I didn’t get paid. Is it a tax deduction?

December 29th, 2011 → 2:00 pm @

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I didn’t get paid. Is it a tax deduction?

Usually, not getting paid is not a tax deduction, because we Americans are taxed on our income. No income, no tax to pay. But I follow your thinking: you did the work and got stiffed…isn’t there any recourse?

Naturally there is small claims court, which might work if you had a contract. But for most authors, there is no tax deduction for not getting paid, even when you did the work.

There is one exception to the rule: If you already claimed income on your tax return in a prior year, you can claim a tax deduction when the money becomes uncollectible. Claiming income before you receive it is not typically done by freelance writers; most use a cash-basis accounting system. In a cash-basis system, you claim it as income when it comes in and not before. But some businesses that use what accountants call, “accrual accounting,” count their income when it is earned, even if they are paid later. If you use accrual accounting (if you’re not sure, ask your accountant or tax preparer) and you previously claimed the income when earned, you can deduct the income in the following year when you determine it has become uncollectible.

Example: John bills customers as he completes each phase of a project and uses accrual accounting. He billed the Big Magazine Company in December 2011 for $2,000 for work he had completed as of December 31, 2011. John reported the $2,000 in income on 2011 his tax return. Big Magazine never paid, but it took until June of the following year for John to finally give up trying to collect. When John prepares his 2012 tax return, he can claim a deduction of $2,000 (called bad debt expense in accounting lingo), for the uncollectible debt he is owed.

Mark was also stiffed by Big Magazine Company in 2011, but since he uses a cash basis accounting, he never claimed the income on his 2011 tax return. He has no bad debt expense to take as a tax deduction.

Both writers are out the $2,000 and their recourse is small claims court, not their Uncle Sam.

More questions on taxes? I’ll be happy to answer any questions. Contact me at Taxes for Writers.

Carol Topp, CPA

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2 Comments → “I didn’t get paid. Is it a tax deduction?”

  1. Jon Smith

    12 years ago

    At our accountants we come across this a lot. Most people would only bill when work was completed and they are guaranteed to be paid. I understand a lot of people find their finances easier to manage in this way. The small claims court are often very good at resolving these issues but it can be costly. The best way to stop this from happening is make sure that you have a written agreement for payment on completion of the work.

  2. Lee Jones

    10 years ago

    Agreed Jon, we also come across this issue a few times now. Always check your letter of engagement with the Accountant, this will state what has and will be done for you.