A similar 360-degree review of trust accounting issues is also mission critical for any lawyer starting a new firm, or an office in a new jurisdiction, or a new practice area.
Hop up on the examination table and let’s get started.
Can I Skip This?
A few lawyers don't need or use a trust account. They're in-house or practice in a field where they never handle other people’s money. They are lucky, and they can flip over to the Marketing column now. The rest of you should read on.
There is no bad time to survey your trust accounting hygiene.
Odds are that, since the last time you investigated these issues, some things have changed.
Jurisdictions’ rules and ethics guidance evolve and change over time. What types of fees may (or must) go into a trust (or operating) account? What payment options does your firm offer (or want to offer) clients? What do you do with unclaimed third-party funds (and when)? What about unidentified funds? How often must (or should) you balance and reconcile your trust account?
An Account Where?
In what jurisdiction must you have a trust account? Is it in every jurisdiction where you practice? Where you are licensed? Where you have an office?
Quaintly harking back to the time when all lawyers had offices, the ABA’s model rule on this subject says the account must be “in the state where the lawyer’s office is situated, or elsewhere with the consent of the client or third person [who owns the money].” Setting aside the idea that, in most jurisdictions, lawyers are not actually required to have offices, how do you apply this rule to a lawyer or law firm with multiple offices, or a solo lawyer whose practice ranges over five states?
First, check the actual rules where you regularly practice. Most jurisdictions address this issue in their versions of ABA Model Rule of Professional Conduct 1.15, the basic rule on lawyers handling other people’s property and funds, quoted in the preceding paragraph. Many jurisdictions include “elsewhere with the consent of the client or third person;” a few do not.
For those that allow trust accounts elsewhere with consent, a lawyer may well be able to adopt a simple provision in her engagement letter that grants consent to use a trust account in a different jurisdiction, so that the lawyer may avoid the need for more than one trust account.
But some rules do not include this consent language, or otherwise make clear that lawyers practicing in those jurisdictions must use a trust account in that jurisdiction.
One solution may be to have a trust account with a financial institution that operates in the various jurisdictions where the firm operates. Even this may not solve the problem, as many jurisdictions require that a lawyer’s trust account be enrolled in their IOLTA program to generate interest for that jurisdiction’s program. These complications often lead multijurisdictional firms to simply open a trust account in every jurisdiction in which they operate, or at least have offices.
Be sensitive to the gray in this rules landscape. Does the lawyer admitted in a jurisdiction under pro hac vice rules have to open a trust account in that jurisdiction to receive payment of the verdict she obtains in that case, rather than running it through her trust account back home? Virtually no lawyer does, but a strict reading of the rules might suggest otherwise.
When entering a new jurisdiction, do consider reaching out to bar authorities to get guidance on these issues.
Read the Rules
Of course, before you do, find and review the applicable rules.
Indeed, even if you are not entering a new jurisdiction, it’s worth including in your annual checkup re-reading the rules and having key personnel responsible for your trust account do so, too.
Many jurisdictions now have helpful “handbooks,” collecting all guidance on trust accounting and some even have online training. These resources can be invaluable for lawyers and staff new to trust accounting, or as an annual refresher.
It’s impossible to overstate the importance of the basics:
- Clear assignment of primary responsibility for the trust account, certainly including a lawyer and often including nonlawyer staff.
- Conscious and intentional decisions about who may or must request and sign all trust checks, including possible requirements of two signatures on at least checks of a certain size and regular review of whether these authorizations make sense.
- Establishment of internal controls, including separation of functions, related to the account, for any law firm composed of more than one person. Ask your accountant, but the general idea is that fraud and theft can be deterred or defeated if no one person has sole control over the lifespan of a transaction––for example, the payment of vendors or settlement disbursement.
- Establish policies for balancing and reconciling the account, preferably monthly. At least some jurisdictions require monthly reconciliation and failure to do so is a violation of disciplinary rules. Good practice mandates this in any event.
Every lawyer or law firm needs to establish its policies for receiving payments from clients, and even for receipt of funds from third parties.
From cash to checks to wire transfers to Venmo payments, each mode of payment carries certain issues. Some lawyers do get paid in cash, and I know some lawyers who actually photocopy the bills to confirm receipt.
Checks present their own concerns, especially with the counterfeit check scams still rampant. Lawyers must establish procedures to be certain that checks clear and yield collected funds in their trust account before any disbursements. This is grist for another column, but great care is needed, lest you disburse other people’s money.
Wire transfers seem less dicey, but for a firm of any size, careful monitoring of wires is often needed to ensure proper accounting and assurance that the funds are intended for the trust account and properly allocated.
Credit cards, Venmo, PayPal, and other electronic payment services raise other concerns, primarily avoiding commingling, possible chargebacks and confidentiality. A few jurisdictions have issued very good guidance on these subjects––find and study it. More importantly, some vendors have established more lawyer-friendly services to facilitate fee and trust account payments. Investigate them.
By the way, for some unknown reasons, some financial institutions apparently allow debit or ATM cards to be attached to trust accounts. It’s hard to imagine any good reason for this. Just don't.
Advance Fees, Flat Fees and Nonrefundable Fees, Oh My!
If a lawyer or law firm uses retainers (of almost any kind), flat fees or “nonrefundable” fees, more questions arise––most commonly, whose money is that client payment, where does it go and when?
Jurisdictions vary a good bit on whether fees like this go all into trust or all into the lawyer’s operating account. Many jurisdictions, for example, say that a fee the client has agreed is “earned when paid” must go into the operating account. Almost every jurisdiction, whatever its rules say about fees agreed to be nonrefundable, tends to require that “unearned” fees, in fact, be refunded.
Any lawyer using these types of fees must tune up both their engagement letters and their trust accounting policies to conform to their jurisdiction’s guidance. Clarity of fee agreements, tied closely to consistent trust accounting treatment, is key.
In addition to clear policies on how and when funds may be paid out of a trust account, good trust accounting hygiene requires attention to flows of money out.
Any lawyer funds in a trust account––for example, fees and expense reimbursements––must be withdrawn promptly and regularly. Tying this to monthly balancing and reconciliation and to monthly billing works.
Uncashed checks also must be tracked carefully, which can also be appropriately tied to monthly balancing and reconciliation. An uncashed trust check means that the lawyer is still holding money belonging to someone else that must be returned.
If that money cannot be returned, every jurisdiction has applicable unclaimed property law––older lawyers may remember this under the term “escheat.” After some specified period, lawyers must turn over unclaimed funds to the state.
Moreover, some states have addressed the problem of “unidentified” funds. Anyone who has ever balanced and reconciled a checking account for more than a little while realizes that small mistakes lead to errors––that 82 cents that gets carried in the balance for months and prevents the account from perfectly balancing. If despite all best efforts, the lawyer’s trust account shows an 82-cent shortfall, then the lawyer needs to dig into her pocket to replace those funds. If, however, the 82-cent discrepancy reflects 82 cents more than the lawyer can account for as belonging to anyone, after best efforts to figure it out, some jurisdictions give lawyers specific instructions on what to do that that money. (Tennessee says it goes to its Fund for Client Protection.)
And there are more issues.
For example, consider carefully whether you or your colleagues should ever service as an escrow agent. Issues abound, entangled with many of the duties laid out above for handling other people’s money in your trust account.
Finally, while every lawyer with a trust account knows that, if there’s a dispute about who’s entitled to funds in the lawyer’s possession, the lawyer must hold the funds. Some lawyers may not realize that, in many jurisdictions (probably all), a lawyer may relieve herself of the burden of keeping those disputed funds by interpleading those funds into court, and letting the court sort out the dispute. A handy tool.
There’s just no substitute for good trust accounting hygiene for a lawyer, and nothing like an annual checkup to maintain it.