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Chapter 6/6
Law Firm Finances
5 min read
The dreaded t-word: Taxes. Law firm accounting and taxes are necessary parts of compliance and are financial indicators of just how well your small firm is doing. If you’re looking for tax help, that simply means you made money in your firm—and that’s a good thing.
Let’s dig into some of the basics you’ll need to know for your business.
There’s nothing worse than being surprised and completely caught off guard by your tax bill.
Erica was dedicated to running everything through Quickbooks, completely convinced that everything was going great. All it took was a trip to the mailbox where she found a tax bill for thousands to show her otherwise.
Immediate cold sweat, right? This is the type of stuff that keeps attorneys like us up at night. Don’t face a cash crisis when your law firm taxes are due. Put a plan in place for taking care of your tax responsibilities, so you can sleep much better at night. We’ll show you how.
Your law firm’s taxes and tax planning will depend on many factors including:
Entity type
Number of owners
Financing
Location of practice
And other variables. At tax time, you’ll find there are consequences for how you hire employees, how you pay yourself and your partners, the equipment you buy, and how you save your cash. For example, you’ll need to pay employment taxes and taxes on the interest you collect from your savings account. This is why we say it’s critical to understand your finances.
You have unique tax responsibilities depending on whether you’re a solo attorney or have a small firm.
For example, if you’re a solo attorney:
You must file your law firm taxes using a Schedule C on your individual tax return
You must pay estimated taxes throughout the year
The first step is to know when you must report and pay based on your entity type and jurisdiction. If you own a small firm in the form of a partnership, a limited liability company (LLC), an S-corporation, or an E-corporation, you have unique tax filing requirements you must comply with, depending on your formation.
We believe in taking advantage of deductions. A tax deduction reduces your amount of taxable income, resulting in you owing less. The deductions you choose must be business-related and must also follow some basic rules. For example, an expense must be necessary for maintaining your business and also reasonable.
Here are some of the most common expenses you can deduct:
Other potential deductions may include travel, continuing education, health insurance, internet, and email services, professional association dues, and more. Be sure to check with your tax professional to make sure what you think is a deduction is indeed a deduction.
Businesses often receive this advice from tax professionals: spend more money at the end of the year to get tax deductions. Yet, we disagree. If it means spending your profit, it’s unwise to spend money on things you don’t need simply to avoid taxes. Yet, if it makes sense to spend money to receive the benefit in that year, such as for equipment upgrades you know you need for your firm, go for it.
Now that you understand when to report and pay, and have a basic understanding of what deductions you might receive, it’s time to do a bit of tax planning. After all, some cash saved now will help you avoid receiving a tax bill that makes you want to skip town later.
You should work with a tax professional to come up with a general amount to save throughout the year for your taxes. We recommend saving at least 15% of your revenue each month in a separate bank account. Yes, each month.
Remember Erica’s tax bill from earlier? If she would have saved each month, she could have paid her bill and moved on to better (and less expensive) things.
We all have our nightmare stories such as attempting to file our taxes on the same day as a plumbing emergency that floods the office. Yet, it doesn’t have to be this way. By taking control of your finances and outsourcing your tax prep and accounting to a professional, you can save your sanity.
With a solid handle on your firm’s finances, you can now see how your decisions will impact your firm’s profitability and cash flow. You’re ready to manage your business with data instead of just a hunch or gut feeling. With your finances in check, you can turn to all the tools healthy firms use to create a healthy business. Want to learn more about what successful firms do?
Learn more about building Healthy Profits as part of your Healthy Firm.
Download the Full Guide to Law Firm Finances
With this guide, you’ll understand key financial concepts, financial levers affecting your business, best practices for billing and collecting money, and how to manage and outsource financial work. And, you’ll have tools to tackle business insurance and taxes.
