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Our company provides practice management services to physicians, which includes, among a number of things, lending money to individuals seeking cosmetic/aesthetic procedures (plastic surgery, hair replacement, dental procedures, vein removal, Botox, etc.). We lend to everyone, regardless of FICO score, and the loans are paid back between 24 and 48 months.
I know there is some guidance from the SEC regarding appropriate reserves to keep against outstanding unsecured loan balances, but I would like FEI members’ input on their best practices, “how to’s” and experiences. The official rule is to accrue bad debt based on write-offs anticipated during the next 12 months. But with the volatility in the sub-prime market, the fact that some of our customers pre-pay loans, and others delay payments, it becomes difficult to accurately predict the future. We are in rapid-growth mode, so anticipating what will happen during the next 12 months to loans that have not yet been written makes it more challenging. Absent a highly accurate 12-month default model, what would be the best way to handle our allowance for doubtful accounts? Should we use some percentage of loans outstanding? A percentage of all loans 30, 60 or 90 days beyond terms? I am interested in being accurate without being overly conservative or optimistic.
Anonymous
Response:
I have worked at several different companies with vastly different customer bases. Although there is no perfect model to predict future nonpayment of debt, I have found the following basic model to be an effective and reliable measure.
Reserves were broken out by age. If customer terms are to make monthly payments, then for those amounts due over 180 days we reserve fully. For amounts between 90 and 179 days, we reserve 50 percent; for amounts between 60 and 89 days, 25 percent. For the amounts due from 30 to 59 days, we reserve 10 percent, and then 2 percent for all others. After applying this formula, measure the actual default. Do not forget that there are other steps to collection besides just making a phone call from the doctor’s office. Even paying someone a portion of the collected amount is sometimes better than not collecting at all.
Sam Touchstone (stouchstone@ballarddesigns.net )
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