12 Aug AiroAV Decides The Simple Law Practice: Accounting For People Who Hate Mat…
Lawyers are known to hate math. But law practice is a business so you will need to enough about numbers to make sure that it is profitable. While you don’t need to have taken calculus in college, you will have to be familiar with basic accounting principles.
In a nutshell, accounting is a system for keeping track of income and expenses. It will help you keep track of who owes you money and who you owe money to. Also, it will help you estimate and possibly lower your income tax bill and make you more mindful of your expenses. Lastly, it can ensure that you are prepared for an audit, either from a bank if you want to get a loan, or from the IRS if they think your tax returns are a red flag.
The problem with accounting is that it can be a major time suck. Especially if you procrastinate. Without a proper system for documenting expenses, you will spend a lot of time trying to remember what you spent your money on. Are you going to remember a purchase you made a week ago? A month ago? How about two years ago?
This column will provide a few do-it-yourself bookkeeping tips to help you stay on top of your simple law firm’s finances. But at some point, you may need professional help.
Do not commingle personal and business accounts. When you start your practice, since you don’t have a lot of clients and transactions, you might think it’s fine to just have one bank account to deposit checks and pay bills. While this might be true, eventually you will start to forget what you spent your money and forget whether the expenditure was for business or personal reasons.
This is why it is important to have separate bank accounts for business and personal uses as soon as possible.
If you prefer to use credit cards, have one for business expenses and one for personal expenses. Once you keep track of your spending, you can get credit cards that can maximize points or refunds based on your spending habits. Some credit cards can even prepare expense reports for you.
Commingling income and expenses can be problematic with auditors, especially tax auditors. They will look at commingled accounts with great skepticism and possibly deny legitimate tax-deductible purchases. They cannot tell whether the Kuerig coffee maker you bought at Wal-Mart was for the office or the house when you use the same account to purchase groceries and duvet covers. This means time wasted fighting with auditors and their higher-ups trying to prove your case.
If you maintain a separate business account, while they will still scrutinize your expenses, at least you will have some credibility, which means you might get the benefit of the doubt in close cases.
Save your receipts. As the old saying goes, document everything. The problem is that a lot of us are not good about keeping receipts because we have better things to do.
The key is having good habits that can be repeated easily. Nowadays, try to keep your receipts paperless. Many businesses can e-mail receipts. It might be a good idea to set up a separate e-mail account for receiving receipts in order to avoid cluttering your normal e-mail account.
Alternatively, if you take a paper receipt, take a photo of it with your phone, and e-mail it to yourself. On the e-mail, be sure to include the date, what you purchased (if it isn’t clear on the receipt) and the purpose of the purchase.
There are smartphone apps that can help you record, categorize, and store receipts. But you probably won’t need them if you can consistently record your purchases.
Ultimately, do whatever works for you. As long as you can save your expense records and be able to produce them on demand. But try to make everything paperless.
Periodically check your income and expenses. You should have a habit of checking your income and expenses. Generally it is a good idea to check your bank account and credit card activities and balances once per day — and maybe more if you are expecting an important transaction to process.
Also, checking regularly allows you to record payments or income you may have missed while you still remember it. You are not going to remember it a year or two from now, which is when an IRS audit conveniently happens to come. Also, most banks do not make checks available online after two years which can make accounting much more difficult. This also prevents you from procrastinating.
At the end of every month, you should create a sum of your income and expenses to determine your net profit or loss for the month.
Be prepared to hire someone to do your books. At some point, your practice will grow to the point where you will need professional assistance recording your income and expenses. Your practice will have so many transactions that you cannot keep track of them all. Or you will be so busy drafting documents or going to court that you will not have time to record all of your expenses. It may even get so bad that you forget to bill your clients — and most will not be in a hurry to ask for your bill.
If you have practice management software, it may come with simple accounting programs. Or you may want to purchase accounting software such as Quickbooks, Freshbooks, or Xero. It is best to try them out as soon as possible to get a feel for them. You will be spending a lot of time on Google trying to find the best way to input an expense or to print out a report.
Unfortunately, I’ve found that most accounting software packages have steep learning curves. Thus, you don’t want to get software when you are inundated with transactions. If you are not familiar with the software, you can make data entry errors which can result in incorrect invoices, bills, and reports.
Bookkeepers and accountants generally provide the most comprehensive services. Some provide other services such as billing, tax planning, payroll, and tax return preparation. But they charge by the hour, and their services will vary. I suggest meeting with a few and finding out how each operates and their pricing. You will likely be billed monthly so budget accordingly.
For a simple law practice, so long as you have a system of recording your income and expenses, you probably don’t need to spend money on software or an accountant. Just make sure to check your financials regularly and record all of your income and expenses so that you can remember them when needed. But at some point, you will have better things to do than data entry at which point you may need professional help.
Steven Chung is a tax attorney in Los Angeles, California. He helps people with basic tax planning and resolve tax disputes. He is also sympathetic to people with large student loans. He can be reached via email at [email protected] Or you can connect with him on Twitter (@stevenchung) and connect with him on LinkedIn.