Attorney Expenses and Advanced Client Costs
This post is part two of a blog series on how to work with your first attorney-client, what you need to know. Last week, we jumped in at the very beginning and discussed the terminology around working with law firms and attorneys. This week it is all about the law firm expenses, and specifically, this post is around proper accounting for costs in the case or matter that the lawyer is handling. These “costs” are handled differently than overhead for the law practice.
Hard Costs/Advanced Client Costs
In terms of hard costs, think of any expense directly related to the matter or case. Since the fee is paid from the Operating Account from the law firm, it is considered an upfront loan. Costs should be reflected as an asset account. We set the account up for our clients as Advanced Client Costs. It is a Balance Sheet sheet account. Remember, costs are later recovered via the attorney billing to the client months or even years down the road, depending on the type of law practice you are working with. They must be appropriately tracked and accounted for properly.
of Hard Costs:
- Court filing fees
- Court reporting fees
- Deposition expenses
- Witness fees
- Medical record expenses
- Deposition expenses
of Soft Costs:
- Copy costs
- Faxing costs
- Postage fees
- Delivery services/messengers
- Clerical services
- Online research
- App costs
- Legal research costs
Soft Costs is generally a place where an attorney may get pushback from a client. However, for accounting purposes, soft costs are considered income and are an offset to the expense for the firm. If the law firm’s book is cash-basis, this income should be recognized the year that the offsetting costs were paid.
Month or Year-End reconciling of the Advanced Cost Account
The Advanced Client Cost account needs to be monitored for some specific law practices where sometimes the advanced cost is not reimbursed. If the firm has accrual-based books, these advanced costs (or loaned funds) will be written off to bad debt expense.
From the Attorneys Audit Technique Guide, a publication from the IRS, that I highly recommend downloading:
Attorneys Audit Technique Guide
“Courts have determined that costs paid on behalf of a client are to be treated as in the nature of loans for tax purposes. They are not deductible by the attorney as a current cost of conducting business. The costs are those of the client and not the attorney since there is an expectation of reimbursement. A bad debt deduction may be taken in the year that any costs are determined to be uncollectible."
As you can imagine, any attorney that does contingency work, some of these cases take years to finalize. The Attorneys Audit guide above will help you in processing these types of accounts. Of course, if you are unsure, please contact your tax professional for guidance.
I hope you are enjoying this series on how to work with law firm clients. We will continue to build on this content and bring you more valuable tips as the week's progress. If you have any questions or comments, feel free to ask in our Facebook Group, QB Community Live!