R. P.

Mora Accounting & Law Office

No.95 RCDC Centrum, Gorordo Ave., Cebu City Tel. No. (032) 520-5814

___________________________________________________________________________________

Clarifying withholding tax on minerals by: Charity P. Mandap

A major focus of the Bureau of Internal Revenue (BIR) is mining, an industry that is viewed as a good revenue source as it is subject to excise, value-added and income taxes. Relative to this, the BIR has clarified the taxability of the sale of gold in its recent Revenue Regulations (RR) No. 6-2012 issued on April 2, 2012. The regulations amend RR No. 7-2008 on the Taxation on the Sale to BSP of Gold and Other Metallic Mineral Products Extracted or Produced by Small-Scale Miners, and Further Amending Section 2.57 2(T) of RR No. 2-98, as amended. A significant amendment is the expanded scope of the regulations. RR 7-2008 covers only transactions between small-scale miners and the Bangko Sentral ng Pilipinas (BSP). With the changes in place, RR 6-2012 now uses the words sellers instead of small-scale miners and buyers instead of only the BSP. RR No. 7-2008 contains no reference to large-scale mining or other entities. In fact, it specifically implements Republic Act (RA) No. 7076 or the Peoples Small-Scale Mining Act of 1991. It provides a detailed background, definition and qualification of small-scale mining, giving the impression that he regulation is applicable only to small-scale mining. If the intent is to cover large-scale mining, RR 7-2008 could have easily incorporated the same. Thus, under the basic rule on statutory construction known as expressio unius est esclusio alterius, or in laymans terms simply means what is not included is deemed excluded, RR No. 7-2008 is applicable only to small-scale mining. Meanwhile, RR 6-2012 now provides for the applicability of VAT on the sale of gold. Where RR No. 7-2008 merely provides for the zero percent VAT on the sale of gold to the BSP, the new regulations reiterate the applicability of the 12% VAT on the sale of metallic minerals to persons and entities in general. The general term persons and entities could only mean persons and entities other than BSP. Thus, the new issuance covers sale of minerals to persons and entities other than the BSP. The inclusion of large-scale mining in the coverage of the regulations attains relevance in the withholding of the 10% tax by a buyer on income payments for purchases of minerals, mineral products and quarry resources under Section 2.57.2 (T) of RR No. 2-98. Considering that RR No. 72008 overs only small-mining, the 10% withholding tax required under the same regulations should be construed to apply only to transactions involving small-scale miners. In spite of this, the BIR in some cases maintains that the 10% withholding tax should also be applicable to transactions involving large-scale miners. With the BIRs interpretation, buyers who withheld only the 1% tax on income payment to large-scale miners (as prescribed by an earlier regulation, RR No. 17-2003) have been made liable to withholding tax deficiency on the 9% difference. As a consequence, buyers of minerals, on whom the responsibility to withhold is placed, are being exposed to penalties for failure to withhold the correct taxes. The intent of the BIR to cover transactions involving large-scale mining under RR 12-2008 could have been explained in a public hearing on the regulations during the drafting stage. Unfortunately, no such event took place. As a public hearing is required to validate the regulations, can the BIR implement the changes or raise tax rates in a regulation that was issued without due notice and hearing? Under RR 8-2012, the controversial withholding tax has been reduced to 5% (from 10%, or up from 1%) which now applies on all transactions whether with large scale or small-scale miners. The earlier regulation, RR No. 17-2003 prescribed only a 1% withholding tax rate. The reduction in the withholding tax rate , hopefully, should be able to address the burden on both the buyers as withholding tax agents and on the sellers. The buyer-withholding agent is now made liable for the amoun t of taxes not withheld plus interest and penalties should there be a failure of compliance with the regulations. Moreover, the change to 10% withholding tax rate under RR No. 7-2008 was a big jump from the original 1%. In many cases, an excessive withholding tax rate only results in huge amounts of creditable withholding taxes in the taxpayer account if the amount withheld is higher that the income taxes payable. The new regulations also added a paragraph to the requirement of proof of withholding and remittance of the 5% withholding tax to enable sellers/possessors to claim the costs and expenses associated therewith. This addition amplifies the importance of the withholding of tax on purchase of minerals, failure of which will cause the disallowance of the costs and expenses to sellers/possessors. As certain ambiguities of RR No. 7-2008 have been addressed by th recent issuance, buyers of minerals, regardless of whoever is selling, can now be assured that the 5% rate is the correct withholding tax.

Organizing a cooperative can both be complex and simple. It requires, first of all an understanding of the basic needs of the perspectives cooperative members. It demands patience from the co-organizer who must take the cooperative goal and objectives, its visions and long term goals a real part of the members lives. But it can be also easy because the Cooperative Code of the Philippines (RA 6938) has devised very clean cut steps for the cooporganizer and members. This question and answer form should make organizing cooperatives a little more understandable to the cooperative organizer. What Is A Cooperative? A cooperative is a duly registered association of persons with a common bond of interest, who have voluntarily joined together to achieve a lawful common social or economic end, making equitable to contribution to the capital required and accepting a fair share of the risks and benefits of the undertaking in accordance with universally accepted cooperative principle.

By forming a cooperative you pool money, human resources and talent to build capital and work together to produce more goods and raise incomes. Through cooperatives, you can look for the other sources of loans at low interest rates of borrowing form informal lenders or users. The cooperative can also be a mechanism for marketing your produce. What are the Principles of Cooperativism? The cooperative principles were reformulated by the International Cooperative Alliance in Vienna in 1966 during its 23 Congress.

The first principle is anchored on voluntarism. This means that each member of a cooperative becomes a member voluntarily and is not restricted by social , political or religious discrimination . In fact anyone who meets the qualifications set by a cooperatives bylaws can be a member if he willingly shoulders their responsibility. The second principle is democracy. Coops are democratic organizations with officers and managers elected or appointed in a manner agreed on by members. Each member, no matter the amount of his share, is entitled to one vote. The third principle is the limitation of share capital interest. In the context of cooperativism, interest on a member share capital is limited so that no person- especially those with money- can have an overwhelming equity in the coop. This prevents the domination of the coops affairs by wealthy members at the expense of poorer members and the organization as whole. The fourth principle, essentially a manifestation of the third principle, revolves on the sharing alllocation of cooperatives surplus or savings. At bottom, it mandates distribution of surplus equitably so that no member, gains at the expense of another. Surplus are, by decision of the member, used for developing the coops business interests, providing common services to members in proportion to their transactions with the cooperatives. The fifth principle, makes provision for the education and training of cooperatives members, officersand employees, and of the general public in the principles and techniques of cooperation. The sixth principle harps on the promotion of cooperation between cooperatives at local, national and international levels. The seventh principle is the concern for community by working for its sustainable development through policies approved by the cooperative members. What Are The Kinds Of Cooperative?

o o o o o

Credit Cooperative- promotes thrift and savings among its members and creates funds in order to grant loans for Consumer Cooperative- the primary purpose is to procure and distribute commodities to member and non-members; Producers Cooperative undertakes joint production whether agricultural or industrial; Service Cooperative- engages in medical, and dental care, hospitalization, transportation, insurance, housing , labor, electric Multi- Purpose Cooperative combines two (2) or more of the business activities of these different types of cooperatives.

productivity

light and power, communication and other services; and

According to membership and territory, the following are the categories of cooperatives:

In terns of membership:

o o o

Primary -The members of which are natural persons of legal age; Secondary- The members of which are primaries; Tertiary The member of which are secondaries upward to one or more apex organizations. Cooperatives whose members

are cooperatives are called federations or unions. In terms of territory, cooperatives are categorized according to areas of operation which may not be coincide with the political subdivisions of the country.

What are the General Steps in Forming a Cooperative? Basically, there six steps in setting up a cooperative. First, get organized. You must have at least 15 members to do that. At once determine the common problems you would want solved and the basic needs you would want provided for through a cooperative. You may want to include increasing of your production, marketing of your produce, credit assistance, power generation, banking or insurance and other similar needs. Determining your problems and needs will also help you classify the kind of a cooperative you will be organizing.

Even before coop is set up, a dedicated core group of people will do all the organizational and paper works is a must. From this core group, working commodities may be formed to set things moving. These committees may include membership, finance, executives, secretariat to name a few. Second, prepare a general statement called an economic survey. This statement will help you measure your cooperatives chances of success. Third, draft the cooperatives by-laws. The by-laws contain the rules and regulation governing the operation of the cooperative. Fourth, draft the articles of cooperation. Here you indicate the name of the cooperative, its members, terms of existence and other pertinent description about your cooperative. Fifth, secure bond of your accountable officers, normally the treasurer, or the treasurer and the manager. The amount of the bond is to be decided upon by the Board of Directors, based on the initial network of the cooperatives which includes the paid-up capital, membership fees and other assets of the cooperatives at time of registration. Sixth, register your cooperative with the Cooperative Development Authority (CDA), you must submit four copies each of the Economic Survey, By- Laws , and Articles of Cooperation and Bond of Accountable Officer(s). In every step, you may consult the CDA. The CDA emphasizes education as a key to the success of cooperatives. Who May Become Members of a Primary Cooperative?

o o o o o o

If you are a Filipino of legal age, you can be a coop member if you meet the qualifications prescribed by the coops by laws. The board of directors act on application for membership. A member may exercise his rights only after having paid the fees for membership and acquired shares in the cooperative, A cooperative has two kinds of members; regular members and associate members. A regular member is entitled to all the rights and privileged of membership as stated in the Cooperative Code and the coops An associate member has no right to vote and to be voted upon and is entitled to such rights and privileged provided by the

What are the Kinds of Membership in the Cooperative?

by- laws. cooperatives by laws. What is the Minimum Number of Members in a Cooperative?

Fifteen (15) natural persons of legal age who are citizens of the Philippines.

Can Government Officers and Employees Join a Cooperative? Yes, provided that:

o o o

Any officer of the government of the CDA shall be disqualified to be elected or appointed to any position in a cooperative; Elected officials of the government, except barangay officials, shall be ineligible to becomeofficers and directors of Any government employee may, in the discharge of his duties as member in the cooperative, use official time provided that

cooperatives; and the operations of the office where he works are not adversely affected. What is an Economic Survey? An economic survey is a general statement describing the structure, purpose, economic feasibility of the proposed cooperative, area of operation, size of membership and other pertinent data. It, in fact a project feasibility study. The structure describes the kind of

cooperative being set, up whether it is primary, secondary or tertiary and whether it is a credit, consumer transport or any other type of coop.

The purpose defines the primary, secondary and other objectives of the cooperative. The area of operation merely indicates the general merely indicates the geographical or sectoral of the coop. For example, a cooperative may operate in, say Caloocan City; or it may operate in a certain sector like farmers. Size of membership is important so as to set limits to the coops scope of operation. This is closely related to cooperative structure.

The most important part of the survey is the economic feasibility. Here, the prospective coop members estimate the income and expenses of the cooperative. It makes a projection of the possible growth pattern of the cooperative certain period, probably three (3 ) years, and how this growth generates income and incurs expenses. It tries to anticipate obstacles and constraints and make allowance for them. What Are Cooperative By-Laws? By- laws should are the set of rules that determines how a cooperatives is to be run without confusion.

In general, by-laws should be consistent with the provisions of the Cooperative Code of the Philippines (RA 6938). The by-laws include:

o o o o

The qualifications for membership; how they are acquired, maintained and lost; The rights and obligations of members; The condition for transfer of a share of interest; The rules and procedures covering agenda, time, place, and manner of calling, covering , conduct meeting, quorum

requirements, voting system, and other, matters related to the business affairs of the general assembly, board of directors, and committees;

o o o o o o o o o

The general conduct of the affairs of the cooperative , including the powers and duties of the general assembly, board of The manner in which capital may be raise and purpose for which it can be utilized; The mode of custody and investment of net surplus; The accounting and auditing systems. The manner and limitations of loaning and barrowing, including limitations; The methods of distribution of net surplus; The manner of adopting, amending, repealing, and abrogating by-laws; A conciliation or mediation mechanism for the amicable settlement of disputes among members, directors, officers and Other matter pertaining to the purpose and activities of the cooperative.

directors, committees and the officers, and their qualifications and disqualifications;

committees; and

What does The Article of Cooperation contain? The Article of Cooperation is a duly notarized document that legally binds all the signatories in the formation of a cooperative.

It should contain:

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The name of the cooperative which shall include the word cooperative, e.g. Sta. Maria Multi-Purpose Cooperative; The purpose of the cooperative and scope of business; The term of existence of the cooperative (not more than 50 years);

o o o o

The area of operation and the postal address of the registrants; The common bond of membership; The list of names of the directors who shall manage the cooperative; and The amount of its share capital, the names, and residences of its contributors and a statement of whether the cooperative is

primary, secondary of tertiary in accordance with Article 23 of R.A 6938. How To Manage Your Cooperative By organizing and registering a cooperative, you have taken the first steps toward helping prospective cooperative member make fuller use of their resources. The next steps requires a certain knowledge of management, of the provisions of laws affecting cooperatives, and most importantly, husbanding and channeling the coops assets into productive investments so that they will grow. Here are some basic facts you have to know about managing and running cooperatives profitably. Does A Cooperative Follow A Basic Organizational Structure? Yes. Your cooperative will need at least the following for its day to day operation.

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General Assembly Board of Directors Set of Officers Committee System Hired management/ paid employees

What Is The General Assembly? The General Assembly is the highest policy-making body of the cooperative and is the final authority in the management and administration of the affairs of the cooperative.

It is composed of members who are entitled to vote, duly assembled and constituting quorum.

The general assembly holds at least one meeting a year; the date of the meeting is fixed in the by laws, or within 90 days after the close of each fiscal year.

For newly registered cooperatives a special general assembly meeting must be called within 90 days from the date of approval. What Are The Powers Of The General Assembly? The General has the following exclusive powers which cannot be delegated:

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To determine and approve amendments to the articles of cooperation and by laws; To elect or appoint the members of the board of directors, and to remove them for cause; To approve developmental plans of the cooperative; and Other matters requiring a 2/3 vote of all the members of the general assembly

What Is The Board Of Directors? The Board of Directors is the body that formulates policies, directs, supervises and manage the business of the cooperative.

It is composed of five (5) to fifteen (15) members elected by the general assembly.

Their term of office is determined by the laws of the cooperative. A term of office must not exceed two years. Also no director can serve for more than three (3) consecutive terms.

The board of directors must hold monthly meetings, unless the by laws say otherwise. Special meetings may be called any time by the chairman.

Directors cannot attend or vote by proxy at board meetings. Who Can Be Members Of The Board Of Directors? All regular members who meet the qualification and none of the disqualification set by the laws of the cooperative can be elected to the board of directors. How Are The Officers Of The Cooperative Chosen? The board of directors elect among themselves only the chairman and vice- chairman.

Then they either elect or appoint the other officers needed by the cooperative, such as the treasurer who takes custody of all the moneys, securities and papers and maintains complete records of its cash transactions and secretary who keeps the records of the cooperative. What Are The Committees Needed By A Cooperative? Through the bylaws, a cooperative may be form any committee it thinks necessary for its operation.

An executive committee may also be formed. The board of directors appoints its members and may, through a majority vote, delegate powers to it.

GUIDELINES FOR THE REGISTRATION AND ADMINISTRATION OF INCENTIVES UNDER E.O. No. 226 OF INFORMATION TECHNOLOGY SERVICES
I. COVERAGE

The following Information Technology projects offering service both in the domestic and international market are eligible for BOI registration: 1. IT Services IT-enabled Services ICT Support Services
II. DEFINITION OF TERMS

IT-Services include activities such as IT project management, application systems development, applications services providers, web development and management, database design and development, computer networking and data communications, software development (system software, middleware, application software), and ICT facilities operation/management.

2.

IT-enabled Services refer to business lines that can be transformed through the means of information technology. These include activities such as business process

outsourcing and shared services, engineering design, animation and content creation, knowledge management, remote education, market research, travel services, finance and accounting services, human resource services, and other administrative service (e.g., purchasing).

3.

ICT Support Activities cover activities such as research and development of high value-add ICT products and services, education and manpower development in ICT, incubation of IT service providers, provision of Internet services, community access, and electronic governance in support of GISP.
III. REGISTRATION UNDER E.O. 226

A.

QUALIFICATIONS: Individuals, partnerships or corporations interested to engage in Information Technology Services (ITS) not yet registered and the expansion of existing BOIregistration/non-registered projects may qualify for registration under E.O. 226 and shall be eligible for incentives thereof. All ITCS projects will be considered preferred areas of investments for the next four years starting from the effectivity of the 2001 IPP. Since the activity is listed in the IPP, for Filipino entities (at least 60% Filipino-owned), export commitment is not required. For foreign entities (more than 40% foreign-owned), at least 70% of total services rendered must be exported. If pioneering, 100% of services rendered to the domestic market. Provided, however, that the firm complies with the requirement under the Foreign Investments Act that the paid up capital is at least US $200,000 which will be lowered to US $100,00 if (1) the project involves advanced technology as determined by the Department of Science and Technology or (2) hires at least fifty (50) direct employees. PROCEDURE FOR REGISTRATION: The application shall include beside the information required under BOI Form No. 501 (Application for Registration), a project feasibility study, All application for registration shall be in accordance with Executive Order No. 226 and its implementing rules and regulations as well as with Investments Priorities Plan.
PIONEER STATUS

B.

C.

To be eligible for pioneer status, a project must comply with any of the following:

It must utilize new or untried technology. It will introduce a major innovation in software development. The project cost should be a least P100 million.

D.

NEW AND EXPANSION PROJECTS

To adopt policies on project type as defined under the 2001 Investment Priorities Plan for purposes of classifying projects as new or expansion.

IV.

ADMINISTRATION OF INCENTIVES
1.

All registered enterprises engaged in the eligible IT related projects shall be entitled to the following incentives:

a.

Income Tax Holiday Art. 39 (a) of the Omnibus Investments Code of 1987 fully exempts a new registered firm from income taxes levied by the National Government for a period of six (6) years from commercial operation of pioneer enterprises and four (4) years for non-pioneer, with possible extension of two (2) years but not to exceed eight (8) years. A bonus year may be granted each of the following cases: 1) the ratio of total imported and domestic capital equipment to the number of workers for the project does not exceed US$10,000 to one (1) worker; or the net foreign exchange savings or earnings amount to at least US$500,000 annually during the first three (3) years of operation; or

2) b.

226

Employment of Foreign Nationals under Article 39 (h) of E.O.

The provisions of the Revised Joint Circular of the Department of tourism, Department of Labor and Employment and the Bureau of Immigration and Deportation on the foreign nationals in the functions specified hereto, however, shall be strictly observed. c. d. 2. Additional Deduction on Labor Expense Unrestricted Use of Consigned Equipment

If registered projects are located in a less developed area as identified in the Investment Priorities Plan, the firm shall be granted pioneer incentives, i.e., an Income Tax Holiday (ITH) for six (6) years.

V.

MONITORING AND SUPERVISION

In accordance with the provision of E.O. 226, registered enterprises shall strictly adhere to the general and specific terms and conditions of registration. Non-compliance shall be subject to fines and penalties in accordance with Rule XXVIII of E.O. 226 Implementing Rules and Regulations.

Step One: Gain the Knowledge If you're going to be in business, you must know how to keep score. To gain this knowledge will require that you go to school to learn both accounting and computer software that is used to support your particular business. With this knowledge, you can talk intelligently about your accounting needs with employees, bankers, and your own accountant. The financial matters you will confront in your own business are little different than those of large corporations. Financial tools, coupled with an understanding of how to use them, will assist you in the proper management of your business. Without this understanding and without a dedicated commitment to using financial tools, you reduce your chances of success.

Your business will be judged by the classic financial measures: the balance sheet, the profit and loss statement, and the cash flow statement. These three measurements will define the financial health of your company. In this session you will learn how: The balance sheet tells how much the business is worth. The profit and loss statement tells if your business is profitable or not. The cash flow statement predicts your cash balances into the future.

As a business owner, you need to feel comfortable with the values portrayed by each measurement. Understanding these three measurements will whet your appetite to learn more, which in turn will lead to your strategic use of credit and ability to make choices tying operational activities to the best use of funds. They will help you make better decisions. You will also need to gain knowledge of accounting in order to evaluate your competitors or businesses you might wish to acquire (or be acquired by). While information about companies may be obtained from stock brokers or interviews with key executives, the best source to learn about your most successful and publicly owned competitors is to read their annual reports. You will need to understand accounting to draw intelligent conclusions. Accounting courses at your local community college will give you most of what you need to know. Step Two: Select an Accountant You should consult an accountant before you start. This could be a Certified Public Accountant (CPA) who is a sole practitioner or a large accounting firm that can offer expertise in many areas (and whose fees tend to be higher). Another type of accountant is an "Enrolled Agent" (EA). EAs must pass a taxation test administered by the Internal Revenue Service. You will need to decide how your accountant will prepare your annual financial statement.There are several levels of audit to select from. They are listed in our session 1 on Financial Controls in Building My Own Business course. At present, there are no national certification standards for bookkeepers like there are for CPAs or EAs. So, it may be best to look for referrals when selecting a bookkeeper. Many CPAs and EAs will refer you to people they have confidence in to help you with your accounting needs. Bookkeepers range from those who only pay bills or process receipts to "full charge" bookkeepers who can summarize bookkeeping activity for your CPA or EA to prepare tax returns. On the other hand, if you want someone to advise you on business organization and prepare income and payroll tax returns, you will probably want a CPA or EA to help you. The more "routine" bookkeeping you know and do yourself, the better it is, because you can then afford a higher level of expertise.

You will need to determine what accounting software program will work best for your business and your accountant can help decide this. Some good ways to determine this:

Ask others in your industry whose judgments you trust about their experience with software. Look for ads in trade magazines for software and visit booths at industry trade shows for ideas. For QuickBooks users, have a look at MyBizHomepage which offers a great tool allowing users to view important financial snapshots of their business through any Web browser. Click here to learn more.

Payroll accounting and reporting is increasingly complex. If you will have employees, look up the "Payroll Accounting Service" providers in your area. Your accountant may have a recommendation. This complicated function can be outsourced at a reasonable cost. Ways that your accountant can help in dealing with your banker: Sooner or later, you will need financing in addition to your start-up sources. It is important to establish banking relations BEFORE future needs arise. Your accountant can help you:

Prepare cash flow control statements that will estimate what the cash needs of the business will be in months to come. Prepare a personal financial statement, including a balance sheet of your personal assets and liabilities along with a statement of income and expenses showing how much cash flow you generate each month. Banks will usually require a personal guarantee. Locate a banker. This can be helpful because the banker has had prior dealings with the accountant. Polish your business plan for your banker. Organize as much information as possible including financial statements in a neat and orderly fashion.

Methods of Accounting Before you start, you will need to decide what form of accounting your business will use. There are two major types:

Cash Basis Method: This is what the name implies; you recognize income when you receive the cash and you recognize expense when you pay the bill. Most service businesses operate on the cash basis because it is much simpler to understand. Accrual Method: Here you match revenue with expense regardless when the cash may or may not be collected. If you sell a product to a customer and he doesn't pay you for 30 days, the sale is recorded in the books on the day that you made the sale. When the money comes in the "accounts receivable" is then turned into cash. The same with expenses: if you incur an expense on one month but don't pay until the next month, the expense will be recognized in the month in which you incurred the expense. If you're in manufacturing or deal with inventory, the Internal Revenue Service generally requires that you be on the accrual basis.

Keeping Separate Business Records Even in a small business you should, before you start, set up a business account even if you're a sole proprietor. It will be important to keep your business records separate from your personal records. This will make it easier for you and your accountant to pull records together for income taxes when the time comes. Your accountant can help you prepare and set up your company

accounts, including establishing your checking accounts and or savings account for operating your business. Tax Liability Issues There will be a number of tax liability matters that you and your accountant will need to deal with:

Income Taxes. If you start as a sole proprietor you will be reporting your business activity on a schedule that is attached to your IRS form 1040, called Schedule C. Not only will the sole proprietor pay income tax on business income, but the sole proprietor will also pay social security tax on this income. This is reported as a separate item on the income tax return. The social security tax can be quite a surprise for the new small businessperson who does not expect to pay roughly 15% of net income for social security tax on top of the income tax. Operating as a partnership or LLC does not relieve a partner of the obligation of paying selfemployment tax. Your accountant can help set up estimated tax payments that will lessen the burden of your final tax bills as well as avoid penalties for not paying taxes as you go along. Payroll Taxes. If you have employees, your accountant can help you apply for necessary state and federal payroll numbers that you will need to file payroll tax returns. The federal number is called a "federal employer identification number" or FEIN, and these are obtained by form SS-4. Also, in every state there are local and state taxes that are required. For instance, in California you need to apply for a state identification number that will establish an account for you to pay the state withholding tax that you withhold from employees and the state disability insurance monies withheld. There is also a state unemployment tax that you pay. There may be other taxes that may be unique to your local situation.

Financial and Technical Assistance Many times, there are sources of financing and technical assistance available to start-up businesses that are given by various organizations and agencies that wish to spur the development of small business. Your accountant may or may not be familiar with these sources, but this might be a question you would pose to a prospective accountant before you hire him or her. Financial and technical assistance may be available from:

The Small Business Administration (SBA) SBA-guaranteed loans to businesses, handled through banks Local community banks, funded by the federal government Tax incentives available for hiring minority employees Trade organizations Service Corps of Retired Executives (SCORE), which is a nonprofit organization whose goal is to help small businesses become successful. SCORE offers workshops and seminars on various business topics and may give you the opportunity to talk to someone who has been down the same road before.

Internal Controls "Internal controls" refers to what is needed in the handling of funds, where money in the form of cash, checks or credit cards, is exchanged for goods and services. The goal is to make sure that the business receives all of its income without any of it being siphoned off by waste, fraud, dishonest employees or just through carelessness. Even a business that is healthy in all other respects can be very vulnerable to failing from the inside through lack of internal controls. Your accountant can help set up appropriate controls for your particular business. Damage control planning is an important part of internal controls. You will need to be prepared for adversities.

If you are in a manufacturing or retail business you will need to set up inventory policies and controls because inventory, similar to cash, can disappear very rapidly through carelessness or employee dishonesty. You need to have safeguards in place very early on in the process by setting up controls as to who can sign for goods and services and who controls the release of goods and services out the door after the processing has been completed. You are probably getting the idea by now that in your selection process of retaining an accountant, it is a good idea to get one with experience in your industry. Quarterly Returns Quarterly returns are primarily payroll tax returns and sales tax returns. Start-up businesses need to file quarterly payroll tax returns and send the money that has been withheld from the employee's check as well as the employer's share of social security taxes to the federal government. Likewise, state income taxes that are withheld and state unemployment tax that the employers pay to the state must be accounted for. These are matters you need to get right from the beginning, so that these taxes are paid in the appropriate time frame and you're not penalized for late payment or nonpayment of your tax obligations. It is a common occurrence for start-ups to be short of cash. And it is very tempting to hold off paying certain obligations to conserve cash. Yet, you should not fall into that trap with your government obligations because governmental agencies have little patience with delinquent taxpayers. Similarly, the sales tax money that you collect, in states that charge sales tax, needs to be forwarded to the state, either on a monthly or quarterly basis depending on the volume of your sales. Quarterly reports will be required to show how much you have collected and that you have submitted this money to the state in a timely manner. Bank Account Reconciliation We suggested earlier that you set up separate business accounts to make it easier to track expenses and business income. This bank account needs to be reconciled at least once a month when you receive your bank statement. You can save money by learning to do this yourself, and your accountant can teach you if you don't know how. Reconciliation refers to taking the balance in your checkbook and reconciling or mathematically comparing it to the bank balance. You must also take into account any difference in those two balances that are due to checks that you have written that have not yet cleared the bank. If this is the case, your checkbook balance will be lower than the bank statement because the bank has not yet seen some of the checks you have written. So it is important that these outstanding checks get subtracted from the bank balance and the resulting number be compared to the number in your checkbook. When the two match, we say the account has been reconciled. Employee Benefits Policy As you add employees to your business, you will need to decide

How many hours people will work. What holidays they are entitled to. What your vacation policy might be. If you elect to cover employee medical expenses or provide medical insurance, you will need to give some thought to what type of policies you will provide. This might be an HMO, PPO, or pick your own doctor policy.

What sick leave policy to offer. Will you pay employees when they are sick or will this time be considered unpaid time off? Be sure to refer to the Fair Labor Standards Act when making this determination. There are different requirements for hourly vs. salaried employees.

There are a number of sources to give you some help in deciding these issues:

Start with your accountant and lawyer. Your own experience in your particular industry will help determine your policy. What has worked for similar companies in the past is very likely a good way to consider going with your own company so you are competitive with other firms in your industry. Organizations such as SCORE can be helpful in determining policies and procedures.

Step Three: Do Your Own Bookkeeping! Up to now, you have consulted with an accountant and have gone to school to learn basic accounting. The next step in getting to know how accounting and cash flow works is to do your own bookkeeping in your start-up mode. This is invaluable because as you do the bookkeeping and understand the records that are involved, you are in a much better position to bring in employees and train them as the business grows. You can then devote your time to more of a manager level. If you have a willing spouse or trusted friend, they can be invaluable in doing the bookkeeping. If you are doing your own bookkeeping, it is very important that you choose the right software. A good program that's easy to use can help make your life a lot easier. The two best programs on the market are Quickbooks andPeachtree. We have an agreement for 20% off Quickbooks. Making entries into a software program does not require a trained bookkeeper but it is important that you, the business owner, have a full understanding of double entry accounting. There is one aspect of bookkeeping that you could consider delegating: payroll and payroll reporting, which can be handled by Payroll Service Providers at a low cost. If you are in a partnership, it is especially important that you have knowledge of the accounting as well as what is happening in the other areas of the business. Remember that in a partnership, all the partners have authority to commit to the partnership. If a partner in charge of accounting doesn't do a good job, it can affect all the partners. Major Financial Statements and Software Balance Sheet The balance sheet is a "point in time" statement. Think of it as a snapshot. It is a listing of all of your assets as well as your liabilities, and the difference between these two numbers is your equity in your business. You will see in the example that the balance sheet is divided into two major sections. The first section is "Assets." The second section is "Liabilities and Owner's Equity." The general order of a balance sheet is to go from the most liquid to the least liquid. In other words, under "assets," you see the heading "current assets" and the first item is cash, because cash is the most liquid of your assets. After cash are receivables, representing money owed you from customers. When you receive the money, the receivable turns into cash. Next in assets are "inventories." Since inventory is not as liquid as either cash or receivables, this falls below them on your balance sheet. Following current assets are property and equipment that are typically carried at cost. You will also notice "depreciation" on a balance sheet prepared by an accountant. Depreciation is a non-cash expense and is nothing more or less than an attempt to record that these assets go down in value over time. IRS Publication 946 "How to Depreciate Property," contains information that will give you a better understanding of depreciation.

One reason this particular financial statement is called a "balance sheet" is that assets always equal your liabilities and owner's equity. This is called double-entry bookkeeping, and is the type done in nearly every business. The reason double-entry bookkeeping is the accounting gold standard is that it serves as a check to make sure a transaction has been properly recorded. For example, let's say the first thing you buy is a desk. You have an asset of office equipment. If you paid cash, you don't owe any liabilities so your interest in that desk is called your equity (on the other side of the ledger). Similarly, other transactions will give rise to an increase in assets and/or an increase in liabilities or equity. For example, looking at our balance sheet example under current liabilities (again, from most liquid to least liquid) your account payables are the first item listed. After that there are items called "accrued liabilities," which usually refers to payroll taxes and sales taxes that may not be due for another month or two. Also under current liabilities is debt that is due within a year. So, the current 12 months of payments for equipment would be shown as a current liability. Following that we have long-term debt, which are items that are due after the current year. Following total liabilities is the section called "owner's equity" which is the owner's interest in the business. If we take all the assets of the business, $37,000, and subtract the total liabilities, $18,000, there is a difference of $19,000. Of this $19,000 amount, $13,000 is from past income and $6,000 is from income earned during the current accounting period, thereby balancing out $37,000 for both assets and liabilities and owner's equity. When bankers look at a financial statement, they are interested in various financial ratios. Ratios help indicate the financial strength of a business and how the business can handle payback of loans. For example, current ratio is current assets divided by current liabilities. If your current assets are less than your current liabilities, a red flag will go up because it would indicate a risk of insolvency during the present year. Various industries will have different levels of ratios. You can track your ratios with others in your industry to see how your business compares. Your banker will probably be most interested in your owner's equity. Income Statement The income statement (also called the "Profit and Loss" statement), unlike the balance sheet, covers a period of time, usually monthly or quarterly. Usually year-to-date figures are also presented to show how the business is doing during the current accounting year. In the example shown here, the financial statement covers a six-month period and shows the activity for the current month as well as the year-to-date total of the prior five months plus the current month, for a total of six months. The income statement and the balance sheet tie together. Look back on the balance sheet and you'll see current earnings of $6,000. The income statement shows this same $6,000, which was the profit for the last six months. Your income statement will disclose valuable information. You will see a section for sales as well as a breakdown of all your expenses, leading down to the net profit for the period. The more current your financial statement, the greater will be its value. If you see a bad trend developing, you can take action at once. Computer programs can produce financial statements with a keystroke, which is why you need to acquire the computer skills and software that are appropriate for your particular business. Cash Flow Control Cash fuel drives you in business just as jet fuel keeps a plane aloft. A pilot is very careful to accurately predict the fuel requirements. You should place the same importance on cash flow control because if, at any point in the future, you run out of fuel, like the pilot, you've got a BIG problem.

Cash flow control is a simple method of projecting your future needs for cash. It is an income statement covering future periods of time that has been changed to show only cash: cash coming in and cash going out and what your balance of cash is at the end of designated periods of time. This is a great tool because you can predict your future needs for cash before the needs arise. In cash flow control, for each of a number of intervals of time, you make conservative estimates for your future sources of cash (IN) and future expenditures (OUT). Use low, conservative figures for IN items and use high estimates for OUT items. For the initial period, say a month, you start with the cash you now have. To this you add IN items and subtract the OUT items, which results in the cash at end of the month. The cash at the end of month becomes the starting cash for the next month. The attached cash flow control spreadsheet shows that ending cash for this first period becomes the starting cash for the second period. The ending cash for the second period becomes the starting cash for the third period, and so on. Your projection should be made for an upcoming 12-month period. The projection will be a useful tool for you to arrange financing before it is required by showing your banker that you are sophisticated enough to provide for future cash in order to preserve liquidity. You can use this simple cash flow format to make up your own cash flow projection for the business you have in mind. It is so simple, yet can be so valuable! Accounting and Cash Flow Punch List

Prepare frequent financial statements, at least monthly or even weekly. Keep track of key income statement percentages. If you're in manufacturing, your cost of goods sold percentage should be relatively the same as competitors in your industry. Compare your income statement with prior periods. To start with, you won't need certified financial statements. Accountants have three levels of statements: certified, reviewed and compiled. For most startups, the compiled type will work; that is, your accountant prepares the financial statement with a letter stating that the numbers are based on the information you have provided. From the beginning, maintain good internal controls. Learn from the practices used in your industry to prevent dishonesty and shrinkage. Shrinkage includes shoplifting and other types of stealing, which results in the "shrinkage" of your inventory. Do not delegate the authority to sign checks or purchase orders. Don't use money that you have withheld for payroll taxes or sales taxes for other purposes. You will be a trustee of funds belonging to the Internal Revenue Service, Social Security Administration and your state's sales taxing authority. A "payroll service provider" can be used to manage these responsibilities. Keep in mind that liquidity is not the same as making money. You can be making a profit and still go broke by running out of cash. Learn and practice cash flow control. Look ahead and write out your list of projected financial requirements including premises, equipment, staff and working capital. Arrange for financing well before the need arises. THE TOP TEN DON'TS 1. Delegate the authority to sign checks to

Top Ten Do's and Don'ts THE TOP TEN DO'S 1. Learn basic accounting before you go into

business. Go to school if necessary. 2. Consult and retain an accountant familiar with your industry before you start. 3. Determine what accounting software program works best for your business. 4. In the beginning, do your own bookkeeping to gain knowledge of your accounting. 5. Set up inventory policy and internal controls including safeguards against dishonesty. 6. Reconcile your bank account at least once a month when your bank statement is received. 7. Maintain and update your cash flow control spreadsheet monthly. 8. Plan to outsource your payroll and payroll reporting to a payroll service provider. 9. Prepare financial statements at least monthly. 10. Keep your business records separate from your personal records.

anyone. 2. Use money withheld for payroll taxes or sales taxes for other purposes. 3. Commingle personal assets with your business assets. 4. Delegate cash flow projections--your lifeline to liquidity. 5. Be optimistic in sales projections or conservative in expense projections. 6. Rely on verbal agreements on any important matter including purchases. 7. Pay an invoice without matching it to your purchase order. 8. Delegate your relationship with your lending sources. 9. Wait to establish credit sources until you have a need for financing. 10. Overlook seeking advice from your accountant and lawyer on important financial matters.

Business Plan for Session 11: Accounting and cash flow The Distribution of Law Firm Profits by Joel A. Rose Distribution of profits is frequently one of the most potentially disruptive experiences that partners or shareholders have to face. It is axiomatic that no single compensation plan will be universally accepted and agreed to by partners in firms no matter how closely these legal organizations may resemble each other in size and type. The best compensation plan for any law firm is the one that creates the least amount of discontent, and has the highest grade of fairness among and between the partners. Philosophically, every law firm has a method for compensating its lawyers. Many compensation plans are purely subjective in nature, while others are highly structured. Most plans are a combination of the two. A compensation plan that is well-conceived and skillfully implemented should: (1) enhance the ability of the lawyers to provide a high quality of legal work; (2) reward extraordinary performance in terms of business developers, over-achievers (production and collection) rising young stars and lawyer managers (legal and administrative); (3) promote an atmosphere conducive to client service; (4) attract and retain qualified lawyers; (5) encourage efficiency through division of skills and utilization of the expertise within the firm; and (6) improve the economics of the practice.

The rules of the compensation plan should be understood by the lawyers before the beginning of a new year. The compensation plan should be supported with reliable records that are comprehensible and can be made readily available. The plan should be fairly administered and its rules and results should be evaluated appropriately. Any compensation plan is only as good as its implementation. A good plan can be badly handled, and a bad plan can be handled reasonably well by fair-minded attorneys. Over the years, a number of plans have evolved for the distribution of income to the partners or shareholders of law firms. It is advantageous to examine certain principles of selected plans that have stood the test of time and worked well for the firms which have used them. Decisions To Be Made For most firms, certain basic decisions have to be made for the current operation of their plan. As the firm matures, the nature of the plan and its elements may change. Among these basic decisions are: 1. Who or what body will make the decision on allocation of income? 2. Will the allocation be based on percentages or units or participation? 3. Will the distribution be prospective (distribution percentages or units of participation determined in advance of the year) or retrospective (distribution percentages or units of participation determined when year-end results are known)? Or will an initial percentage be prospective and a specified amount of dollars or percentage be withheld for end-of-year distribution based on retrospective considerations? 4. Will the firm determine that the profits to be distributed will consist of all that is left over after overhead is paid, or will profits be considered everything after a predetermined draw (or salary equivalent) is paid to partners or shareholders in addition to overhead? 5. Will the firm have a class of non-capital partners whose salary and bonus will be exempt from the final distribution of income to general partners or shareholders? Or will there be a gross percentage to be divided among general partners and other pools to be divided among other partners? (The term partnership is used to represent either a partnership or a corporate form. The term partner is used for a partner or shareholder). 6. Will hourly rates be periodically established or reaffirmed by or for each partner, associate, or other direct producers of income - law clerks, legal assistants (non-lawyer professionals or paralegals) and sometimes secretaries - so that an equitable base for billing to clients and the resultant gross billings allocation for all partners will be equitably established? Partners Functions Virtually all plans consider that partners perform the functions that create and maintain a continuing, vital entity. In simplistic terminology, one firm designates those persons who perform these functions as: finders (or rainmakers), who originate the business from a clients source; minders (who maintain the business originated by others; grinders, who do the work on client matters; and binders who provide for the management functions, engage in community or bar activity, attend and comment on continuing legal education, and enhance the firms ability to obtain business through its acquired reputation. In addition, past earnings records, the competitive legal market for younger partners or outstanding specialists, and unusual retirement, death, or capital provisions may have a bearing on the judgment applied in income distribution.

The following are examples of selected plans: Straight Percentages or Unit Systems: (1) Percentages or units of participation without formula, prospectively determined (a smaller number handle this retrospectively with predetermined draw) is the most commonly-used system, backed by statistics, with a committee making the decision. The committee may or may not submit this for partnership approval or rejection for further review. These committees have recently broadened the age range of membership. They are now more often selected by the partnership, often with preselected nominations. The committee generally uses a sounding-out process. Some have all partners participate initially in the decision making, and many interview all partners before the decision in made. A few use a secret vote by all partners that is submitted to the committee. (2) Using a percentage with float is the same as (1) above, except that a float or reserve ranging generally from five percent to ten percent is used, based on the years performance. (3) A third alternative is similar, except that one owner (or more) or a continuing senior partners committee makes the decision. (4) Many highly-institutionalized firms have moved from one persons or senior partners domination of allocation to a committee of broadened age membership. There is now a heavy use of computerized or well-organized manual systems of statistics. Business origination may not be a statistic, but the firm must be award of who brings in business or controls business. Heavy attention is given to client responsibility and outstanding lawyers. The firm may or may not give attention to firm or department management. Statistics are developed to show what major client business results from which fields of law, and seasoned judgment is applied to allocation information and past records of compensation. There is careful planning of income and expense budgets; attention is given to the outside activities of lawyers, firm-wide management of recruiting, appraisal of gaps in legal organization at all levels, assessment of progression needs stemming from the aging process; a watchful eye is kept on new trends and legislation and what other major firms are doing. Formula Systems Statistical plans are frequently calculated according to mathematical formulae based upon the allocation of credit. Weights may be assigned for various elements as follows: three for business origination (permanent); six for work done; and one for profitability. Management time and consequential time may be weighted. Interest is provided on capital accounts. More than one years figures are used. Business origination is transferred by assent, or on death, disability, or retirement, or the best interests of the firm. The system places a heavy emphasis on the continuity of management, particularly with regard to the business origination weighting and the interpretations of the rules of the system.

There may be variations of the formula. For example, business origination may be reduced in weight from three to one and a half, while work done is increased to eight and a half, for a total of ten. Some variations split business origination by agreement or decisions into subfactors, such as for maintaining clients or for case responsibility. Management time may be weighted. There may be a modification in percentages based on hard cases, handed-down large estates, or bar association activity in the interests of the firm and its reputation. A third alternative is an equal sharing plus formula or statistical information plan. Under this formula, x percent of the net income is shared equally among all partners, and the remainder is distributed as determined by a judgment on statistics and subjective factors. Combination Plan Another alternative is a combination plan, which might operate according to this formula: A. Work incentive - 50 percent of distribution: To keep every partner a working partner, a proportion of each paid bill is based on the time-dollar contribution. B. Group incentive - 20 percent of distribution: To provide each partner with an interest in the performance of all others, the seniority in terms of years as a partner, up to a given limit, is multiplied by average compensation for past x years. C. Business development incentive: 20 percent of distribution: To make every partner business conscious as well as work conscious, actual data on business produced by the individual or the judgment of the committee may be used. D. Incentive to use associates: five percent of distribution: Stimulates partners to delegate work, based on data on work delegated and on supervision of associates. E. Contingency fund: five percent of distribution: Sparingly used to compensate for extended illness, public service, hard cases, firm business, and outstanding achievement that reflects credit on the firm. The unappropriated portion is allocated in proportion to distribution under the first four items of the formula. Profit Centered - Highly Departmentalized In rare cases, a firm may be able to have a judgment by one partner or a committee on economic results from each department head. Department heads recommend lawyers within their departments. Subjective judgments may be made as deemed pertinent. Gross receipts, overhead, and profitability are allocated to each department. Multiples of Lowest Partners Percentage A cap is placed on the highest percentage at four or five or other multiple times the points of the partner receiving the lowest percentage. Statistics and other pertinent factors are considered. Each partner is slotted to a relative ranking position. Owners or Dominant Partners

Owners or dominant partners set their own distribution; the rest is allocated to other partners. Usually this may occur with a highly profitable practice derived almost entirely from the practice of one, two or three partners. Heavy capital accounts are usually contributed by the owners. Individual Achievement With a highly-developed system, each partner buys the time of other partners, associates, and paralegals who are direct producers of income. Each partner is credited with his share of the gross receipts. The overhead of partners, associates, and paralegals is directly apportioned, and the general overhead is allocated or directly applied. The managing partner may be provided with a specific supplement. Profit Pools for Senior Associates and Non-lawyers Professional corporations automatically may provide a profit-sharing situation for all personnel by the establishment of a profit-sharing trust or pension plan. Private practice firms in some cases have established an incentive for associates in the form of a percentage of profit or pool to be divided among this group in accordance with established criteria. Some firms have established a pool for non-lawyer participation. Points to watch out for when changing a Profit Sharing or Compensation System As a firm grows in size, the need for formal structures increases so that partners can understand the way things are done. In many small to medium sized firms, changes to profit-sharing mechanism can be made somewhat informally, with all partners involved in the discussions. Once a firm gets above a certain size (around 20 to 30 partners), changes need to be made in a more structured way. Whatever, the size of the firm, however, any effort to change a firms profit sharing or compensation system and the allied performance Management System give rise to a number of points:

For any initiative to succeed, there must be a widespread and deep-rooted sense of dissatisfaction with the status quo, or at the very least a strong feeling in the firm that change is needed. The system should be firmly rooted in and linked to the firms strategy and objectives. The firms leadership should therefore have a clear vision for what the desired end state or conclusion might be, and should be careful to ensure that partners share this vision. Such initiatives must neither become one mans crusade, nor left to one person to have sole responsibility for design and implementation. Whilst there may be partners who will oppose, reject or even subvert any attempt to change the system, success will depend not just on the acquiescence and sympathy of the majority of partners, but on there being a group of partners who are prepared to put in time and energy to support and share the objectives. Unless the current system is fatally flawed, it is often easier to move to a system which is seen to be sequential and a natural flow from the previous system. To move, for instance, from an extreme Eat-What-You-Kill system straight to a pure lockstep system would be extremely difficult to achieve. It is difficult to introduce a new system piecemeal, but some degree of incremental change can be conducted as part of a staged process. The establishment of new partnership criteria and expected partner behaviours can often precede the introduction a new compensation setting system Whatever profit-sharing or compensation system the firm has in mind, initiatives need to be in place to encourage a sharing team-based culture, which emphasises the gains and benefits to be had from diversifying opportunities and spreading risk amongst a group of Partners, and

refuses to value aggressive internal competition or anything which promotes individual selfishness and work hogging.

The system for developing partner skills and competencies - and ultimately for rewarding the development of such skills - should settle only for the pursuit of excellence, recognising that to be content only with the pursuit of competence will lead to inevitable decline. Communication, before, during and after the project is critical. The project should ensure that partners understand the whole performance Management Process. Those managing the project should manage expectations, avoiding, if they can, any system that requires overfrequent and repetitive subjective assessments with all the anxiety, loss of time and raised temperatures which are inevitably involved. Once introduced, the design of the system should be amended as infrequently as possible, and as much effort as possible put into fair and consistent implementation and in ensuring that the new system becomes an essential part of the fabric of the firm.

Incremental Change It is clear that there are a great many spokes to the compensation and profit sharing wheel, and few firms will want to embark on an ambitious project to transform all parts of it. Most firms are attempting to find a system which will reward and compensate partners on the basis of their overall contribution to the firms strategic goals based on factors and criteria some of which will be essentially subjective or qualitative. As a summary, and in addition to the choice of the compensation model, firms will need to consider some or all of the following:

Decide and clarify their vision of what the desired end state might be. Define what the firm expects of its partners in terms of the roles, responsibilities and behaviours which will help to drive the firms performance. Establish the criteria for the critical areas of performance or the balanced scorecard. Introduce a clear system for managing partner performance. Establish a methodology for partner development and promotion, including tiers of partnership. Work on a system for judging, scoring and assessing partners particularly in subjective areas of performance. Consider a framework for 360 degree feedback. Draft a whole series of constitutional documents and papers to deal with all the issues including a new suite of Appraisal Documents and changes to the Partnership Deed or Members Agreement.

These projects can be dealt with iteratively and incrementally, provided that they are part of an overall plan. I have seen many firms working hard on elements of many of the above quite separately from any project to change the compensation structure itself. What is quite dangerous is to try to make a shift towards a subjectively assessed system without having first introduced a balanced scorecard or agreed on the firms critical areas of performance and bedded those changes in. Where the firm has already decided on its critical areas of performance, those areas will often need to be revisited to make the criteria as clear and measurable as possible. I strongly suggest, therefore, that the profit sharing system itself is the final change to be made as it needs to be built on the firm foundations of all the other areas listed above. It should also be clear that the new system as such cannot be introduced incrementally, in that you can have some partners on the old system and some on the new. It is however possible to consider a shadow scheme where the old system is used and

the new system is piloted in parallel to see how partners might have been affected by the new regime. Some firms particularly those who are moving from a predominantly lockstep model to a modified lockstep have chosen to introduce a relatively small amount of performance related elements say 5% or 10% of the whole compensation package, so that the effect of the change can be monitored and scaled up over time. One worry about this is that some firms have found that a small amount of performance related compensation can lead to relatively small differences between partners which can lead to both resentment and envy. Before Starting Before starting the project, there are some key questions which the firms leaders need to address. The first of these is to decide whether the partners agree or are likely to agree that the overall issue of compensation or indeed any of the issues listed in the last paragraph - forms a major concern which needs to be sorted out. It is important to see that partners fully and deeply understand all the implications of what the firm is trying to achieve. It is also critical to identify the possible obstacles along the way and what other side-issues might pop up which could derail the project. It is also worth establishing from the start who are likely to support the project and who will object to it. Every firm has a group of opinion formers and if the firm leaders cannot convince them to support and identify with your objectives, your chances of victory will be substantially diminished. Finally, and perhaps most importantly, the firm needs to decide early on whether it is likely to have the time, resources and energy to see the project through in order to avoid embarking on a project which is incapable of being satisfactorily concluded. How firms set about this project will vary enormously from firm to firm. In smaller firms, a greater degree of informality in the process can apply than in larger one. One possible approach is to break the project down into six phases:Possible Project Phases Phase One The managers seek agreement from the partners to launch an initiative. It should be clear by now that any change to a rewards or compensation system will require partners to change behaviour in some way and therefore that partners must agree that in principle there is a need for some change. As mentioned above, there is no point in proposing a major change if partners do not perceive it to be a major issue. Equally, the partners reactions to proposals in due course may well be neutral or unsupportive if they do not have a reasonable level of understanding about the issues and their implications Phase Two The leaders then crystallize their thinking in a green paper which spells out the issues and challenges and clarifies what those issues mean in terms of partner performance and behaviours in the future. The green paper should propose a timetable and some desired objectives and should clearly identify the various options available for the firm. At this stage, the paper should provide sufficient detail to engage the attention of partners and to move them from a superficial understanding of the issues to a deeper and more cognitive level. The leaders should then meet the partners as a whole or in small groups and go through the green paper. These meetings should be fairly informal and should give an opportunity for dialogue. There should however be something of an agenda with particular focus on:

What performance is needed from the partners for the firm to attain its strategy. What the objectives of the project are. What the options for change are and what each means in terms of partner performance and behaviour. Whether the firm needs to build or improve its balanced scorecard or critical areas of performance and how the leaders see this will be achieved. How in broad terms partner performance will be managed and assessed.

What is the transition from the current system to the new or revamped model.

Phase Three The next stage would be for the leaders to get approval to appoint a project group to take the green paper forward and to come up with detailed recommendations in the form of a white paper. The white paper should aim to spell out

All the options which have been considered and why any rejected options have been discarded. The details of what will be required of partners under the new regime, including, if appropriate details of any new or revised performance management system. What this means in behaviour terms. What this means in terms of competence and skills the detailed drafting of a balanced scorecard is an important element here. What the various processes and systems will be like when it is complete. How the new proposals address the flaws in the old. In any form of seniority system what a partner can do to move up on the new system. A sheet showing the position of each partner on the old and new model (with assumptions).

Phase Four Following this, the White Paper can be converted into a suite of documents and voted on or ratified. At the same time, changes can be effected if necessary to the Partnership Deed or Members Agreement. Phase Five There then comes the tricky phase of implementation. Unlike some projects, the introduction of a new system to allocate compensation or remuneration cannot be phased you cannot have some on the new system and some not. But some issues can be phased the introduction of a Balanced Scorecard and a Partner Performance Management system, for example. It is also advisable to get any new performance assessment processes in place and agreed ahead of anything else a pilot scheme can help here. Suggestions for Project Teams and Partner Workshops The Project Team The introduction of all or any of the systems and processes needed to change a compensation system forms a large and time-consuming project. Clearly the management of many stages of the initiative, plus its implementation is crucial. A project team can be most useful in assisting in this. Many such project teams in law firms have a curious habit of emerging without any particular selection process but however chosen need clear accountabilities and commitment. Team members can be selected to provide a balance. A project team needs members who above all know about and understand the problem being tackled, and who both care enough and will make sufficient time to do something about it. It also needs partners with a high degree of power and authority to achieve results. It also helps to have one or two sceptics in the team to keep the group honest and to act as the grit in the oyster. The project must be clearly scoped and have a timetable and a budget. There must be a clear step by step plan with milestones and regular reporting. The choice of a project team leader for any initiative is critical. This person needs to know that he or she has teeth in other words the power to enforce. He or she must be well respected in the partnership and have demonstrable leadership skills. He or she also must have credibility in the firm and the clear support of the leadership group. The project leader also needs to be able to grasp the necessary sensitivities and emotions which can be raised amongst partners during the process, and the wisdom to understand the checks and balances which need to be incorporated into any changed

mechanisms. It seems obvious to suggest that the leader must have the capacity to devote the necessary time and the authority to obtain the necessary resources, but it is quite surprising how many internal projects in law firms run out of steam because the project leader keeps getting sucked into unavoidable client work. It also helps greatly if the project leader gets on well with the Managing Partner and the leadership group and has an open line to them and to Departments and their heads for team members. Finally, it is vital that the leader has good organisational capabilities (or, at the least, the active support of a capable administrator) together with sufficient operational experience to know how to get things done. The true test of a project leader is the extent to which he or she is easily able to manage and organise an internal project and to sell the results internally Partner Workshops or Face-to-Face Interviews Partners do not always say what they think and agreement in a partners meeting does not always imply commitment. I have found that face-to-face interviews with partners by someone wholly objective and detached can help to reveal some of the deeper-seated issues and fears which partners may have as well as being able to identify areas of consensus. In addition, Partner Workshops can help both with Partner engagement and commitment as well as with feedback on some of the thought processes. The process of developing a balanced scorecard or critical areas of performance is one of the core elements of the whole approach to changing compensation or profit sharing mechanisms towards one which has assessable or subjective elements. Most partners should be involved to some extent in this work and the workshops are a good place to involve them. Whilst the degree of participation may vary, there are major benefits in including as many partners as possible in the discussion about the skills and competences to be defined in the creation of the balanced scorecard. Some of this can take place by a facilitator or members of the project team interviewing relevant partners and other stakeholders. Other discussions can develop in a workshop situation. It is however vital to ensure that any partner workshops are tightly managed and directed drafting proposals by committee is not to be recommended and there is a fine line between the obtaining of valuable feedback on the one hand, and the undesirable watering down of proposals on the other. In general, workshops should be limited to 12 to 15 people to ensure active participation. There should be a core group (possibly the members of the project team itself) which carries out all workshops, but supported by others. The firm should endeavour to mix people up by practice area, office etc. Small firms may be able to conduct workshops as part of a partners meeting or to split into two or three workshops it is vital to try to have the groups not too small or too big. Part of the agenda for such workshops is to discuss, describe and define the skills and competencies needed by partners for the firm to succeed in reaching its strategic objectives. The discussion can then move on to the sort of behaviours to be expected of partners. The first step is to create a compact set of definitions of the current set of competencies which the firm currently deploys, as well as any new competencies or skills which must be worked on in order to participate in the opportunities of the future. This step does not however go nearly far enough. A descriptive competence can be bland, meaningless and immeasurable, unless accompanied by behavioural indicators which show in greater detail what the competence looks like in practice, and what partners have to demonstrate to show evidence that they have mastered the described skill. The discussions in partner workshops are usually extremely valuable to a project team when it comes to developing a competency framework and a balanced scorecard. Conclusion The issues touched on here partner accountability and performance, the wider role of a law firm owner, partner development and progression, and how firms reward, compensate and reward their partners - go to the very heart of the partnership ethos. In many larger firms, partners have become disillusioned and cynical about the nature of their relationships with their firms. I have heard many partners complain about no longer being true partners but merely paid employees on fixed term contracts. Partners can also come from a tradition of independence evidenced by membership of a loose franchise of soloist autonomous individuals. Such partners also find it hard to adjust to the increasing need for a more cohesive organisation. At the same time, partners in firms with a history

of pure lockstep are finding it equally hard to accept the increased scrutiny of their performance which merit based remuneration systems require. The brutal truth is that any radical changes to a firms partner remuneration systems require a great deal of time and planning and will involve the firm in considering a whole range of other issues.