In the legal industry, a firm’s accounts payable is more than just the bills your office owes. Attorneys often act as the fiduciary for their clients. This means that the responsibility of certain client debts falls on the attorney. Meaning any mismanagement of these financials will result in penalties to the attorney who is handling them.
While dealing with clients’ financials is a necessary part of managing a legal practice, it can also be a very dangerous one too. The legal industry has more rules and regulations in place concerning accounting than any other industry. It is for that reason, that all legal professionals need to have a solid understanding of accounts payable and the very important role it plays in their business.
Defining Accounts Payable
Accounts Payable (AP) is defined as money owed by a company to its creditors. In layman’s terms, AP is what a business owes but isn’t ready to currently pay.
To compare it to personal finances, AP is essentially the same as someone receiving their monthly credit card bill, but waiting until the last minute before the due date to pay the bill. That bill is much more likely to be paid on time, before the due date, if the person being billed receives a reminder or notification that it is due. Without a system in place to provide that reminder, the bill could go unpaid, rack up late fees, and destroy an individual’s credit.
Accounts Payable and Legal Accounting
The way a firm manages their legal accounting has a major impact on their accounts payable.
Before anything else, a law firm or attorney needs to understand whether their accounting is cash based or accrual-based. In certain situations, the accounting method used for tax reporting is different than what the firm may be using to manage their business. This is because one method may provide greater tax benefits, while the other provides a better look at the firm’s present and future finances.
The two different type of accounting that law firms may use are cash basis accounting and accrual basis accounting.
Cash basis accounting is generally used by small professional services firms in the United States for tax purposes. It is only in instances where a firm has inventory that they need to use accrual basis accounting for taxes. Cash basis accounting requires firms to receive payment in cold, hard cash before their financial statements can be adjusted.
For firms utilizing accrual basis accounting, expenses are recognized upon a bill being received and income is earned on financial statements once it has been invoiced.
Here are some common scenarios at law firms that will be affected by the type of accounting the firm uses:
Sending an invoice to a client
Receiving payment from a client
Receiving a bill from a vendor
Paying a bill from a vendor
Accounts Payable for Law Firms & How It’s Different
Just like so many other things related to the legal industry, accounts payable exists elsewhere but has its own unique requirements inside of the legal industry. For law firms, there are 3 different types of accounts payable related to three different types of bills. The three different types of accounts payable are as follows:
Office Bills & Cash Flow
Bills from Vendors to be Billed to The End-Client
Accounts Payable Type 3: 3rd Party Lien Claims
How Can Attorneys Address the Challenges Associated With Accounts Payable?
While accounts payable is prevalent across a wide range of businesses, attorneys need to look at it through a different lens and be aware of the legal-specific rules, regulations, and requirements.
This is a common theme for lawyers across many different aspects of managing their business. There are legal-specific concerns related to billing, accounting, and practice management. These concerns are all interrelated and have a profound impact on all other areas of business.
So how does a law firm effectively navigate these challenges? The first thing that needs to be done is that the attorney must make sure they are well versed on the issues that are specific to the legal industry and find a solution that is specific to law firms. The full guide on this subject, Accounts Payable: What Law Firms Need to Know covers these topics and more.
This guide will provide a more in-depth look at:
Cash Basis v. Accrual Basis Accounting
Tax Accounting v. Business Accounting for Law Firms
The 3 Types of Legal Accounts Payable
Addressing the Challenges Associated with AP
Download The Complete Guide ‘Accounts Payable: What Law Firms Need to Know’