Writeoff (Loss) – Definition

Cite this article as:"Writeoff (Loss) – Definition," in The Business Professor, updated October 7, 2019, last accessed August 14, 2020, https://thebusinessprofessor.com/lesson/writeoff-loss-definition/.

Back to: ACCOUNTING, TAX, & REPORTING

Write-Off Definition

A write-off refers to a term in accounting where a business reduces the value of its assets because it is uncollectible, resulting in a loss. The written-off asset value is usually debited in the liabilities account because it reduces the value of an asset. In the real sense, a write-off can help reduce the annual tax bill of businesses.

A Little More on What is Write-Off or a Loss

A write-off takes place when a client owes the company money, but for various reasons, the client is unable to pay back the money. When the debt becomes uncollectible, it is declared a loss. So, to account for it, businesses usually write it off to be able to balance their accounts.

During the filing of tax returns, the company usually writes it off on its tax return. Businesses make use of a write-off to account for the following:

  • Unpaid check loans obligation
  • Unpaid receivables
  • Lost inventory

How it Works

Let’s assume that Company ABC earns $100,000 in revenue. However, it spends $50,000 on salaries, rent, utilities, inventory, and other operational costs. During the filing of income tax return, company ABC has an obligation of ensuring that it reports both their income as well as expenses. Because of the write-offs, the taxable income for Company ABC will be $50, 000.

Business Accounting Methods for a Write-Off

The detailing of the accounting entries for a write-off is in the Generally Accepted Accounting Principles (GAAP). The most common methods in business accounting for write-offs include the allowance method and the direct write-off method. The entries to be used differ depending on each individual case.

Banks: When banks have exhausted all methods of collecting their debts, they usually use write-off accounts. It is easy to track write-offs using an institution’s loan loss reserves. It is another form of non-cash account that banks use to manage loss expectations on unpaid debts. While write-offs are a financial action, loan loss reserves are for projection.

Receivables: If a business is able to determine a customer’s inability to pay a debt, it may write it off. When working on a balance sheet, the bill becomes a debit on unpaid receivables account and credit on receivable accounts.

Inventory: A company may decide to write-off part of its inventory for various reasons. It can do this when an inventory gets stolen, becomes obsolete, or spoiled. Inventory write-off includes debit expenses of inventory unusable value as well as credit to inventory.

Taxes versus Write-Offs

Write-offs may be used to reduce a business’ taxable income. For this reason, things such as credits, deductions, and overall expenses become a write-off.

There is always a chance for individuals and businesses to claim for certain deductions that will end up reducing tax on their income. The Internal Revenue Service permits people to claim for a standard deduction on their tax returns.

In addition, if individuals happen to exceed the level of the standard deduction set, they can itemize the deductions. The deduction reduces the adjustments on the gross income as applied to a corresponding tax rate.

Generally, both small businesses, as well as big corporations, do have a broad range of expenses that reduces profits subject to taxation. A write-off that is expense increases expenses on the income statement and lowers the profits as well as taxable income.

Write-Offs versus Credits

Sometimes people confuse credits with write-offs and deductions. Although they all reduce tax liability, they operate differently. A tax credit applies to a tax one owe and lowers such tax. In addition, a refundable tax credit may sometimes lead to a tax refund.

For instance, let’s assume that you owe a tax worth $10,000, but you are eligible for a credit worth $3,000. Such credit will reduce your tax bill to $7,000. Also, you will receive a tax refund of $1,000, in case you owe a tax worth $5,000 and at the same time you qualify for a tax refund credit worth $6,000.

Key Takeaways

  •  A write-off refers to a term in accounting where a business reduces the value of its assets because it is uncollectible, resulting in a loss.
  • Lenders (banks) can only initiate a write off after exhausting all methods of collecting their debts.
  • The written-off asset value is usually debited in the liabilities account because it reduces the value of an asset.
  • The most common methods in business accounting for write-offs are the allowance method direct write-off method.

References for Writeoff

https://www.investopedia.com/terms/w/write-off.asp

https://dictionary.cambridge.org/dictionary/english/write-off

http://www.businessdictionary.com/definition/writeoff.html

Academic Research on Write off

Write off-loading: Practical power management for enterprise storage, Narayanan, D., Donnelly, A., & Rowstron, A. (2008). Write off-loading: Practical power management for enterprise storage. ACM Transactions on Storage (TOS), 4(3), 10. In enterprise data centers power usage is a problem impacting server density and the total cost of ownership. Storage uses a significant fraction of the power budget and there are no widely deployed power-saving solutions for enterprise storage systems. The traditional view is that enterprise workloads make spinning disks down ineffective because idle periods are too short. We analyzed block-level traces from 36 volumes in an enterprise data center for one week and concluded that significant idle periods exist, and that they can be further increased by modifying the read/write patterns using write off-loading. Write off-loading allows write requests on spun-down disks to be temporarily redirected to persistent storage elsewhere in the data center. The key challenge is doing this transparently and efficiently at the block level, without sacrificing consistency or failure resilience. We describe our write offloading design and implementation that achieves these goals. We evaluate it by replaying portions of our traces on a rack-based testbed. Results show that just spinning disks down when idle saves 28–36% of energy, and write off-loading further increases the savings to 45–60%.

Escalation at the credit window: A longitudinal study of bank executives’ recognition and writeoff of problem loans., Staw, B. M., Barsade, S. G., & Koput, K. W. (1997). Escalation at the credit window: A longitudinal study of bank executives’ recognition and write-off of problem loans. Journal of Applied Psychology, 82(1), 130. Although the escalation literature has grown steadily over the past 20 years, there has been very little research bridging the gap between laboratory experiments and qualitative field studies on escalation. What has been missing are quantitative tests of escalation hypotheses in their natural context. This study helps fill such a gap by testing the responsibility hypothesis within the banking industry. It was predicted that the turnover of senior bank managers would lead to a deescalation of commitment to problem loans. Data collected from 132 California banks over a 9-year period showed that bank executive turnover predicted both provisions for loan losses and the write-off of bad loans. In contrast, provisions and write-offs were not found to influence executive turnover. The implications of these results are discussed in terms of both the escalation literature and practical ways to improve decision making in the banking industry.

A Description and Market Analysis of Writeoff Announcements, Bunsis, H. (1997). A Description and Market Analysis of Writeoff Announcements. Journal of Business Finance & Accounting, 24(910), 1385-1400. This paper examines the stock market reaction to write‐off announcements. The increasing prevalence of write‐offs over the last decade has lead the Financial Accounting Standards Board to issue new guidelines on the accounting for write‐offs, and there has been much discussion about the stock market reaction to these types of announcements. By focusing on the expected cash flow implications of the different types of write‐off announcements, this paper documents that the stock price reaction to write‐off announcements is associated with the expected cash flow implications of the events surrounding the write‐off.

Don′ t Write Off Global Advertising: A Commentary, Peebles, D. M. (1989). Don′ t Write Off Global Advertising: A Commentary. International Marketing Review, 6(1). Some thoughts on the standardisation of advertising in global markets are offered. These support a globalised perspective in international advertising.

Goodwill writeoff and financial market behaviour: An analysis of possible relationships, Liberatore, G., & Mazzi, F. (2010). Goodwill write-off and financial market behaviour: An analysis of possible relationships. Advances in Accounting, 26(2), 333-339. The aim of this contribution is to verify whether there exists a reaction of financial markets to the new accounting method for goodwill introduced by SFAS 142 and IAS 36. Our research hypothesis is that financial markets should have no significant reaction to the goodwill write-off following the impairment test, since the latter’s outcome represents an economic estimate without financial significance. The hypothesis was checked by the analysis of the companies added to the Standard & Poor’s Europe 350 index over a three-year period, taking note of goodwill write-off announcements and relating them with the stock market prices and their volatility. The results demonstrate a correlation between the goodwill write-off and the behaviour of financial markets, while the same connection cannot be evinced for prices volatility. Also, what comes out from our analysis is that markets need a relatively long period, over one semester, before absorbing in full the effects resulting from the write-off announcement.

Determinants of market reactions to goodwill writeoff after SFAS 142, Bini, M., & Della Bella, C. (2007). Determinants of market reactions to goodwill write-off after SFAS 142. Managerial Finance, 33(11), 904-914. The paper aims to analyze the reasons for the unremarkable increase in value relevance of new impairment testing of goodwill following the introduction of new accounting standards SFAS 141 and 142.

Determinants of the writeoff decision under IFRS: Evidence from Germany, Siggelkow, L., & Zülch, H. (2013). Determinants of the write-off decision under IFRS: Evidence from Germany. The International Business & Economics Research Journal (Online), 12(7), 737. This study examines the factors that influence write-off decisions in German-listed companies. Write-offs have been widely discussed, especially for the US-American market, and a relation to earnings management has been found in existing studies. German companies differentiate from the companies that have already been analyzed as they operate under different accounting standards (IFRS) and in a different institutional setting.Additionally, managers are confronted with the task to derive the IFRS annual statements from the existing annual statements according to local GAAP which follow a differing objective. Based on a sample of 805 observations of German companies listed in the DAX, MDAX, TecDax and SDAX indices between 2004 and 2010, we analyze the impact of firm performance as well as reporting incentives on the write-off decision. We find that the write-off probability rises significantly with decreasing overall firm performance, which is in line with the legal requirements. Additionally, we find a strong relation of the write-off probability with unexpectedly high earnings, which is an indicator for income smoothing. Besides influencing the shareholders perception, income smoothing can serve to minimize overall tax payments or to influence the banks risk assessment. In contrast with prior studies focusing on the US-American market, we found no evidence for other capital market motives, like big bath accounting and management changes; neither could we confirm the hypothesis that earnings-based management compensation or leverage have a significant influence on the write-off decision. These results indicate that German managers aim to influence tax payments and potential lenders in contrast to the perception of potential shareholders.

LDC writeoff effects and bank stock returns: The Bank of Boston decision, Wetmore, J. L., & Brick, J. R. (1991). LDC write-off effects and bank stock returns: The Bank of Boston decision. Quarterly Journal of Business and Economics, 90-110. This study examines the effect of a publicly announced write-off of LDC loans by the Bank of Boston on December 14, 1987. The stocks of banks with high LDC loan exposure show significant negative abnormal returns the day following the announcement. The stocks of banks with low LDC loan exposure show significant positive abnormal returns the day following the announcement. Cross-sectional regression results of abnormal returns on LDC loan exposure reveal LDC loan exposure to have significant explanatory power the day following the announcement and no other time in the two week window studied, indicating a reevaluation of stock prices based on previously unknown information of LDC loan exposure and policy on LDC loans.

Four Ways to Write Off Capital Investment: Management Should Have a Wider Tax Choice, Dean, J. (1956). Four Ways to Write Off Capital Investment: Management Should Have a Wider Tax Choice. The Journal of Business, 29(2), 79-89.

Scope change negotiations: Are writeoff inevitable?, Ertel, D., & Rudner, S. (2000). Scope change negotiations: Are write-off inevitable?. Consulting to Management, 11(2), 3.

Pricing Microfinance Loans and Loan Guarantees using Biased Loan Writeoff Data, Chowdhry, B., Cassell, D., Gamett, J. B., Milkwick, G. J., Nielsen, C. D., & Sederstrom, J. D. (2005). Pricing Microfinance Loans and Loan Guarantees using Biased Loan Write-off Data.

Was this article helpful?