Trust Accounting 101: The Fundamentals

Most law firms have Trust or IOLTA Accounts. While the rules vary from state to state, one thing doesn’t change, the law firm has a fiduciary responsibility to track the funds and use them for the benefit of the client. Anything else is a breach of responsibility and will leave the attorney liable for disciplinary action, or worse. Below, you’ll find a general collection of information regarding trust and IOLTA accounting to help your firm get started on the right foot — compliant and organized.

IOLTA is an acronym for Interest on Lawyer Trust Accounts.

While the terms Trust Account and IOLTA Account are often used interchangeably, the generally accepted difference is that a Trust Account is for the benefit of a specific party. An IOLTA Account will include the funds of multiple parties. Understanding the rules for when money should go in a Trust Account versus the IOLTA Account is the responsibility of the lawyer, as the rules vary by state. The basic rule is that client funds are deposited in an IOLTA account when the funds cannot earn enough income for the client to be more than the cost of securing the income. This is due to either the amount of the funds or the length of time the funds are expected to be held. In an IOLTA account, the interest goes to the state for specific charitable purposes, often legal aid for the poor. If the account is designated as an IOLTA account with the bank, then the bank will automatically remove all interest earned on a monthly basis, and submit it to the state.

You should consider carefully who should have signing authority on the IOLTA account, as the lawyer is ultimately responsible. The rules vary by state. Rules will also vary as to how long you should wait after depositing a check before using the funds. If a law firm operates in multiple states, they may be required to have an IOLTA account in each state that the lawyers practice.

Another often overlooked area of trust accounting is collections. When setting up your accounting systems, consider how you will receive client retainers and payments into trust. If you accept credit cards for payment into the IOLTA Account, you will want to make sure that the credit card fees are withdrawn from an operating account. Similarly, the IOLTA Account should be setup for all fees to be withdrawn from the firm’s operating account, not trust.

Good IOLTA accounting practices will make it easy to know how much money belongs to each client and make sure that no clients funds are overdrawn or spent on anyone but the client. Since the money does not belong to the firm, if it is tracked as part of the firm’s regular bookkeeping there should be a bank account and an offsetting liability account for each Trust or IOLTA account. The balances in these accounts should always be equal. Whether by software or paper, good records are critical. The required format of these records and how long they need to be saved for will depend on the state in which the firm operates. Making good choices can help the firm save time and reduce the risk of problems. Since the funds do not belong to the lawyer or the law firm, there are very specific accounting rules that should be followed. While this can be done manually software, when used properly, can make the required tracking and reporting easier. Consider implementing a specialized accounting software to assist your firm with compliant trust/IOLTA record keeping.

In evaluating IOLTA accounting software there are a number of factors to consider:

 

  1. Does the software make it easy to enter the deposit and withdrawal transactions necessary?
  2. Is identification of the client on the transaction mandatory?
  3. Can I easily take money from the IOLTA Account to pay the firms invoice? Does the program integrate with my billing software?
  4. If needed by my firm, can I identify if money is being held in the IOLTA Account for fees or costs, or for use at the end of the case?
  5. Does the software prevent me from improperly taking money out of a client’s account?
  6. Can I quickly respond to an audit by the Bar and prepare the vital reports that will be requested?
    • Client Ledger
    • Account reconciliation
    • Three-way reconciliation
  7. Can the software properly handle returned deposit items? Uncashed checks? Payments by credit card?

This collection of information is just the beginning when it comes to legal accounting.

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