As December 31 approaches, law firms across the board are struggling to close out the year, balance their books and get their finances in order. During this time, proper accounting is critical to a law firm’s success – a small accounting error could lead to big reputational damage hurting growth opportunities and client referrals.
However, although lawyers spend years honing their legal skills, most don’t feel very confident in their financial knowledge due to lack of training. This, in addition to the absence of adequate tools that keep them informed, are the two challenges that impact their ability to remain competitive in a rapidly evolving environment.
In fact, according to Clio’s recent Legal Trends Report, 60% of lawyers are not very confident in their knowledge of their firm’s year-over-year revenue growth. Fifty-four percent of those surveyed also said they aren’t very involved in their firm’s finances, 86% of whom are solo practitioners and managing or senior partners. These low rates of confidence among lawyers indicate that being involved in finances does not necessarily lead to knowledge of key metrics. This disconnect between involvement and understanding may show there is a lack of the right tools that help lawyers stay informed.
For solo practitioners and law firms to get a better handle on their finances and simplify law firm accounting, there are a number of best practices they can follow to make a big impact:
Identify and collect on outstanding balances
It’s common to collect on all accounts receivable as you go; however, making it a point to close out even the most stubborn clients by the end of the year can help your team start the new year fresh.
Before you can collect on anything, you must first ensure time entries and bills are up to date. Next, run an accounts receivable report to layout any outstanding payments in open and past-due invoices. Once those are identified, send invoices and payment options on outstanding invoices right away. Do not wait until the end of the month like you would in any other month. If you can, offer an online payment option.
Our Legal Trends Report found that bills that include a pay online option get paid 39% faster than other bills. Finally, after reaching out to clients, any accounts that are unlikely to be paid should be written off before the end of the year. Otherwise, December can be a tough time for people and companies to close out their accounts, so it’s important to streamline the collections process as much as possible, which is something your firm can do at any point in the year.
Review and reconcile your trust accounts.
Many law firms use trust requests and evergreen retainers to hold advance fee payments in trust accounts. Compliance dictates firms to stay on top of trust accounts and reconcile them throughout the year by checking everything against bank statements. Depending on where you live, different states will require this to be done monthly and/or annually.
As you apply trust funds deposited to cover legal fees, make sure you are documenting the transfer, which invoices are being paid, and list each transaction in the client ledger. The process can be tedious, so this is a great area in which your firm can adopt technology to ease the manual labor required. There are software solutions on the market today that can help keep an accurate record of trust funds and transactions to help manage accounting and bookkeeping throughout the year.
Review and analyze your financials
Clearly understanding how your firm performed financially is crucial to setting your firm up for success in the new year.
Be sure to take a detailed look at financial indicators such as prior year’s as well as current year’s revenue and expenses, current year cash flow by month, year-to-date (YTD) actual compared to YTD budget, opening and ending operating account balance, profit/loss by month, accounts receivable each month, and a cash flow projection. Once you have a bird’s eye view of these aspects, analyze your data to identify areas where you may be overspending, underperforming, or doing great.
Look for yearly trends or patterns in your opening and ending balance of the operating account. By identifying lags in total accounts receivable, your firm will know to get more diligent about collections.
Get ready for tax season
The new year and tax season are pretty much synonymous, so on top of closing out the year, you should be taking steps to prepare for tax season as well. For example, make sure the entries in “Owner’s Draw” account are correct and everything is paid up, clean out all receipts laying around to make sure reimbursement goes smoothly and check your calendar to ensure all expense reports are in and up-to-date.
If your business is using the cash method of accounting, it’s a good idea to invest in tax-deductible expenses to offset revenue. This is a great excuse to look into legal tech that can increase efficiency in different facets of your business.
Consider hiring a law firm accounting professional
As you approach the holidays and plan for 2022, accounting can be overwhelming and time-consuming. A CPA or other law firm accounting professional can be instrumental when it comes to helping with your firm’s financial strategy, taxes and more.
Accurate legal accounting emboldens firms and lawyers to make knowledgeable financial decisions based on financial trends, forecasting, and key performance indicators. By following legal accounting best practices and using the right tools year-round, end-of-year accounting doesn’t have to be so scary.