The Basics Of Trust Accounting
It’s not at all unusual for attorneys to handle client trust accounts. Nearly every lawyer at some point or another will hold client funds. The three most common scenarios in which an attorney will be responsible for a trust account are:
- For funds received at the start of representation,
- In connection with payment from a settlement, or
- When the attorney acts as a fiduciary agent on behalf of a client or a client’s estate.
The money in a trust account does not belong to the attorney or law firm. Instead, the attorney is holding the money “in trust” for the client until it is to be distributed. Anytime a law firm or attorney holds funds in a trust account, it must be accounted for, which is where Trust Accounting comes in to play.
What Is Trust Accounting?
At its most basic level, Trust Accounting is simply bookkeeping of trust accounts in accordance with state requirements. These requirements vary from state to state, but they have a few rules in common. Namely, there is to be no comingling of client funds with the lawyer or law firm’s funds, and maintaining accurate records is a must.
Trust Accounting has some very specific recordkeeping requirements, which are used to maintain accurate information for both the attorney and the client. Trust Accounting requires:
- Tracking of all deposits and disbursements made through the account.
- A detailed ledger that notes every monetary transaction for each particular client.
- An account journal for each account, tracking each transaction through the account.
- Monthly reconciliation of the account.
Funds That May Be Found In A Trust
Only certain type of funds can be placed into a trust account. These include:
- Settlement Funds such as those obtained through a Personal Injury case or a Real Estate transaction.
- Unearned Income refers to monies paid to the lawyer or law firm before services have been rendered. Fees, Cost Advances, and Retainers are all examples of unearned income.
- Advances for Costs are similar to unearned income, except they are to be used specifically for costs associated with managing the case.
- Judgment Funds, similar to settlement funds, are awarded by the court.
- Third-Party Funds such as those obtained from the sale of client property or monies that are to be paid to a third-party for services rendered.
Funds That Should Never Be In A Trust Account
- Personal Funds. This goes against the most important principle of Trust Accounting – no comingling of funds. Personal funds should never be put into a client’s trust account. Personal includes funds used by the law firm itself. Nothing should go into the trust account unless it is provided by or to be paid to the client.
- Earned Income. Wages and other money earned should never be placed into the trust account. The trust account should only have money that the client provided specifically for designated purposes.
- Payroll. Lawyers should never use a client trust account to manage payroll. Again, going back to the no comingling of funds rule, there should never be a reason for a law firm’s payroll function to access a client trust. Payroll should come out of the firm’s Operating Account.
Trust Accounting Tools
Keeping track of client trusts is no easy feat, especially if you manage several client trusts. Each one needs to be managed and tracked independently and must have a full paper trail so there can never be a question that funds were used improperly. Rather than rely on manual tracking or generic accounting software, more and more lawyers are turning to legal trust accounting software, like that offered by CosmoLex, to help them manage their fiduciary duties as they relate to trusts.
The risks that come with the improper management of trust funds are high; lawyers have been known to lose their licenses over what boils down to bad record-keeping. CosmoLex’s cloud-based trust software for attorneys makes it simple to identify and keep track of funds that are placed in trust accounts.