How firms can manage tax and cash flow problems during COVID-19

By Tony Zhang|24 March 2020

With the COVID-19 outbreak creating uncertainty around the nation, law firms are bracing themselves in GFC-like conditions with tax and cash becoming essential to ensure business continuity.

As courts cut down, with many cases on hold, firms can work out a strategy around ensuring a managed business pipeline whilst balancing the books and keeping a healthy cash flow.

According to G+T partner Muhunthan Kanagaratnam, firms will need to be more aware of tax and cash flow problems to navigate through these times.   

The most significant issue for any business, including law firms, is cash flow,” Mr Kanagaratnam said. 

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“Law firms will be affected by clients not paying bills, as the downturn caused by isolation measures and shutdowns bite.

“It is tempting to use the cash put aside to pay tax liabilities to stay afloat, but the Tax Office is just like any other creditor, except with more power including the ability to impose penalties and interest above market rates.” 

This will also be important regarding taxes withheld from salary and wage payments to law firm employees and the GST charged to clients along with superannuation entitlements. 

According to Mr Kanagaratnam, principals of legal practices structured as companies, also face corporate law regulations, such as the obligation to ensure they are not trading whilst insolvent. 

“If tax liabilities cannot be met, there is a risk that this corporate law obligation may be triggered,” he said. 

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Further, the principals can be served with director penalty notices in respect of other people’s tax or benefits – these notices make the principals personally liable to such taxes, so not only is the firm affected, but the individual principals could be facing the same liabilities.

As practices are often partnerships – partners in partnerships are obviously jointly and severally liable for all liabilities, including tax liabilities.

However, there is also good news for many firms as there are a range of things law firms can start doing in relation to tax matters to help the longevity of their business.  

According to Mr Kanagaratnam, the Tax Office would rather “businesses survived than collapsed”, and they have already announced a range of measures they can take to help businesses. 

Many of these measures will be tailored to the particular circumstances of the business. 

In terms of actions law firms can take to maintain the books, firms may need to write off bad debts. 

Though this may seem counterintuitive, Mr Kanagaratnam said that if businesses make a realistic assessment of the likelihood that longstanding debts can be recovered (especially given the economic climate caused by COVID-19) and write off bad debts, they can recover GST already paid to the Tax Office on those receivables.

In terms of billing, firms should shouldn’t bill more than you can recover in the next GST period, according to Mr Kanagaratnam.

“If firms are reporting GST quarterly, they have up to 118 days in which to bill and recover cash so that they have collected the GST on the amount billed to pay to the Tax Office,” he said. 

“Likewise, if you are reporting monthly, you have up to 42 days in which to bill and recover the GST that you have to pay to the Tax Office on the amount billed.” 

Most importantly, keep lodging returns Mr Kanagaratnam noted, even if the firm cannot pay the tax, avoid unnecessary penalties that would be imposed if the firm chooses not to lodge returns.

During these times firms will need to ensure they meet their tax obligations, especially where those obligations relate to the tax withheld from salaries and wages paid to employees or to superannuation entitlements of employees.

How firms can manage tax and cash flow problems during COVID-19
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