A retailer sells its credit-card receivables to a financial institution but is contractually obligated to buy back (with recourse) any accounts that go uncollectible — can the retailer still claim a sales tax bad debt deduction on those charged-back accounts?

Plain-English summary

A retailer (referred to as "COMPANY A") has its own branded credit card, financed by a financial institution. When a customer buys on the card, the institution pays the retailer a percentage of the sale's face value and takes ownership of that account, earning its own money on interest and fees. Critically, the retailer is contractually obligated to pay the financial institution dollar-for-dollar for any bad debt losses on those credit card accounts (a recourse arrangement) — the institution settles up daily with the retailer, netting out uncollectible accounts. The retailer, which reports sales tax on the accrual basis, records these charged-back amounts as bad debts and writes them off on its federal income tax return. The retailer asked whether it can take a sales tax bad debt deduction on these charged-back accounts.

The Comptroller confirmed: yes, based on these facts, the retailer has a valid bad debt deduction. A retailer that assigns or factors its receivables to a third party may claim a bad debt on receivables written off its books because of recourse provisions in the agreement — as long as (1) the retailer reported sales tax on the sale's full value when made (consistent with accrual-basis reporting), and (2) the retailer follows the mechanics in Rule 3.302: the financial institution notifies the retailer of a bad debt, receives compensation from the retailer for it, and the retailer records the uncollectible account as a bad debt on its own books.

The important limitation, under Rule 3.302(c): a retailer that factors receivables and simply accepts a discounted amount below face value for uncollected accounts (without a true recourse charge-back mechanism) cannot use that discount itself to reduce the sales tax payable. The deduction here works specifically because of the full-recourse, dollar-for-dollar charge-back structure — not merely because receivables were sold at a discount.

What this means for you

Retailers with proprietary/co-branded credit card programs financed by a third party

If your financing agreement has genuine recourse — meaning you're contractually on the hook to reimburse the financial institution dollar-for-dollar for bad debt losses — you can likely take a sales tax bad debt deduction on those charged-back accounts, following the notification/compensation/write-off mechanics in Rule 3.302(d). But if your factoring arrangement instead just pays you a flat discounted percentage of face value with no true recourse charge-back, that discount alone won't support a sales tax bad debt deduction under Rule 3.302(c).

Accountants advising retailers with factored/financed receivables

The key distinguishing fact here is the dollar-for-dollar recourse obligation — this isn't a general "any factored receivable qualifies" rule. Confirm the factoring/financing agreement's recourse terms and the retailer's actual bookkeeping (bad debt notification, compensation, and write-off) match the Rule 3.302(d) mechanics before claiming the deduction.

Common questions

Q: Can I take a sales tax bad debt deduction on credit card accounts that go bad, even though I sold the receivables to a financing company?
A: Yes, if your agreement has full recourse — you're contractually required to reimburse the financial institution dollar-for-dollar for bad debt losses, and you follow the notification/compensation/write-off process.

Q: What if I just get paid a discounted amount for my factored receivables, without a recourse clause?
A: That discount alone doesn't support a bad debt deduction under Rule 3.302(c) — the deduction requires the recourse/charge-back mechanism, not merely a discounted sale price for receivables.

Q: Do I need to be on the accrual basis for this to work?
A: The facts in this letter involve an accrual-basis taxpayer reporting sales tax on the full sale value when made — that's part of what makes the subsequent bad debt deduction mechanically consistent.

Q: Can I rely on this letter for my own factoring arrangement?
A: No. This opinion is based on the facts presented; additional or different facts may change the opinion.

Citations and references

Rules:

• 34 Tex. Admin. Code Rule 3.302(c) (factored receivables — discounted amount cannot itself reduce tax payable)
• 34 Tex. Admin. Code Rule 3.302(d) (bad debt deduction mechanics — notification, compensation, write-off)

Source

• STAR search: https://star.comptroller.texas.gov/search?doc_type_code=L&tax_type_code=SST
• Opinion: https://star.comptroller.texas.gov/view/200004161L

Original ruling text

April 3, 2000

Dear **:

Thank you for your recent letter concerning bad debt write-offs.

It was your understanding, based upon my memorandum of December 17, 1992, that
if accounts were sold subject to recourse to a financial institution financing
the retailer's credit card, the bad debt write-offs would be available to the
retailer for sales tax purposes.

Your client, COMPANY A, has the following fact situation:

1. COMPANY A has entered into an agreement with a financial institution
   financing for credit cards issued in COMPANY A's name.

2. When items are purchased with the COMPANY A' credit card, the financial
   institution pays the retailer a percentage of the face value of the sale, as
   specified in the agreement, and takes ownership of the account.

3. The financial institution earns its money on the interest on the credit card
   and other charges such as insurance, late charges, etc.

4. The financial institution pays the retailer face value for the credit card
   sales, and the retailer is contractually required to pay the financial
   institution on a dollar for dollar basis for bad debt losses on the credit card
   sales.

5. COMPANY A reports sales tax on the accrual basis of accounting.

6. On a daily basis, the financial institution settles-up with COMPANY A by
   paying COMPANY A for all sales based upon an agreed upon percentage referred to
   above, which is determined after adjusting for accounts that cannot be
   collected.

7. COMPANY A records the uncollectible accounts reported by the financial
   institution as bad debts and writes such amounts off on its federal income tax
   return.

It is your understanding from our conversation that the retailer may take a bad
debt deduction for these charged back items so long as it complies with section
(d) of Comptroller's Rule 3.302. For purposes of our response, you ask that we
assume the preceding facts.

Response: Based upon the facts stated above, COMPANY A has a valid bad debt
deduction.

A retailer that makes taxable sales and assigns or factors the rights to
collect the receipts to a third party (your fact #2) may claim a bad debt on
accounts receivables that are written off their books as a result of recourse
provisions contained in the agreement. However, as stated in Rule 3.302 (c), a
retailer that factors receivables and receives a lesser amount for the
receivables than the face value of uncollected accounts cannot reduce the
amount of the tax payable for the discounted amount.

As an accrual based taxpayer, COMPANY A should report sales tax when each sale
is made on the full value of the sale. The financial institution receives full
recourse for all bad debts. COMPANY A may claim a bad debt deduction per Rule
3.302 when the financial institution notifies COMPANY A of a bad debt, receives
compensation from COMPANY A, and COMPANY A records the uncollectible account as
a bad debt on their books and records.

This opinion is based on the facts presented. If there are additional or
different facts, the opinion may change.

You may call me toll free at 1-800-531-5441, ext. 5-0613. The direct line is
512/475-0613. You may also write to Tax Policy Division, Comptroller of Public
Accounts.

Sincerely,

Kevin Koller
Tax Policy Division