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Computation of Profits for Income Tax Purposes: Application of UITF 40 to Barristers Earnings

Click here to download UITF 40 Guidance as a Word document [FILE SIZE: 41.0KB]

1. The Bar Council has been asked to provide guidance on the application of Urgent Issues Task Force Abstract 40 (‘UITF 40’) to the computation of barristers’ earnings. This Note updates the guidance given in the Guidance Note of 10 March 1999 (“the 1999 Guidance”).

2. These changes do not affect barristers in their first seven years of practice, who may continue to use a cash basis for tax purposes.

3. UITF 40 was issued on 10 March 2005 in response to questions that had arisen following an amendment (Application Note G) to Financial Reporting Standard 5 (“FRS 5”). It applies to accounting periods ending on or after 22 June 2005 and is concerned with the recognition of revenue for accounting purposes in the case of service providers. Although most likely to affect large professional firms of e.g. solicitors and accountants, it is in principle relevant to barristers as well.

4. Two principles govern the application of UITF 40 in relation to FRS 5:

(1) Contract activity rather than contract completion or invoicing is the focus of revenue recognition; and

(2) When work is partly performed at the end of the barrister’s accounting period, the fair value of the right to consideration should be brought in as revenue.

5. Our view is that this affects paragraphs 6 and 7 of the 1999 Guidance, and that a barrister can no longer ignore all ‘work-in-progress’ regardless of the circumstances.

6. If in any particular case or matter, work has been performed by the end of the accounting period for which a barrister has ‘obtained a right to consideration’, then for accounting periods ending on or after 22 June 2005 that work should be taken into account in the same way and to the same extent as ‘completed work’ as explained in paragraphs 9 to 12 of the 1999 Guidance.

7. We believe that it will be rare indeed for UITF 40 to require adjustments for any individual barrister in relation to more than a handful of cases or matters, and it may well be that in many cases the ‘materiality concept’ – as explained by the Inland Revenue in the 1998 Press Release reproduced at paragraph 4 of the 1999 Guidance – will come into play, with the result that it would be inappropriate and unnecessary for many barristers when applying the 1999 Guidance to make any further UITF 40 adjustment to their computation of profits for tax purposes. .

8. Certain typical payment scenarios (taken from the guidance issued by the Institute of Chartered Accountants in England and Wales (the “ICAEW Guidance”) are attached to this note, with accounting comment.

9. To sum up:

(1) Work completed at the end of the barrister’s accounting period must be brought into account as debtors, in the amount of the agreed or anticipated fee.

(2) In the case of incomplete work that straddles the end of the barrister’s accounting period, it is necessary to bring in a reasonable estimate of the fee earned as a result of the work done at that date.

(3) All the above is subject to the “materiality concept” referred to in paragraphs 4 to 6 of the 1999 Guidance.

10. When income accrued under UITF 40, which has not previously been recognised, is first brought into charge, Finance Bill 2006, cl 102, Sch 15 provides that three years’ spreading relief will be available in respect of the ‘adjustment income’ (or up to six years if the adjustment income is more than one-sixth of the profits of the business for any of the first three years following the change).

11. The adjustment does not count as profit for NIC purposes, but is pensionable.

Example

Common Fee Payment Scenarios

Q1 - Barrister- "no win, no fee"

A barrister works on a "no win, no fee" basis. How should this be accounted for?

Revenue should not be recognised until a case has been won. Only at that stage does the barrister have a right to consideration. (UlTF 40, para 27)

Q2 - Barrister- "pay at end"

A barrister works on a "pay at end" basis. The fee is not agreed in advance, nor will the rate be fixed. The consideration is negotiated at the conclusion of the case. The difference from no win, no fee is that a fee will always be due. Currently this is included as soon as the fee is negotiated.

There is significant uncertainty about the amount of the fee at an accounting date prior to the end of the case. Nevertheless, it is clear that the relevant fee is not nil. There are two possible arguments:

(i) Where there is some uncertainty about the fee but a reasonable estimate can be made, at least of the minimum that will be earned, then an estimate should be made of the part of the total fee that has been earned as a result of work done to the balance sheet date. This estimated amount should be included as revenue. 

(ii) Where there is genuinely so much uncertainty that no reliable estimate can be made of the total fee and of the part of that total that has been earned to date, no revenue should be recognised until such time as the uncertainty has reduced and a reliable estimate can be made. This might be at a later stage of the case or it might not be until the fee is negotiated at the end of the case, depending on the facts and circumstances. There is a general assumption that amounts can be estimated with sufficient reliability to be included in financial statements. Non-recognition due to an amount not being reliably estimable should be very much the exception.

Q3 - Barrister- fixed fee cases

A barrister works on certain types of public funded cases ("cost assessed", "graduated fee" and "prosecution"). These cases are done for a fixed fee. Currently, revenue is recognised on completion of the case. Is it right to say that UITF 40 can be read to give the same result? Another view appears to be that every case should be examined and part of the consideration accrued to the year-end date be included, even though there is no right to consideration. A further reason why one might argue that this is incorrect is that if the barrister who has prepared the case is unable to present the case in court then the presenting barrister receives the whole of the fee.

The appropriate accounting here is a matter of professional judgement depending on the facts of the situation. Where, for example, it is reasonably clear what a typical case involves (say two client meetings, one days preparation and one day in court for an aggregate fee of £5,000), it will be possible to assess, for each case, how far through the case one is at the year end. If the barrister is halfway through the case, he would recognise half the fee, or perhaps somewhat less if there were genuine uncertainties about the time to complete. on the other hand, if the fee was agreed but the amount of remaining work and therefore time was open ended and therefore very difficult to predict, one would either (a) recognise some revenue but on the basis of a very conservative estimate or (b) argue that no reliable estimate can be made until the case is further progressed.

As to the point about potentially losing the fee if the barrister cannot appear in court, the effect of this point on the accounting depends on the substance. If losing the fee due to being unable to present the case in court is rare, one would either disregard it or make an overall reduction of a few percentage points in the overall revenue figure to allow for the rare case in that category. on the other hand, if it is common that a barrister prepares a case and is not able to present it, thereby losing the fee, it may be that there is not sufficient certainty to justify recognition of revenue until the barrister does present the case in court and is thereby assured of earning the fee. Events after the balance sheet date (appearing or not being able to appear) may of course reduce the uncertainty in some cases.

Q4 - Barrister- Legal aid cases

Legal aid in some cases is not agreed until after the matter has been settled. in lengthy cases payments on accounts are made. This is a long and protracted procedure that can take many years. Often the payments on account will be for a greater amount than the eventually agreed fee and the barrister has to return the excess. It has been agreed with HMRC that the relevant tax point is payment, normally a payment on account, or the agreement of the fee, whichever comes first.

Again, professional judgement has to be applied here and the accounting treatment will depend on the degree of uncertainty. in principle, revenue should be recognised according to the work done to date, rather than according to progress payments received. If a reasonable estimate can be made of the revenue that has been earned as a result of the work done to date, then that should be recognised. Prudence should be built in to that estimate in response to uncertainty. It may be that the level of uncertainty is so high that no reliable estimate can be made until either later in the process or until the case is completed and the fee agreed. Finally, a barrister should not recognise all the progress payments received as revenue, even if they do bear a close relationship to the work done to date, if it is likely that some of the amounts received will have to be refunded.