.

If you are running your accounts on Xero or QuickBooks, make sure you distinguish between a provision and a write-off. Your accountant will need to see the write-off entries in your year-end accounts to support the claim.

How to Claim Bad Debt Relief on Your Corporation Tax Return

The process runs through your CT600, the main corporation tax return form. You do not file a separate claim. The relief flows through your profit calculation.

Here is how it works in practice.

Say your agency invoices a client £12,000 plus VAT for a three-month retainer. The client goes into administration four months later without paying. You have sent three reminders and a letter before action. The administrator confirms there will be no dividend to unsecured creditors.

In your year-end accounts, you write off the £12,000 as a bad debt. This reduces your profit by £12,000. At the 19% small profits rate of corporation tax, that saves you £2,280. At the 25% main rate, it saves you £3,000.

But there is a catch with VAT. You already accounted for the VAT on that invoice when you issued it. If the debt becomes bad, you can reclaim the VAT from HMRC using a VAT bad debt relief claim. That is a separate process from the corporation tax claim. Do not mix them up.

What You Need to Keep as Evidence

HMRC can and does ask to see evidence for bad debt claims. If you are selected for an enquiry, you will need to demonstrate that the debt was genuine and that you took reasonable steps to recover it.

Keep the following records:

  • The original invoice and proof of delivery of services
  • Copies of all reminders, emails, and letters sent to the client
  • Records of phone calls (date, time, who you spoke to, outcome)
  • Any correspondence from the client disputing the debt or acknowledging it
  • If the client has entered insolvency, the notice from the administrator or liquidator
  • If you used a debt collection agency, their report and final outcome

Store these digitally in your accounting software or a dedicated folder. If HMRC opens an enquiry three years after the claim, you want to be able to put your hands on the evidence in five minutes, not five days.

Bad Debt Relief for Agencies Using Accruals Accounting

Most limited companies use accruals accounting. That means you recognise income when you invoice it, not when you receive the cash. If you invoice a client in March but they do not pay until June, you still include that income in your March year-end accounts.

Bad debt relief works the same way. You recognise the write-off in the period when the debt becomes irrecoverable, not when you issued the invoice. If you invoiced the client in March 2024 but they went bust in September 2024, the bad debt relief goes into your 2024/25 accounts, not 2023/24.

This timing matters for your corporation tax agency planning. If you have a large bad debt that hits in a high-profit year, the relief is more valuable because you save tax at a higher rate. If you can time the write-off (within the rules), it makes sense to do it in a year where you are paying 25% rather than 19%.

What Happens If the Client Pays Later?

Sometimes a client who looked like a bad debt eventually pays. Maybe they came out of administration. Maybe they settled after a long dispute. If that happens, you have to reverse the bad debt relief.

In accounting terms, you credit the bad debt write-off and debit the bank account. The recovered amount becomes taxable income in the year you receive it. You effectively pay back the tax relief you claimed earlier.

This is not a penalty. It is simply correcting the position. But it does mean you should keep a running log of bad debts written off and monitor them. If a client pays in a later accounting period, tell your accountant before the year-end so they can adjust the return.

Common Mistakes Agencies Make with Bad Debt Claims

I see the same errors repeatedly when reviewing agency accounts. Avoid these and your claim will sail through.

Claiming relief on debts that are not yet bad. A client who is six months late but still trading is not a bad debt yet. You need to have exhausted your recovery options. HMRC will push back if you write off debts simply because they are old.

Forgetting to adjust for VAT. If you claim corporation tax relief on the full invoice amount including VAT, you are overclaiming. The VAT element is reclaimable separately through the VAT bad debt relief scheme. Your corporation tax claim should be on the net amount only, unless you have already reclaimed the VAT and not passed it on to the client.

Writing off debts to related parties. HMRC scrutinises debts owed by directors, shareholders, or connected companies. If you lent money to a director and they cannot repay, that is a director's loan account issue, not a bad debt. Different rules apply. Do not mix them up.

Not keeping evidence. This is the most common one. You write off a debt in your accounts but have no record of your recovery attempts. If HMRC asks, you have nothing to show. Keep the paper trail.

How Bad Debt Relief Interacts with Your Agency's Cash Flow

Bad debt relief reduces your tax bill, but it does not put cash back in your bank account. You still lost the money. The relief just means you do not pay tax on income you never received.

For agencies operating on tight margins, a significant bad debt can create a cash flow problem. You have already paid your team, your freelancers, and your software subscriptions to deliver the work. The client's non-payment means you are out of pocket for those costs.

This is why many agencies build a bad debt provision into their pricing. If your gross margin is 55% and you lose 2% of revenue to bad debts, you need to factor that into your billable rates. Otherwise, every non-paying client eats into your profit.

If you are a marketing agency with a high volume of smaller clients, your bad debt risk is different from a web design agency with a handful of large project-based clients. Understand your exposure and price accordingly.

When to Involve Your Accountant

Do not wait until year-end to tell your accountant about a bad debt. The earlier they know, the better they can structure the claim and advise on timing.

If a client goes into administration mid-year, tell your accountant immediately. They may recommend writing off the debt in the current period rather than waiting for year-end. They can also advise on whether to pursue recovery through formal channels or accept the loss.

For larger debts, say over £10,000, your accountant may want to review the evidence before you finalise the write-off. This is standard practice. It protects you if HMRC later challenges the claim.

At Agency Founder Finance, we handle bad debt claims regularly for our agency clients. As ICAEW qualified accountants, we know what HMRC looks for and how to structure the claim to minimise the risk of enquiry.

Summary: The Three-Step Process

Here is the quick version you can action today.

  1. Determine the debt is irrecoverable. Have you taken reasonable steps? Is the client in insolvency? If yes, proceed.
  2. Write off the debt in your accounts. Remove it from debtors and record the write-off. Keep the net amount separate from VAT.
  3. Claim the relief on your CT600. Your accountant will include the write-off in your profit calculation. Keep the evidence file ready.

Bad debts are part of running an agency. They are not pleasant, but the tax system gives you a fair outcome. You pay tax on profit you actually make, not on income that never arrives.

If you have a significant bad debt in your current year, or if you want to review your corporation tax agency position before year-end, speak to your accountant. The rules are straightforward, but the timing and evidence requirements matter.

One final point. If your agency has a pattern of bad debts, look at your credit control process. Chasing invoices earlier, taking deposits on large projects, and running credit checks on new clients can reduce your exposure. Bad debt relief is a safety net, not a business model.