Top 10 Compliance Challenges For Law Firms

When it comes to trust accounting, maintaining compliance with your state’s requirements is of the utmost importance. And yes, you probably already knew you have to remain compliant, but as any practicing attorney can attest, maintaining trust accounting compliance can be complex.  

From meticulous recordkeeping (print and digital) to distinguishing between earned and unearned income and avoiding commingling, trust accounting presents an array of unique challenges that attorneys must be equipped to handle.  

Keep reading as we uncover firms’ biggest compliance challenges, and explain how you can avoid them by implementing the right processes and the right technological tools.  

Top 10 compliance challenges for law firms 

Here are the most common compliance challenges faced by law firms:  

1. Lack of trust-specific knowledge

As an attorney, you’re responsible for understanding your state’s particular compliance guidelines and audit programs.  

But it’s not just you (unless you’re a solo shop!). Your firm’s accountant(s) and bookkeeper(s) must also be experts in legal accounting. This is by no means guaranteed—many professional accountants who don’t specialize in servicing law firms aren’t well-versed in their unique trust accounting challenges and compliance requirements.  

If you have concerns, ask your accountant about their specific experience working with law firms and what processes they use for managing trust accounts (ideally before you hire them!).  

2. Limited resources

For many small firms, it can be tough to keep up with the dedicated resources and training required to maintain compliance. But no matter how small your firm is, it’s required to meet the same compliance requirements as any other firm—and it’s just as likely to be audited as a larger firm.  

Ensure that your firm has implemented all the necessary tools (more on this later) and employee training to manage its accounts and meet compliance standards.  

Although you may be concerned about the cost, you don’t have to spend exorbitant amounts of time and money to keep your team on its toes. Even dedicating a day to compliance-related training can make a major difference for a small firm. 

3. Manual systems

Tracking client funds manually or in loose spreadsheets is a slow process and one that exposes law firms to human error. Despite your best efforts, you may waste hours on tedious tasks like re-creating records, writing checks and deposit slips, or trying to track down a pesky 5-cent discrepancy.  

If your firm uses a general accounting solution (rather than specialized, legal-specific accounting software), consider that such software requires extra vigilance because it’s not designed for legal practices. If you’re unsure about whether your system can produce the necessary reports for an audit, proactively verify your reporting options rather than waiting until the eleventh hour.

4. Commingled trust funds

The word commingling just sounds bad. And it is. Commingling falls into two general categories: 

1. Losing track of individual client balances in trust accounts (i.e., having no separate ledger cards) 
2. Mixing client funds with a firm’s own funds (besides what some states allow, which must still be tracked separately) 

You can keep different trust funds together in a single bank account, but you must record them separately in your books. In some situations—for example, when dealing with large amounts of money for an extended period—you may want to open a separate trust account for a client.  

Regardless of the system used by your firm, remember that you must manage funds by matter.  

5. Trust ledger overdrafts

Speaking of matters, it’s illegal to overdraw trust accounts at the matter level. Even if you can see that a bank account contains available funds, you must never draw a check against a ledger card without a balance. 

Reminder: If funds are commingled, you won’t be able to tell them apart. This is a serious issue—many attorneys have been disbarred for failing to clear funds from one matter and disbursing those funds to another account, even if they planned to use them for legitimate purposes. 

6. Absence of safeguards against common mistakes

Common trust-related mistakes include: 

• Commingling of funds 
• Overdrafts 
• Duplicate check numbers 
• Lack of identification for each matter 

Although law firm owners aren’t necessarily bookkeepers or accountants for their practice, they hold fiduciary responsibility. This means they must equip their team with the right tools to establish compliant systems and processes.  

Choose a software solution that includes legal-specific accounting and baked-in compliance safeguards to protect yourself and the rest of your firm. 

7. Failure to address un-cleared funds

This can be a major problem. Although most service companies don’t fret when the checks they issue aren’t cleared, when it comes to your trust account, you have a fiduciary responsibility to make sure the funds clear.  

Even worse, the longer it’s been, the harder it can be to resolve this issue—so it’s crucial to stay on top of it by reconciling and creating reports every month. 

8. Sloppy bank reconciliation

Bank reconciliation is never unimportant, but it’s especially critical in the area of trust management. Every month (at the very least), you should perform a three-way reconciliation of your book balance, bank balance, and the sum of individual card balances (i.e., all accounting for funds in transit). 

Not only will this be a lifesaver in the event of an audit, but it also ensures that you can quickly address any mistakes that may arise. 

9. Separate billing and accounting systems

Most firms’ billing, trust accounting, and business accounting systems function independently, but this can limit communication and create confusion—especially if a problem arises and your billing and accounting are siloed.  

Improve your trust fund tracking by integrating the following trust accounting steps into your billing system instead of managing them separately: 

• On billing, the client trust fund balance must be shown 
• As fees are earned and advance is entered into the trust account: 
• Trust money must be moved to the business account 
• Trust balance and client ledger must be updated 
• The invoice must be marked as paid 

10. Lack of data controls and protection

Whichever trust accounting tool you choose should include user-level access controls that allow you to designate exactly who can do and see what.  

Additional data protection measures include: 

• An audit log that records each team member’s activity while using the software 
• Automatic backups, which are more secure than copying from one machine to another, or using a storage device like a zip drive 
• Two-factor authentication, which texts a verification code to your mobile device to confirm your identity at login 

Overcome compliance challenges with CosmoLex 

Regulatory compliance needs are a constant for any legal practice. Set up your firm for success by streamlining the process, so you can get back to what you do best: providing your clients with high-quality legal services. 

One of the most effective tools for ensuring compliance in trust management is specialized legal trust accounting software like CosmoLex. This fully integrated solution makes it possible for firms to manage their practice, billing, and accounting under a single login.  

To discover how CosmoLex can improve your firm’s trust accounting efficiency and compliance, schedule a one-on-one demo or sign up for your ten-day free trial of CosmoLex.