Investing your fees in a pre-tax and tax-deferred attorney fee deferral program is a very smart way to plan for the future. Attorney fee deferral programs are created for a variety of reasons. Based upon your specific planning needs and objectives, you can defer your contingent legal fees to accomplish any of the following:
- Cover future fixed costs of your law firm
- Reduce present-day tax burdens by receiving income over time
- Create “golden handcuffs” for key firm employees
- Pay for future personal expenses (for example, college expenses for your children)
- Retirement planning needs
Most attorneys use fee deferrals for traditional retirement planning purposes. Attorneys can utilize normal retirement plans as part of their overall portfolio. They can use IRAs, Roth IRAs, 401(k)s or other traditional options available to non-lawyers. These options are usually the starting point for a retirement savings plan. However, attorneys can utilize fee deferrals to uncap the amount they can invest pre-tax each year and eliminate early withdrawal penalties associated with traditional retirement plans.
The benefits and ways to use attorney fee deferrals are many. The problem is that attorneys generally do not leverage them the way they should. In an industry that creates billions of dollars of contingent legal fees each year, a very small percentage are deferred using attorney fee deferral programs. When it comes to retirement planning, the one mistake you cannot make is doing nothing at all. You must do something!
Choosing the right plan or deferral time frame isn’t as important as creating a systematic program of deferring fees and sticking with it. The program can be modified and new deferrals can account for changes that might become necessary in the future. If you defer too long, you can defer your next one for a shorter time frame. If you defer too short, you can defer your next fee for a longer period. If you think the rate of return in one program is low, you can utilize a different plan the next time. You can change the plans and adapt along the way. The one thing you cannot change is the missed opportunity if you fail to defer.
The power of deferral is a function of two variables: time and interest rate. The earlier you defer and the longer the duration, the more exponential growth you will experience. To illustrate, take a hypothetical 45 year old lawyer whose birthday is July 28. If he or she defers a $25,000 fee on October 1, 2018, here are the numeric differences at 5 year intervals using an assumed 5% interest rate:
Age 50: $31,803.43
Age 55: $40,815.21
Age 60: $52,380.55
Age 65: $67,223.04
As you can see, the compounding of interest starts to multiply very rapidly after 10 years. The 5% used above is a very conservative assumed interest rate. The average rate of return of the S&P 500 over the last 90 years is over 9%. Here is the same $25,000 fee deferral at 9% assumed interest rate:
Age 50: $38,529.18
Age 55: $60,624.42
Age 60: $94,448.88
Age 65: $147,876.70
The rate of return has a big impact but time is the equalizer. You must do something now to capitalize on the programs available. For my fellow Generation X readers, a study by Nationwide showed that 52% of us do not utilize a financial advisor or seek financial guidance. This percentage is very troubling when coupled with the fact that we are in our prime earning years. We are earning more money and not seeking or receiving any guidance. If you don’t have a plan – you are not going retire the way you want.
Financial stability is also a driver in your mental and physical health. According to the Gallup-Healthways Well Being Index and other studies, Americans with greater financial stability are in better physical and mental condition. Good health into your retirement years can create a longer income-generating life and decrease your overall health costs in retirement. Developing a plan is a win/win!
Fee Deferral must start today if you want to be prepared for when you retire. The decisions about plan design are less important and can be changed as you grow into your plan. The decision to defer a $25,000 fee is not going to have a major impact on your life in 20 years. However, if you wait 5 years to start it will be far less impactful. The Washington Post reported that the biggest regret for Americans was not saving for retirement. Do not become a statistic. Start your fee deferral program today.
Want more?
Watch our previously recorded Third Thursday Webinar.
For more information on the types of programs available to attorneys see our previous blog posts:
https://partnerwithsynergy.com/now-is-the-time-to-defer-taxes-on-contingent-legal-fees-when-does-a-0-rate-of-return-make-sense/
