A skilled attorney once spoke about his firm as “The Beast That Never Sleeps.” Initially, I recalled the six, seven and eight-figure recoveries he and his partners were obtaining every week, or so it seemed. My thoughts then jumped to his firm colleagues who fought tirelessly for clients trading precious REM hours to perform their best at trial like a well-oiled machine.
The “Beast,” however, was the other side of practicing law – operating a successful business. Law firms are tethered to the same recurring costs and operating expenses as other businesses but are challenged more so in that the amount and quality of work performed is not always consistent with revenue received, particularly in personal injury and other contingency fee-based cases.
The “Beast” is always hungry.
Payroll, insurance and marketing expenses are just a few items that call for attention every month. When settlements, mediations or trials are delayed or unsuccessful, financial resources can be strained, and the stress can distract from revenue-generating activity, like practicing law. On the other hand, when multiple high-value cases resolve within a short period of time, a higher tax bracket can feel like a penalty for success and hard work.
Fortunately, contingency fees do not have to be received immediately when the case resolves. Instead, they can be deferred to a predetermined date in the future and received over a certain length of time. Structuring fees (or a portion of the fee) has many applications. Doing so can help level income, reducing the burden of monthly overhead expenses, provide long-term operating capital for a firm’s succession and legacy planning, or buyout a partner with guaranteed income for life. Personal expenses like a child’s future tuition or second office or home are all possible. The law firm or attorney may be named payee and fees may be structured even if the client does not elect to structure their recovery.
Peace of mind and normalized income are not the only benefits of structuring fees. If established correctly, taxation occurs in the year income is actually received, rather than when the case concludes, as evidenced in Childs v. Commissioner. The benefits of tax deferral may also reduce the overall burden if future rates are lower or when the attorney has scaled back their practice and resulting income. A qualified tax professional can help determine how fees may be structured to complement your overall tax strategy.
The time value of money allows structured fees to grow on a pre-tax basis without the contribution limits of other deferred compensation plans. Additionally, rate of return and future payments may be guaranteed or indexed to the market for added growth opportunity. Certain market-based fee structure options allow the use of a personal financial advisor or in conjunction with an investment portfolio selected by the largest investment firms.
Perhaps surprisingly, not all structured fees come from large cases and the entire fee need not be structured. Further, layering multiple fees to begin on the same date can add more effect. This strategy is often used when planning future income, either for a certain period or for a lifetime or joint lifetimes.
A final, and very important point to remember, is that structured fee arrangements must be determined prior to resolving the case to avoid constructive receipt of funds. An experienced settlement professional can explain the available options, premium and payment design parameters, and provide the necessary language and documents if any portion of fees will be structured.
Law firms experience many of the same expenses as other businesses but are challenged in that the amount and quality of work performed is not always consistent with revenue received. Structured attorney fees offer a powerful financial tool unique to contingency-fee attorneys that can help tame the “Beast.”