Four Alternatives to Hourly Billing for Small Firms
by Sylvia Hsieh, Lawyers Weekly USA
If your firm is trying to move away from hourly billing, but can't seem to break the habit, there are a number of alternatives available.
Small firms have an easier time switching to new billing methods, because unlike large firms, they don't rely on a large and steady cash flow, said Arthur Greene of Conway, N.H., liaison to an ABA commission on alternative billing practices who spoke recently on the topic.
"I always suggest small firms start with a few small cases on a pilot program. If you start with all your cases at once, it might be too much of a risk," he added.
For years, there has been a steady chorus calling for an end to hourly billing, but so far change has been slow.
Still, law practice management experts say there are good reasons to consider a change in billing practices.
First, many clients don't like hourly billing because it's unpredictable.
This is especially true for clients of small firms, who tend to be individual consumers and small businesses.
"When a client walks into a lawyer's office, they're already pretty uncomfortable about being there in the first place. Also, it's pretty disconcerting not knowing how much it's going to cost," said Mark Robertson, an attorney who practices in a six-lawyer firm in Oklahoma City and who co-edited a book called Winning Alternatives to the Billable Hour.
"It's like going to buy a car and asking how much it costs, and the seller says, `I don't know, it depends how long it takes to build,'" said John Tredennick, a litigation attorney in Denver, Colo., and chair-elect of the ABA Law Practice Management Section.
Second, many argue that hourly billing rewards inexperience and isn't based on the value of the lawyer's work.
"If I'm fast at something and get it done in one hour, I get half as much as a slower attorney who does it in two hours," remarked James Calloway, director of the Oklahoma Bar Association's Law Practice Management Committee.
Third, changes in technology could soon spell the doom of hourly billing.
"There's a logical contradiction that all of us see in the future. Now, I can set up a document assembly software program and - whoosh - it takes 30 minutes to do something that used to take two and a half hours. If you tie yourself to nothing but billable hours, your time is going to be reduced substantially. But that doesn't mean the document is less valuable," said Calloway.
Moving away from hourly billing requires some thought about your firm and your clients.
"It's really about sitting down and looking at your practice and figuring out what things would make sense to do other than by the hour. Where is it going to help the client? Where is technology a factor? If you don't go to something other than hourly, the more efficient you become, the less money you make," said Robertson.
The alternatives to hourly billing are limited only by your imagination.
In one example, a law firm that represented developers decided to calculate its legal fees according to how much it would cost its clients per square foot of property.
"Developers are used to thinking of cost per square foot. When lawyers are thinking about alternative billing, they should think, `How can I price my services consistent with the way this person is thinking about their business?' That means the lawyer has to understand something about the client's business. You need to do your homework first," said James Cotterman, an attorney in Newtown Square, Pa.
Attorneys who have implemented alternative billing practices said their clients are much happier, and when given the choice between different billing methods, they rarely choose the hourly rate.
Here's a look at some other popular alternatives to hourly billing:
Fixed or flat fee billing is probably the most common alternative to hourly billing.
Flat fees have become standard in areas such as estate planning, but can also be used in many other types of legal services. It's best suited for areas in which you've established some expertise and can nail down your expected costs.
"If you want to bill on a fixed fee, you have to know what your costs are and be able to manage your costs," said Tredennick.
He compared this to the way construction companies bill for a project.
"They understand the history of their company, how long it takes them to build certain things. They can quote the price of drywall almost to the penny, and they are watching their crew every day. The same issues apply to attorneys who don't want to bill by the hour," he added.
Robertson has moved to a fixed fee for setting up a corporation.
"A small businessman might come in and want to set up a corporation. We charge a certain amount that covers everything from soup to nuts," he said.
The legal work can also be segmented into task-based flat fees, such as a separate flat fee for each stage of litigation.
Robertson said that he's able to charge a fixed fee because he has performed this type of work for many years and has tracked old cases to determine his costs.
At the same time, lawyers have to be competitive when they set their price, he cautioned.
"The key to any fixed fee is knowing what the market is. If everyone in town is charging $75 to do a will, maybe $150 isn't the right number for you. Or if it takes you one hour, and your hourly rate is $150, but the going rate for a will is $75, maybe you shouldn't be doing wills," he said.
But he said he still keeps track of his hours.
"I can look back and say, oh, maybe my fee is a little too low, or maybe I should adjust it," he said.
Charging a flat fee also has the advantage of covering costs immediately.
Small firms can experiment with a sample of cases and build from there, Greene suggested.
"If you have a couple of flat fees up front, you'll have some money to start paying your bills. Then after the third or fourth case, suddenly you have little bit of cash flow," he added.
Variations On Standard Contingency Fees
Although contingency fees are typically used in personal injury cases, lawyers can also incorporate them into any type of case that involves recovering money.
A lawyer could charge a straight contingency fee based on a percentage of the recovery. But there are also a number of variations on this method.
For example, a lawyer may be hired to help a developer win approval for a subdivision, in which the more lots that are approved, the more successful the client will be. The lawyer might charge a success fee for each lot approved or a sliding scale based on the number of lots approved.
"The goal is to share the risk, share the downside if you don't do well, and share the upside if successful," said Greene.
If the lawyer doesn't want to take the risk on the entire case, the arrangement might include a progression from an hourly rate to a reduced contingency fee, he added.
For example, he suggested that a lawyer might charge an hourly rate to investigate and evaluate a case and a contingency for the actual litigation that would be less than the traditional one-third contingency.
Another option is to charge an hourly rate up to a certain point, then half the hourly rate for the next phase, and a 15 percent contingency for the balance of the work, he said.
Or the lawyer could charge half the normal hourly rate for the entire case plus a 20 percent contingency, he said.
Blending different types of billing methods is one of the best options for small firms trying to move away from hourly billing, said Greene. For example, Robertson uses a blended fee for public or private offerings of businesses.
"If I did it by the hour, it might be $15,000 to $25,000, but again, clients don't like the hourly rate deal. So I might do it for $5,000 down. Then I'll do all the documentation for another $5,000. But if you sell it successfully, you're going to owe me a success fee of maybe $15,000 more," he explained.
Clients tend to like this arrangement, because they're only responsible for the contingency fee if the offering is successful, and "they have all this extra money anyway," he said.
Another common blended fee is a combination of an hourly rate and a fixed rate.
This combination works well in estate planning cases, said Colleen Cowls, an attorney in Eau Claire, Wis., who developed a software program to help estate planning lawyers manage their practice.
"An attorney could charge a flat fee for basic things that could include preparing certain type of documents, such as termination of a trust. But if there's a contest or additional assets are found or if the attorney has to track down certain people, the client would be charged by the hour," she said.
An attorney should also consider capping the flat-fee work, such as limiting the number of documents to be completed.
"This has to be coordinated into the fee agreement, so the client isn't given the incentive to bring in a garbage can full of paperwork and dump it on the attorney's desk," Cowls added.
This arrangement could work in a number of other areas, where a fixed fee is set for defined tasks, but the client is charged hourly for additional work or "extra hand-holding," Robertson noted.
Some clients may want to establish a budget at the outset of a case.
Budgeted fees are commonly used in litigation, where the lawyer and client might establish how much will be spent on each phase from investigation to discovery to trial.
A budget can also be used for any type of case - such as transactional work or negotiations - where the lawyer can't control what the other side does, Robertson said.
"You might prepare what you consider a fair contract, but the other side's lawyers might want to negotiate every sentence or every line of it," he said.
One arrangement would allow the lawyer to charge an hourly rate up to the budgeted amount, then the lawyer can't spend anymore. If the lawyer goes over the budget, the arrangement might be that the client is billed for the excess and it goes into a suspended account," to be reviewed at the end of the case, said Greene.
"If the lawyer is successful in the case or has a good reason for the overrun, the client pays the excess. If not, the excess is not paid," said Greene.
Another option is to allow the lawyer to receive a portion of any savings if the lawyer finishes under budget, he added.
If the fee is capped at a certain amount based on an hourly rate, you should charge a premium over your standard hourly rate, "otherwise you're getting all the downside," Cotterman said.
"If my billing rate is normally $250 per hour, I'm going to charge $300 an hour, but I won't exceed a certain amount. I'm taking a risk that I can complete the work in this amount. If I'm efficient, I get a higher hourly rate, but if I don't, I'm sharing the risk. The more I exceed the cap, the more the client may end up getting the equivalent of the normal hourly rate. But if I end up exceeding it by a lot, I will end up working at a discount," he explained.
This article has been reprinted with the permission of Lawyers Weekly USA, the national newspaper for small law firms. To subscribe, please visit http://www.lawyersweeklyusa.com or call (800) 451-9998.