Billing Your Client in a Tough Economy

Published in The General Practitioner (Newsletter of the State Bar of Michigan General Practice - Solo and Small Firm Section, Jan/Feb 2013)

The average American lawyer is self-employed or working at a small firm, and makes $60,000 to $100,000 a year. In California, by far the most populous state, one-quarter of all lawyers earn $50,000 a year or less, and the situation is similar in most other states—including Michigan, where many smaller business clients have simply disappeared since the financial crisis in 2008, and many individuals still hold off on the expense of using a lawyer. The business of firms serving these clients typically involves personal injury, family disputes, criminal defense and personal debtor claims, among others, that tend to pay less than other types of cases. Couple this with the reduction in number of clients and number of matters and the slower payments that continue today, and the financial and economic difficulties most lawyers face are substantial.

Although our economy may gradually be getting healthier, it is nowhere near the glory days. And by all accounts, we're not likely to reach those high plateaus again for at least a generation. Today, we are only just beginning to come out of an economic depression. Yes, economists and politicians are calling the last few years The Great Recession. But by any measure it was a depression, of a magnitude perhaps as serious, though different in details, as the 1930s.

What Do You Realize?

In such an environment, collections, or lack thereof, are the number one problem for most lawyers. Failure to have a 95 percent realization rate means that you are holding a sieve and the sand (cash, accounts receivable) is flowing through. In essence you are not earning the 100 cents on the dollar that you are billing. While you pay expenses at 100 cents on the dollar, you are not earning the equivalent.

Too many lawyers equate financial success with work done, measured in billable hours. A lawyer's inventory is not billable hours; it is the amount of cash that is realized from the billable hours outstanding. Realization is simply the percentage of what is billed that is actually collected. The greater your billings, the more effort you should devote to getting cash into the firm. When you bill clients, you are extending them credit. Low realization means you need more cash to stay in business while waiting for clients to pay. The road to disaster is continuing to do work for the same clients, extending credit rather than collecting fees in the hope that these clients will give you more work.

Realization exists in two levels: Percent of billable or booked hours billed (worked-to-billed ratio), and percent of billed work collected (collected-to-billed ratio). The goal is to have a high collected-to-billed ratio. An overall realization rate of less than 85 percent is unacceptable, and the ideal is to have a realization rate of near 100 percent. In any business, if you only collect a fraction of each dollar you're owed, financial trouble will follow.

What Are Your Terms?

Because the engagement agreement is the foundation for all future fee and collection considerations, never hesitate to be as detailed as possible in the terms spelled out. There are two ways that an engagement agreement can specify terms that prevent collection problems.

  • Set a written fee agreement. Typically a written fee agreement is required for contingency work but not for hourly or transactional work, though states are moving in the direction of requiring written fee agreements.

    Many attorneys miss an opportunity by not having a written fee agreement. There are marketing benefits in terms of defining and managing client expectations and how these expectations will be met, and removing uncertainty about fees.

  • Specify the collection cycle. Set specific dates of the month by which clients will be billed. For example, state in the agreement that invoices will be sent on or about the 25th of the month so that clients receive statements on or before the first day of the following month. Since businesses close their payable cycle on the 1st to the 5th of the month, and pay their bills on or about the 10th to the 15th of the month, this can speed payment.

    Stipulating payment rates and terms up front should be accompanied by the client's acceptance of a budget that addresses events, time and anticipated fees. The engagement agreement should state explicitly that the lawyer will stay in continual touch with the client about expenses and budget. The two crucial budget parameters are time and money.

  • Time. Use common sense, be realistic, and communicate accurately about the amount of time it will take to complete any work. Err on the side of caution and be sure to build in more than adequate time. Be realistic and build in some leeway for surprises or difficulties.

  • Money. Clients should have in mind how much money they want to spend to resolve a problem, just as they know what they want to spend on any purchase. In either case, a higher initial cost may be acceptable if the long-term return on investment justifies it. Most issues, however, involve everyday costs of doing business and it makes no sense to budget a large amount for them if a smaller one will accomplish the objective.

    Once the client formally approves the final budget, all subsequent communication about it must be a collaborative effort. Because lawyer and client will each have unique information at any given time, both must be in constant communication about developments to keep the budget on track. The budget document should be periodically reviewed, with clients being told how much they have already spent and being asked to approve any necessary changes.

How Do You Bill?

With the terms established, bill in a regular and timely way, using statements that contain a full narrative of the work done and the goal accomplished by that work. The more information that the invoice provides about what was done and what that work accomplished, the more likely the client will be to perceive the bill as fair and to pay it promptly. Too many lawyers make the mistake of brevity when billing—for example, "work on motion for summary judgment, 20 hours." Break any such charge into its basic elements, with the amount of time needed for each: review key documents and deposition testimony, draft statement of uncontested facts as required by court procedure, research precedents in four similar cases, and so on. Such itemization does not try clients' patience; on the contrary, it helps them understand just how much was done on their behalf.

Use action verbs to describe services and clearly indicate the specifics of what was accomplished. This gives clients an appreciation of the effort required for success.

Two criteria define a reasonable billing approach. First, document that your fee is reasonable. That means making sure the client knows you have the skill and experience to justify the fee, and that it is competitive with others in your geographic and practice areas. You must know the current market conditions and the competitive pressures on legal fees. And second, don't discount your fee—particularly if the client has earlier agreed to pay the full amount in the engagement agreement. If you face client price-cutting pressure, meet it either by taking services off the table or by requesting a quid pro quo such as a guaranteed amount of work in exchange for a volume discount on that work.

When Should You Enforce Collection?

When there is an overdue account, there should be a consistent approach to connect with the client. Make sure the bill is received and, if it has been, ascertain whether the client is dissatisfied. Large and small firms alike often continue to work for the non-paying client in the misguided hope that continuing the relationship means getting paid and receiving referrals in the future. However, clients respect firmness and a businesslike approach, and generally do not go out of their way for lawyers they disrespect.

It is true that lawyers cannot leave a non-paying client high and dry. Rule 1.16 ("Declining or Terminating Representation") allows lawyers to withdraw from a representation if "the client fails substantially to fulfill an obligation to the lawyer regarding the lawyer's services and has been given reasonable warning that the lawyer will withdraw unless the obligation is fulfilled." An attempt to withdraw without adequate notice, for example right before a trial date, and without careful records of the client's billing and payment performance may bring a State Bar disciplinary action.

But if a lawyer continues the client representation, and has reviewed the client file to make sure that there has been no negligence in that representation, using a collection agency or initiating fee arbitration on current clients who are not paying is perfectly justified if an engagement agreement is in place. Such an agreement essentially states the responsibility of the lawyer (provide the best representation possible) and the client (cooperate with the lawyer and pay the bill). If the law firm has a collection policy it should be enforced, including by the retention of a collection agency. Otherwise, the representation becomes a pro bono assignment, and if pro bono service is not stipulated in the engagement agreement it is not necessary.

Some say that law is different from other businesses, and with respect to ethics issues that may be true. But there is nothing unethical about wanting to get paid and taking steps to get paid, while continuing all ethical obligations. It is a simple recognition that law firms are and will continue to be subject to the rules of economics in billing and collection.

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