University of Denver Small Practice Management

University of Denver Small Practice Management Law Office Accounting Basics Bookkeeping, Record Keeping and Billing Brenda M. Clarke, CPA ABV CVA Seigneur Gustafson LLP April 11, 2013 2012 Brenda M. Clarke. All Rights Reserved. Seigneur Gustafson LLP Certified Public Accountants 300 Union Boulevard, Suite 600 Lakewood, Colorado 80228 1535 303.980.1111 voice 303.308.6969 fax 2013 Brenda M. Clarke. All Rights Reserved 2 Brenda M. Clarke, CPA/ABV/CFF, CVA Brenda is a partner at the firm Seigneur Gustafson LLP, located in Lakewood, Colorado (www.cpavalue.com). Brenda is a Certified Valuation Analyst (CVA) with the National Association of Certified Valuation Analysts and holds the AICPA specialty designation of Accredited in Business Valuation (ABV). She is also a Certified Public Accountant and has over 18 years of professional experience working with professional service firms and small business clients on taxation, valuation and compliance issues. Brenda has published numerous articles on taxation and business valuation related subjects and is the chair of NACVA's Litigation and Forensics Board. She is also currently on the AICPA Family Law Task Force. She is a graduate from the University of Colorado in Boulder where she earned bachelor of Science degree in Business Administration in 1993. 2013 Brenda M. Clarke. All Rights Reserved 3 1

Today s Discussion Accounting and Financial Reporting Cash Management Time Keeping Billings and Collections Using an Outside Accountant 2013 Brenda M. Clarke. All Rights Reserved 4 What Is Accounting? Accounting is the process of recording, classifying and summarizing the economic events through the preparation of financial statements Users of accounting information include: Business managers Tax authorities Employees and unions Government regulatory Investors and creditors agencies 2013 Brenda M. Clarke. All Rights Reserved 5 Importance of a Good Record Keeping System Monitor the success or failure of your firm Budgeting purposes Obtaining financing and new sources of capital Tax return preparation and legal requirements Profit Distributions 2013 Brenda M. Clarke. All Rights Reserved 6 2

Bookkeeping Who should do it? You as the owner should be involved! Oversee anyone who is assisting Understand the information 2013 Brenda M. Clarke. All Rights Reserved 7 Setting up your books The Chart of Accounts A list of accounts used by a business to record its financial transactions. The development and implementation of the chart of accounts is a key element in efficiently maintaining financial information. Each line item on the balance sheet and income statement is assigned a number within the chart of accounts. These account numbers are correlated to the statements by a sequential numbering scheme. Keep it simple. No need to create hundred s of accounts! 2013 Brenda M. Clarke. All Rights Reserved 8 Setting up your books The Chart of Accounts Five main groups: Assets Liabilities Equity Revenues Expenses 2013 Brenda M. Clarke. All Rights Reserved 9 3

Assets An asset is anything you own in your business. Assets are used to generate revenue and purchase other assets. They are divided into three main categories: Current assets Liquid assets, or assets that will be consumed within one year Fixed assets Reported along with associated accumulated depreciation other assets 2013 Brenda M. Clarke. All Rights Reserved 10 Assets Examples: Cash Marketable Securities Accounts receivable Computers Vehicles 2013 Brenda M. Clarke. All Rights Reserved 11 Liabilities What your business owes creditors. They are divided into two main categories: Current Liabilities Payable in less than one year Long term Liabilities Payable in more than one year 2013 Brenda M. Clarke. All Rights Reserved 12 4

Liabilities Examples: Accounts payable Payroll taxes payable Accrued pension contribution Loans payable 2013 Brenda M. Clarke. All Rights Reserved 13 Equity The net worth of your company. Also called owner's equity or capital. Equity is what is left over after subtracting liabilities from assets. Equity comes from investment in the business by the owners, plus accumulated net profits of the business that have not been paid out to the owners. It essentially represents amounts owed to the owners. 2013 Brenda M. Clarke. All Rights Reserved 14 Equity Categories: Contributed Capital Cash and other assets contributed by the owner s of the company Partner distributions cash and assets distributed to the owner s of the business Partner s capital accumulation of profits retained in the business 2013 Brenda M. Clarke. All Rights Reserved 15 5

Revenues Inflows of assets of an entity from delivering or producing goods, rendering services, or other activities that constitute the entity's ongoing major or central operations 2013 Brenda M. Clarke. All Rights Reserved 16 Expenses Expenses are outflows from delivering or producing goods, rendering services, or other activities that constitute the entity's ongoing major or central operations Must be ordinary and necessary to be tax deductible 2013 Brenda M. Clarke. All Rights Reserved 17 Expenses Deductible expenses Advertising Bank Charges Office Supplies Payroll Utilities Partially deductible Meals and Entertainment Non deductible Non operating expenses Country club dues Some Owner s benefits (S Corporations and Partnerships) 2013 Brenda M. Clarke. All Rights Reserved 18 6

Double entry accounting Double entry accounting is the basis of a true accounting system The double entry system provides checks and balances to ensure that your books are always in balance. In double entry accounting, every transaction has two journal entries: a debit and a credit. Debits must always equal credits. Because debits equal credits, double entry accounting prevents some common bookkeeping errors. 2013 Brenda M. Clarke. All Rights Reserved 19 Debits and Credits Increases Decreases Debit increases an asset account Credit decreases an asset account Debit increases an expense account Credit increases a liability account Credit increases an equity account Credit increases a revenue account Credit decreases an expense account Debit decreases a liability account Debit decreases an equity account Debit decreases a revenue account 2013 Brenda M. Clarke. All Rights Reserved 20 Double Entry Accounting Transaction Two-sided effect Bought furniture for cash Increase in furniture (asset) Decrease in cash (asset) Took out a loan Increase in cash (asset) Increase in debt (liability) 2013 Brenda M. Clarke. All Rights Reserved 21 7

Financial Reporting The Primary Objective The primary objective of financial reporting is to communicate understandable information that is useful in making business decisions. To achieve this objective the information must be: Accurate; Timely; and In the proper format 2013 Brenda M. Clarke. All Rights Reserved 22 Financial Statements The end product of the accounting process Generally include: Balance Sheet Income Statement Statement of Cash Flows 2013 Brenda M. Clarke. All Rights Reserved 23 Financial Statements Income Statement Statement of Owner s Equity Balance Sheet Demonstrates profitability Shows changes in capital balance Demonstrates economic resources as well as debts the company owes 2013 Brenda M. Clarke. All Rights Reserved 24 8

Financial Reporting In the context of a law firm, the main focus is often limited to production of the balance sheet and income statement only, with supplemental reporting provided to disclose issues related to the entity s equity and cash flows. 2013 Brenda M. Clarke. All Rights Reserved 25 Components of Financial Statements Balance Sheet Accounts: Assets Liabilities Equity Income Statement Accounts: Revenues Expenses 2013 Brenda M. Clarke. All Rights Reserved 26 The Balance Sheet Assets = Liabilities + Equity Assets = the economic resources of the enterprise Liabilities = the economic claims of third parties Equity = the economic claims of ownership 2013 Brenda M. Clarke. All Rights Reserved 27 9

The Balance Sheet The balance sheet indicates a firm s financial position at a certain point in time, usually at the end of an accounting period. 2013 Brenda M. Clarke. All Rights Reserved 28 Assets ABC Firm, LLC Balance Sheet December 31, 2012 Liabilities Cash - Operating 25,500 $ $ Accounts Payable 58,350 Accrued Payroll Liabilitites 11,100 Cash - Payroll 1,000 Accounts Receivable 42,200 Accrued Interest Due ABC Bank 1,100 Current Assets 68,700 Current Liabilities 70,550 Furniture, Fixtures & Equipment 228,600 Note Payable - ABC Bank 220,000 Capitalized Software 4,850 Capitalized Tenant Finsh 84,100 Total Liabilities 290,550 Accumulated Deprepciation (69,700) Total Fixed Assets 247,850 Partners' Capital Organization Costs 2,500 Accumulated Amoritization (1,160) Beginning Capital 17,700 Total Intangibles 1,340 Capital Contributions 8,000 Distributions (107,630) Deposits 11,200 Net Income 145,470 Goodwill 25,000 Ending Capital 63,540 Total Assets 354,090 Total Liabilities and Partners' Capital 354,090 $ $ 2013 Brenda M. Clarke. All Rights Reserved 29 The Income Statement This statement reflects the success of an enterprise in the generation (inflows) of resources (revenues) in relation to the expenditure (outflows) of resources (expenses) and conveys such information essentially as a roadmap between balance sheet dates. 2013 Brenda M. Clarke. All Rights Reserved 30 10

ABC Firm, LLC Income Statement For the year ending December 31, 2012 Revenues Fee Income - Boulder Office $ 350,000 Fee Income - Denver Office 100,000 Fee Income - Fort Collins Office 75,000 Total Revenues 525,000 Operating Expenses Salaries & Wages 275,750 Rent 62,200 Employee Benefits 22,200 Common Area Maintenance 4,450 Storage 2,450 Client development 2,300 Depreciation 1,500 Postage and Delivery 800 Dues and subscriptions 700 Total Operating Expenses 372,350 Net Operating Income 152,650 Interest Income 420 Interest Expense (2,950) Officers' Life Insurance (2,850) Charitable Contributions (1,800) Total Other income/(expense) (7,180) Total Net Income $ 145,470 2013 Brenda M. Clarke. All Rights Reserved 31 The Income Statement A critical element in understanding how to comprehend the information conveyed in the balance sheets and income statements of any enterprise is to understand the linkage between these two primary statements. 2013 Brenda M. Clarke. All Rights Reserved 32 Link between the balance sheet and the income statement Net income flows from the income statement to the equity section of the balance sheet. The net income can be retained in the company or distributed to the owners of the company. 2013 Brenda M. Clarke. All Rights Reserved 33 11

Statement of Cash Flows A statement of changes in financial position that shows the sources and uses of cash. 2013 Brenda M. Clarke. All Rights Reserved 34 ABC Firm, LLC Statement of Cash Flows For the year ending December 31, 2012 Cash flow from operating activities Net income from operations $ 145,470 Add non-cash expenses: Depreciation 1,500 Total cash from operating activities 146,970 Cash from investing activities Purchases of Equipment (20,000) Cash from sale of equipment 2,500 Cash from the collection of accounts receivable 1,660 Total cash from investing activities (15,840) Cash from financing activities Cash from new debt 13,000 Cash used to pay debt (15,000) Cash paid to shareholders or partners (107,630) Total cash from financing activities (109,630) Total increase in cash 21,500 Beginning cash balance 5,000 Ending cash balance $ 26,500 2013 Brenda M. Clarke. All Rights Reserved 35 Cash flow vs. net income Net income / (loss) The difference between the revenues of a firm, less expenses including taxes. Cash flow increase or decrease in cash as a result of the operations of the firm, the investing activities of the firm and the financing activities of the firm. 2013 Brenda M. Clarke. All Rights Reserved 36 12

Basis of Accounting Small businesses have the option of using either the cash or accrual basis of accounting to record transactions. The main difference between these two methods is the timing of when the underlying economic activity is recorded in the general ledger and reflected within the financial statements. 2013 Brenda M. Clarke. All Rights Reserved 37 Cash vs. accrual basis of accounting Cash based accounting Recognizes revenue and expenses when cash is received or disbursed. Revenue is recognized when you receive payment from your customer not when you invoice them. Expenses is recognized when cash is disbursed not when the bill is received Used most of the time for tax purposes. 2013 Brenda M. Clarke. All Rights Reserved 38 Cash vs. accrual basis of accounting Accrual based accounting Recognizes revenue and expenses at the time they are earned or incurred regardless of when the cash is received or paid out. Revenue is recognized when you bill your client not when you receive your payment. Expenses is recognized when invoice is received not when the bill is paid. Provides a better analytical tool by matching revenues and expenses to the period when the transactions occurred. 2013 Brenda M. Clarke. All Rights Reserved 39 13

The Matching Principle The practice of expense recognition is referred to the matching principle. The matching principle dictates that expenses should be matched against the revenues. 2013 Brenda M. Clarke. All Rights Reserved 40 Other Reports Internal Reports Budgets Realization Reports Accounts Receivable Accounts Payable 2013 Brenda M. Clarke. All Rights Reserved 41 Other record keeping for tax purposes Mileage logs Required by IRS to claim a mileage deduction. Should include date, destination, purpose and number of miles. Meals and Entertainment logs Entertainment expenses are 50% deductible. Should included date, place, purpose, client, and amount Some meals are 100% deductible employee meals at work, Christmas or other holiday parties, office snacks 2013 Brenda M. Clarke. All Rights Reserved 42 14

Cash Management Maintaining your cash accounts Operating Account Trust Account Credit Card Accounts 2013 Brenda M. Clarke. All Rights Reserved 43 Cash Management Account reconciliations: Should be done monthly Compare your manual or computerized checking activity to the bank Deduct any additional bank fees, office supply charges, unrecorded activity Add any interest income or unrecorded deposits 2013 Brenda M. Clarke. All Rights Reserved 44 Payroll Employees vs. Contract Labor IRS 20 factor test Penalties for non compliance Relief from penalties 2013 Brenda M. Clarke. All Rights Reserved 45 15

Payroll Reporting requirements are complex Deposit rules and timing Withholding taxes 2013 Brenda M. Clarke. All Rights Reserved 46 Payroll Outsource to reputable payroll service organizations Payroll One Paychex ADP 2013 Brenda M. Clarke. All Rights Reserved 47 Time Keeping Hourly billing is the most common method to bill clients for services Requires accurate and detailed recording of time spent on particular client matters Can lead to greater efficiency and productivity 2013 Brenda M. Clarke. All Rights Reserved 48 16

Time Keeping Can help prevent fee disputes On contingent fee cases may be necessary to provide adequate information to be obtain court awarded fees. 2013 Brenda M. Clarke. All Rights Reserved 49 Time Keeping Measures productivity and estimates for various types of matters Measures How many hours a week am I working? Am I billing enough Am I billing too much? What am I spending my time on 2013 Brenda M. Clarke. All Rights Reserved 50 Time Keeping Should be: Accurate, detailed and Contemporaneous Should include: The date the work was performed Details of the performed The amount of time spent 2013 Brenda M. Clarke. All Rights Reserved 51 17

Time Keeping Choose your minimum billing increment.25 hours.10 hours (most common) Some clients may feel your bills are inflated with a.25 increment 2013 Brenda M. Clarke. All Rights Reserved 52 Time Keeping Filling in time sheets at the end of the day can lead to an underestimation of time on particular jobs by up to 1/3 rd. Even worse if done on a weekly basis Loss of one hour a day Billing rate $200 Loss per day 1 hr Cost per week = $1,000 Cost per year $52,000!!! 2013 Brenda M. Clarke. All Rights Reserved 53 Billings and Collections You cant get paid until you send the bill Average time cycle to get paid is around 4 months! 2013 Brenda M. Clarke. All Rights Reserved 54 18

Billings and Collections Be timely Mail Invoices during the first few days of the month to get them into the check run This is only possible with contemporaneous time keeping! 2013 Brenda M. Clarke. All Rights Reserved 55 Billings and Collections Be Accurate and Complete Don t give your clients any reason not to pay! Review your time entry and the time entry of your staff prior to creating the invoice 2013 Brenda M. Clarke. All Rights Reserved 56 Billings and Collections Bills can be a source of marketing and communicating with your clients Can be a reflection of your own personal style Personalize the invoice with a short handwritten note Explain bills to client at initial meeting and in your engagement letter Send Interim bills on large engagements Show your write offs. 2013 Brenda M. Clarke. All Rights Reserved 57 19

Billings and Collections Types of Bills Summary Appropriate in some cases. But not preferred Detail Can be brief or narrative. Shows client s that you feel it s important to communicate your efforts. 2013 Brenda M. Clarke. All Rights Reserved 58 Summary Bill ABC Law Firm 123 Main Street Denver, CO 80021 January 31, 2011 Bill Smith 1234 Jackson Street Denver, CO 80021 Legal Services Rendered for xyz project per terms of agreement 1,500.00 Prior Balance 2,500.00 Payment received (2,500.00) Prior Balance Due - Balance Due 1,500.00 We appreciate your business and referrals 2013 Brenda M. Clarke. All Rights Reserved 59 Detailed Bill ABC Law Firm 123 Main Street Denver, CO 80021 January 31, 2011 Bill Smith 1234 Jackson Street Denver, CO 80021 January 8, 2011 Telephone conference with Mr. Sm 0.25 50.00 Review contract 1.50 300.00 January 15, 2011 Revise agreement 1.00 200.00 Meeting with contractors 3.00 600.00 January 22, 2011 Telephone conference with Mr. Sm 0.50 100.00 Legal research 1.25 250.00 Total Charges 1,500.00 Prior Balance 2,500.00 Payment received (2,000.00) Prior Balance Due 500.00 Balance Due 2,000.00 We appreciate your business and referrals 2013 Brenda M. Clarke. All Rights Reserved 60 20

Credit and Collections In this tough economy clients are trying to hold on to their cash for as long as they can. Have a written collection policy and stick to it. Be assertive in collecting the money owed to you 2013 Brenda M. Clarke. All Rights Reserved 61 Credit and Collections Approve credit for your clients Credit check Assessment of risk Determine credit limits 2013 Brenda M. Clarke. All Rights Reserved 62 Credit and Collections Minimize your risk Get retainers Interest charges on past due amounts Watch your Accounts receivable aging 2013 Brenda M. Clarke. All Rights Reserved 63 21

Credit and Collections What if they cannot / will not pay? Know when to stop work Payment plan what can they afford to do? Is there cash in their future? Interest charges should be clearly spelled out in your engagement letter 2013 Brenda M. Clarke. All Rights Reserved 64 Trust Accounts Law firms need two separate bank accounts: Operating Account to record income and expenditures Trust Account (COLTAF) for client funds, retainers, advanced costs, and settlement proceeds. Interest earned goes to COLTAF 2013 Brenda M. Clarke. All Rights Reserved 65 Trust Accounts Rules of Professional Conduct 1.15(d) Every lawyer in private practice shall maintain in a financial institution in Colorado, a trust account or accounts separate from any business and personal account, into which the lawyer shall deposit funds entrusted to the lawyer s care 2013 Brenda M. Clarke. All Rights Reserved 66 22

Trust Accounts When fees are earned, funds are transferred from trust account to operating account Do this on a regular basis Advise client by sending a bill showing the disbursement 2013 Brenda M. Clarke. All Rights Reserved 67 Selecting an Accountant Ask the following questions: Does he or she specialize in small businesses of my size? Does he or she adequately understand my business and its unique problems? Does he or she specialize in income taxes? Are other local business people familiar with this accountant? 2013 Brenda M. Clarke. All Rights Reserved 68 Selecting an Accountant (cont ) Ask the following questions: Has he or she received positive recommendations from my peers in the business community? Did the accountant explain the fee structure to me? Am I comfortable with it? Am I comfortable using this person as a business advisor? 2013 Brenda M. Clarke. All Rights Reserved 69 23

Accountants and Their Responsibilities Private accountants Non certified public accountants Certified public accountants (CPAs) 2013 Brenda M. Clarke. All Rights Reserved 70 Accountants and Their Responsibilities Bookkeeper Good bookkeepers can be the most valuable members of the accounting team. The basis of all the financial reporting system rests upon their data input. Bookkeepers record transactions from main sources like invoices and checks. Full Charge bookkeepers can do the whole accounting process complete through final financial statements. Many of these people command considerable salaries. 2013 Brenda M. Clarke. All Rights Reserved 71 Accountants and Their Responsibilities Accountant Take the basic data and adjust it to final status. In large companies accountants may specialize in one area such as payroll or accounts payable. Controller This is the head of an accounting department. It s a fancy word for chief accountant. Oversee other members of the accounting department. 2013 Brenda M. Clarke. All Rights Reserved 72 24

Accountants and Their Responsibilities Certified Public Accountant (CPA) CPAs can attest to the validity of financial information. This means that they can audit financial statements and report on whether they are accurate or not. This authority is licensed by law. CPAs receive a license to practice from a state board of accountancy. They must pass exams to achieve this. Current requirements include two years of experience and five years of college. 2013 Brenda M. Clarke. All Rights Reserved 73 Basic Accounting Terminology Assets: The economic resources of an entity that can usefully be expressed in monetary terms. Liabilities: What your business owes vendors and other creditors. Equity: The net worth of your company. Also called owner's equity or capital. Equity comes from investment in the business by the owners, plus accumulated net profits of the business that have not been paid out to the owners. Source Documents: Printed or written forms that are generated when the firm engages in business transactions. 2013 Brenda M. Clarke. All Rights Reserved 74 Basic Accounting Terminology (cont ) Debits: At least one component of every accounting transaction is a debit amount. Debits increase assets and decrease liabilities and equity. Credits: At least one component of every accounting transaction is a credit amount. Credits increase liabilities and equity and decrease assets. Accounts Receivable Claims for future collections from clients. Money that clients owe the firm. Accounts Payable Short term obligations that the firm must pay in the future for goods and services. GAAP: Stands for Generally Accepted Accounting Principles. 2013 Brenda M. Clarke. All Rights Reserved 75 25

Questions? Call us at Seigneur Gustafson LLP CPAs 300 Union Blvd., Suite 600 Lakewood, Colorado 80228 1535 303.980.1111 voice 303.308.6969 fax Brenda.clarke@cpavalue.com www.cpavalue.com We Are Available for Consultations 2013 Brenda M. Clarke. All Rights Reserved 76 26