The material below does not form part of the SRA Handbook.
The SRA Principles regulate the conduct of solicitors and their employees, registered European lawyers, recognised bodies and their managers and employees, and licensed bodies and their managers and employees.
Principle 8 requires you to "run your business or carry out your role in the business effectively and in accordance with proper governance and sound financial and risk management principles". Whether you are a partner, manager or an employee, everyone has a part to play in ensuring your business is well run for the benefit of your clients.
The Handbook provides further detail about complying with Principle 8 in Chapter 7, "You and Your Business". This includes 10 mandatory outcomes and a four indicative behaviours about ensuring proper checks and balances are in place for effective scrutiny of firm's finances.
Specifically, Outcome 7.4 states that you "maintain systems and controls for monitoring the financial stability of your firm and risks to money and assets entrusted to you by clients and others, and you take steps to address issues identified".
Quite apart from your professional obligations, you need to be very careful not to trade while insolvent. The SRA may well require you to obtain formal advice on your position. There could also be very serious consequences if you mislead others, such as lenders, about your financial position. Once your firm is in financial difficulty, you face serious risks and need to act with complete propriety.
Managing your firm's finances
Many law firms run their finances very effectively but some are still too focused on work volume rather than profitability. Some firms suffer from key people trying to hold the difficult balance between running a business and earning fees.
As the legal services market continues to diversify and different models for business are developed, the way firms run their finances may vary markedly.
However, there are a number of things all firms need to consider to keep proper control of their finances.
The SRA's Risk Index provides an overview of risks posed to the regulatory objectives set out in the Legal Services Act 2007. The first section of the index looks at firm viability and structure, and firms should in the first instance assess themselves against these risks.
We have used our experience with firms that have suffered severe financial difficulties to draw up a list of good behaviours to aim for and poor behaviours to avoid. These lists are not exhaustive.
- Drawings exceeding net profits
- High borrowing to net asset ratios
- Increasing firm indebtedness by maintaining drawing levels
- Firms controlled by an "inner circle" of senior management
- Key financial information not shared with "rank and file" partners
- Payments made to partners irrespective of "cash at the bank"
- All net profits drawn, no "reserve capital pot" retained
- Short-term borrowings to fund partners' tax bills
- VAT receipts used as "cash received" resulting in further borrowings to fund VAT due to HMRC
- Partners out of touch with office account bank balances
- Heavy dependence on high overdraft borrowings
- All partners regularly receive full financial information including office account bank balances
- Drawings are linked to cash collection targets and do not exceed net profits
- Provision is made to fund partners' tax from income received
- A capital element is retained from profit, and a capital reserve account built up
- Premises costs are contained
- Profitability levels are tested and unprofitable work is (properly) dropped
If you are concerned about your firm's financial position
The legal services market is facing financially challenging times and your financial stability monitoring may lead you to the conclusion that there are serious problems.
If this is the case, then your first port of call may be your assigned member of our Supervision team. They will talk through your problems from a regulatory perspective and consider what can be done. Bear in mind that the SRA's concern is to protect clients and the wider public interest and we cannot provide legal or financial advice.
If you need to get in touch, please contact us.
The Law Society has also produced help and advice for firms. Alternatively, you may wish to contact your regional Law Society manager.
Other sources of help include the following:
When the forecast isn't good
The SRA regulates in the public interest and our priority will always be to safeguard the client interests, their money and files. This will be the aim of any engagement through our Supervision or Regulatory Management functions.
It may well be that your business needs to close in an orderly way. That may be best for your clients, for others who deal with you such as the court or other parties to transactions—and for you.
We have recently re-issued information on closing down your practice. Our Professional Ethics Guidance team can advise further if you have any questions.
When firms cannot or will not wind down their firm in an orderly manner, then we may have to intervene. We take possession of client files, and all money is legally vested in us. Intervened practitioners can be liable for the costs of an intervention.
Potential implications for you if we intervene into your firm
[Published 22 April 2013; updated 10 May 2013]