[Code of Federal Regulations]
[Title 26, Volume 2]
[Revised as of April 1, 2004]
From the U.S. Government Printing Office via GPO Access
[CITE: 26CFR1.166-4]

[Page 917-918]
 
                       TITLE 26--INTERNAL REVENUE
 
    CHAPTER I--INTERNAL REVENUE SERVICE, DEPARTMENT OF THE TREASURY 
                               (CONTINUED)
 
PART 1_INCOME TAXES--Table of Contents
 
Sec. 1.166-4  Reserve for bad debts.

    (a) Allowance of deduction. A taxpayer who has established the 
reserve method of treating bad debts and has maintained proper reserve 
accounts for bad debts or who, in accordance with paragraph (b) of Sec. 
1.166-1, adopts the reserve method of treating bad debts may deduct from 
gross income a reasonable addition to a reserve for bad debts in lieu of 
deducting specific bad debt items. This paragraph applies both to bad 
debts owed to the taxpayer and to bad debts arising out of section 
166(f)(1)(A) guaranteed debt obligations. If a reserve is maintained for 
bad debts arising out of section 166(f)(1)(A) guaranteed debt 
obligations, then a separate reserve must also be maintained for all 
other debt obligations of the taxpayer in the same trade or business, if 
any. A taxpayer may not maintain a reserve for bad debts arising out of 
section 166(f)(1)(A) guaranteed debt obligations if with respect to 
direct debt obligations in the same trade or business the taxpayer takes 
deductions when the debts become worthless in whole or in part rather 
than maintaining a reserve for such obligations. See Sec. 1.166-10 for 
rules concerning section 166(f)(1)(A) guaranteed debt obligations.
    (b) Reasonableness of addition to reserve--(1) Relevant factors. 
What constitutes a reasonable addition to a reserve for bad debts shall 
be determined in the light of the facts existing at the close of the 
taxable year of the proposed addition. The reasonableness of the 
addition will vary as between classes of business and with conditions of

[[Page 918]]

business prosperity. It will depend primarily upon the total amount of 
debts outstanding as of the close of the taxable year, including those 
arising currently as well as those arising in prior taxable years, and 
the total amount of the existing reserve.
    (2) Correction of errors in prior estimates. In the event that 
subsequent realizations upon outstanding debts prove to be more or less 
than estimated at the time of the creation of the existing reserve, the 
amount of the excess or inadequacy in the existing reserve shall be 
reflected in the determination of the reasonable addition necessary in 
the current taxable year.
    (c) Statement required. A taxpayer using the reserve method shall 
file with his return a statement showing--
    (1) The volume of his charge sales or other business transactions 
for the taxable year and the percentage of the reserve to such amount;
    (2) The total amount of notes and accounts receivable at the 
beginning and close of the taxable year;
    (3) The amount of the debts which have become wholly or partially 
worthless and have been charged against the reserve account; and
    (4) The computation of the addition to the reserve for bad debts.
    (d) Special rules applicable to financial institutions. (1) For 
special rules for the addition to the bad debt reserves of certain 
banks, see Sec. Sec. 1.585-1 through 1.585-3.
    (2) For special rules for the addition to the bad debt reserves of 
small business investment companies and business development 
corporations, see Sec. Sec. 1.586-1 and 1.586-2.
    (3) For special rules for the addition to the bad debts reserves of 
certain mutual savings banks, domestic building and loan associations, 
and cooperative banks, see Sec. Sec. 1.593-1 through 1.593-11.

[T.D. 6500, 25 FR 11402, Nov. 26, 1960, as amended by T.D. 6728, 29 FR 
5855, May 5, 1964; T.D. 7444, 41 FR 53481, Dec. 7, 1976; T.D. 8071, 51 
FR 2479, Jan. 17, 1986]