Law Firms Wary of Tax Provision
Proposal affects income reporting method.
Lawmakers on Capitol Hill will start the new year with momentum on major tax reform proposals — including a provision that could pose a financial hardship for large law firms and hit partners with outsized tax bills.
Senate Finance Committee Chairman Max Baucus (D-Mont.) this month expects to receive public comments on draft legislation that would mark a fundamental change to the way large law firms and other professional service firms report and pay their taxes. A similar provision was included in a draft bill first circulated in March by Rep. Dave Camp (R-Mich.), chairman of the House Ways and Means Committee. Camp has called America's tax system "broken."
Those lawmakers will continue to push forward on tax issues this year, as the United States and other countries try to tackle tax base erosion, said Evan Migdail, a DLA Piper partner in Washington who focuses on tax, trade and government ethics issues. "There will be more white papers, more hearings, more people teaming up to come up with formulas on the Hill," Migdail said. "I think there's momentum to tax reform all over the world."
Lawmakers want a temporary revenue bump to help pay for a broader tax reform package, attorneys following the reform push said, and law firms are in the line of fire.
Under Baucus' proposal, firms with gross receipts of greater than $10 million could no longer use the cash method of determining taxable income, but instead would use the much more complex accrual method, according to a PricewaterhouseCoopers analysis of the draft bill.
At law firms, partners would bear the burden of that change. Income would have to be reported earlier — even before cash is received — and would likely "generate an unexpected, front-loaded income tax liability that must be paid by law firm partners over a proposed four-year period," according to the PricewaterhouseCoopers analysis, published in December.
Firms also would have to deal with certain consequences — including whether and how to help partners pay the additional taxes, PricewaterhouseCoopers said. Other business and cultural issues could need adjustment, including partnership agreements, accounting processes and systems, or benefit programs for partners, said David Gaulin, national assurance leader for PricewaterhouseCoopers' law firm services practice.
"Firms should not be sitting back waiting to see if and when this goes through," Gaulin said in an interview. "They should be setting up work streams to model it out and think about how it's going to impact their organization, and make sure there are no negative consequences."
Thomas Susman, the American Bar Association's government affairs director, said that because of the potential revenue boost for the government "it will be very tempting to use this regardless of the public policy implications."
The timing and likelihood of such a provision becoming law is far from certain. The proposal would depend on Congress' appetite for and ability to tackle broader tax reform. "Even the sponsors don't know when this might come up," Susman said. "Nobody knows. The problem is we have to be ready."