Litigation Expert Shares Tips for Mitigating Bad Debt and Weighs in on the Potential of AI to Help

Matthew Purcell, Partner & Head of Commercial Litigation and Dispute Resolution at Saunders Law, explores the impact of going into the new financial year with bad debt and provides actionable tips on how businesses can mitigate debt, weighing in on the potential of AI to help.

Matthew Purcell at Saunders Law has many years of experience in handling high-value debt recovery and litigation cases. As the financial year comes to a close, Purcell recognises the need for businesses to end the year on a financial high, with minimal bad debt, so has set out to advise businesses ahead of the new financial year.

A financial year is a 12-month accounting period for companies, during which the profits and losses are calculated. This determines the value of the business to officials, HMRC and Company House. That said, a lot of companies will choose to align their financial year with the tax year that starts in April, typically meaning year end falls at the same time.

Although it is normal for businesses to incur both good and bad debt, it is crucial to distinguish between the two and offer guidance on what can be a common financial issue for businesses.

Of course, businesses are currently facing unprecedented financial pressures. With higher interest rates, a shortage of loans, supply chain pressures, inflation, and a cost-of-living crisis, it’s vital that careful planning and risk management is put in place to see businesses through a difficult year ahead.

In this article, we explore the difference between good and bad debt, some tips for starting the financial year off with minimal bad debt, and how AI can potentially help this upcoming tax year.

Understanding Good Debt vs Bad Debt

Most businesses will have to account for bad debt at some stage. This occurs when a customer is unable to pay invoices either due to financial hardship, or a company dispute that prevents payment.

If left unchecked and allowed to accumulate, bad debt can significantly affect a company's year-end financial results and pose a threat to the business' profitability and future 12-month forecast.

Bad debt can also be costly for a business to follow up, taking up valuable time and resources. This can result in bad debt being written off as an expense which, in turn, impacts the year-end figures of the business by increasing expenses, lowering profits, and potentially affecting the company's credit rating.

In contrast, good debt is usually planned with clear purposes for investing. It includes debt that is being repaid regularly, such as from customers, or business loans that payments are being made to on time, as these improve the financial health of a company. Having a healthy level of debt supports business growth and can help smaller businesses expand their market share.

The Significance of Bad Debt and How to Recover Owed Funds

Carrying bad debt over to the new financial year can have significant effects on the business and, as mentioned, affects the forecast of the following financial year. Acquiring bad debt can also compromise the financial stability of the business, limit access to loans, and even cause damage to the company's reputation in certain circumstances.

To mitigate this impact, there are several policies and procedures that should be in place for managing credit and collections. Below, Purcell has outlined some tips to optimise debt recovery for your company, as well as a popular preventive approach being adopted by modern businesses.

Familiarise yourself with the written terms agreed

Assess the contract or agreement you have reached with the debtor. It is also useful to check the amount is correct before reaching out on a formal basis with the agreement which entitles you to payment.

Check you have followed the correct process and sent a formal invoice or demand to the other party. If there is no formal contract, send the debtor emails that support either what you agreed in terms of repayment or that you are owed the money.

Try different methods of communication

If you have made several attempts to contact the debtor with no response, it may be helpful to reach out to them through all available channels, including phone calls, emails, and mutual contacts. It is possible that incorrect contact information, such as an incorrect phone number, email or mailing address, is causing the lack of response, or the debtor may be away and therefore not received the demand.

Keeping records of notice to the debtor in writing

A business needs to give the debtors a formal notice that they want payment, and provide them a reasonable time to respond and pay, before issuing a claim. Putting this in writing first can help you later down the line if claims are formally made to show efforts of contact. Any demands made by phone need to be noted, with the date and times and results of the conversation.

Check the debtor’s ability to pay and consider the merits of negotiating

It is possible that the debtor may not be capable of paying the full amount at once, especially with the current economic situation. In such cases, it may be wise to consider a payment plan instead, as this approach could be a more cost-effective solution than pursuing litigation. A payment plan that spans 12 months could be a viable option, as it allows for the full amount to be repaid in instalments.

If the debtor has simply ignored your requests for payment, it may be necessary to take court action. You should take legal advice on the process as there are some formal requirements you need to take before issuing the claim.

If the debtor is genuinely unable to pay due to insolvency or has multiple creditors and is at risk of bankruptcy, it may be necessary to evaluate the cost-benefit of filing a claim. Obtaining a court order can be an expensive endeavour, and it may not even result in the recovery of any funds.

In cases where the debtor truly has no assets that can be seized, such as being unemployed with no property or valuable assets, pursuing legal action may be a futile effort. If you have any concerns regarding this matter, Saunders Law can provide assistance in conducting these investigations early on.

Explore cost effective alternative dispute resolutions

As mentioned, recovering debt can be costly for many businesses. Litigation can be daunting, lengthy, and an expensive process. Saunders Law are fluent in the ways in which litigation can be resolved without the expense of a trial.

Common methods of Alternative Dispute Resolution (ADR) include mediation, arbitration, and negotiation. The benefits of using ADR include lower legal costs, faster dispute resolution, reduced conflict, private dispute proceedings and avoiding uncertain court outcomes.

Whilst ADR may not be suitable for all cases of debt recovery, courts do expect that those involved in commercial litigation take steps to resolve the dispute before financial sanctions become court ordered.

Consider incorporating AI into your business

Utilising AI technology could simplify the process of keeping track of bad debt and monitoring the financial position of the business throughout the year. By providing AI with more data about the company's financial aspects, it becomes more effective in identifying and preventing bad debt issues from worsening and eventually could work well as a preventative measure.

Using AI to Chase Debt and Prevent Falling into Debt in the First Place

The use of artificial intelligence is becoming increasingly popular and being incorporated in many businesses. It can provide rich data analysis, improve business efficiency, detect payment fraud transaction, and help with internal forecasting. This could ultimately help businesses to not only chase debt more efficiently, but potentially avoid falling into as much bad debt in the first place.

Purcell’s advice for making the best use of AI in the world of business finance is multi-faceted. Some ways it can be used include:

Reducing time taken for admin tasks

We know AI is great for improving efficiency and profits by minimising the time taken to undertake menial admin tasks. This can allow fee earners to focus on using their expertise for the more complex tasks.

AI for understanding customer needs

AI has also proven incredibly useful for tailoring business decisions and improving customer relations. Purcell recommends starting by using it to understand customers and their needs.

One way AI can do this is by collecting customer data when purchases are made, which can then identify trends and, in effect, make it clear where there is a chance to increase revenue and growth opportunity in future.

ChatGPT for chasing debt

The use of ChatGPT, and other AI chatbots, is also becoming increasingly popular to improve communication between businesses and customers. ChatGPT especially has proven it can reduce time in terms of producing communitive documents for payment demands, for example. This can save fee earner time massively, helping to automate the dissemination of debt-chasing correspondence so more time can go towards boosting revenue.

Forecasting with AI

AI can also be utilised at the start of every financial year when a business makes its predictions and forecasts. There are several ways AI can improve traditional forecasting, and these are great for any business looking for innovative ways to change their pattern of behaviour to better the business outlook.

In fact, AI forecasting models consider both internal performance variables and external factors, such as macroeconomic conditions, stock market conditions, and even how weather conditions impact business. It is incredibly adaptable but requires real-time data to produce accurate results.

Fighting fraud

AI can even detect fraudulent activity and prevent it from occurring, potentially saving a business money, and protecting assets from illegal activity.

Streamlining processes using AI

Asides from this, embracing AI within a business can help streamline processes and remove the risk of human error. By organising finances more accurately for the year and streamlining processes, a business can start to improve its financial health and minimise the chance of falling into bad debt before it occurs.

However, AI technology works better over time as it collects more data, so it wouldn’t be an instant fix for businesses. More traditional means may prove more effective for debt recovery, especially as the financial year comes to a close.

Improving the financial health of your business

Enhancing the financial health of your business can lead to improved cash flow, providing opportunities for growth and further investment. It can also significantly reduce the likelihood of encountering bad debt, and strengthen the overall financial stability of the business, which can ultimately improve the credit rating. Employing AI technology is just one of the many tools to consider in achieving this goal.

If your debt issues involve money owed to the business, then it is important to chase owed debt. If you’re struggling to acquire the owed money, you can seek legal help to attain the money owed.

Saunders Law understand that managing any form of debt can be stressful, especially if you’re owed a significant amount of money. The firm is a partner-led, niche litigation practice based in Central London, assisting personal and business clients with all aspects of debt recovery, including pre-action debt collection, county court debt proceedings, high Court debt enforcement, winding-up orders, bankruptcy orders, and high-value debts of over £250,000.

If you are looking for advice and help on high value debt recovery that now requires legal action in 2023, then get in touch with Saunders Law by emailing [email protected], or calling 0207 632 4300.