Solo Practice

After a recent Connecticut Law Tribune article discussing the wave of bank failures and a lawyer's responsibility for a client's funds, I asked the reigning authority on The Business of Law?, Ed Poll, to guest post on the topic.  Ed Poll knows The Business of Law? having written numerous articles and books on the topic.  He graciously agreed.

Guest Blogger - Ed Poll, J.D., M.B.A., CMC

Cash Management ? The Lawyer?s Fiduciary Responsibility

Every lawyer-client relationship begins (or should begin) with a written engagement agreement that includes how and when the lawyer will be paid.  As a general rule most engagement agreements stipulate that the client?s payment for work that has been performed is to be deposited into a lawyer?s general account and payment for work that will be performed is generally to be deposited into a client?s trust account.

Managing and accounting for client funds held in trust is a personal responsibility of the lawyer.  Although there are a number of good computer software programs to assist with trust accounting, including QuickBooks by Intuit, the lawyer who receives clients? trust funds bears all the responsibility of accounting for every penny.  In an accounting sense, these funds are a liability of the law practice to the client, must be kept in an entirely separate account and cannot be commingled with any other law firm funds.

Disciplinary Rules

The American Bar Association?s Model Code of Professional Responsibility specifically addresses the issue of trust accounts and commingling of funds.  Disciplinary Rule DR 9-102, ?Preserving Identity of Funds and Property of a Client? states the following:

(A) All funds of clients paid to a lawyer or law firm, other than advances for costs and expenses, shall be deposited in one or more identifiable bank accounts maintained in the state in which the law office is situated and no funds belonging to the lawyer or law firm shall be deposited therein except as follows:

 (1) Funds reasonably sufficient to pay bank charges may be deposited therein.

 (2) Funds belonging in part to a client and in part presently or potentially to the lawyer or law firm must be deposited therein, but the portion belonging to the lawyer or law firm may be withdrawn when due unless the right of the lawyer or law firm to receive it is disputed by the client, in which event the disputed portion shall not be withdrawn until the dispute is finally resolved.

The conclusion to be drawn from this requirement is that money earned by a lawyer for provision of services belongs to the lawyer and must be removed from the client?s trust account when earned.  This must be done immediately (unless jurisdictional rules state otherwise), with the earned money being placed in the lawyer?s general account. 

Fiduciary Responsibility

When a lawyer is entitled to make the transfer, the lawyer must make the transfer or be guilty of commingling personal and client funds.  The lawyer is a fiduciary who must keep accurate accounting records of such transfers under every State?s rules of professional conduct. 

Each lawyer must answer a fundamental question:  when you first receive funds, which account should they be placed into, the trust account or the general account? The rules of conduct seem quite clear.  If the funds are provided on retainer, then they are for a task that is not completed and the hours are not yet earned.  That means the money goes into the client trust account.  If the funds have been earned when you receive them, then they should go into the general account.

Accounting Concerns

An ethical issue that can arise in very active personal injury or debt collection law practices, or in large firm real estate practices, is that trust accounts become so large that the lawyer?s record keeping does not keep the funds straight.  This happens in many ways:  lien holders fail to cash checks written against the account; funds subject to a lawyer-client dispute remain long after the controversy is forgotten; funds are held back for a triggering event that never takes place; a departed staff member has made an incomplete or erroneous record of trust monies that the lawyer can no longer decipher.

Contingencies such as this, and contingencies such as bank failure, serve as no excuse.  Every State imposes a fiduciary duty to properly account for clients? funds to prevent misappropriation or negligence. Failure to provide accurate accounting records on a State Bar inquiry means very bad news for the lawyer.  If an accounting issue does arise, one expensive resolution is to hire an outside accountant to go through every document, check and ledger to reconcile the account. Another suggestion is to open and operate through a new account with scrupulously ?clean? records, while allowing depletion of the old account until only the few questionable items remain. Such alternatives miss the point. To do less than use an effective software accounting program or an outside accountant to reconcile trust and bank account records each month is to invite error, inquiry and trouble. However, this may be a practical approach for the lawyer to consider.

Banking Realities

Recent challenges to the country?s banking system raise the specter of bank failures, with wide impact on the American public.  Lawyers, for example are the subject of recent inquiries because of their IOLTA trust accounts. 

The problem arises when any single account, in one person?s name exceeds the Federal Deposit Insurance Corporation guaranteed limit of $100,000.  In an active family law, real estate, personal injury or debt collection practice, it?s easy to grow beyond this cap.  For example, if a lawyer holds $10,000 for each of ten people, the cap it exceeded.  Since most practices have more than ten clients, the problem is obvious.

Is it the responsibility of the lawyer to be in the banking business?  No, but the lawyer is responsible for acts of an agent, which in the case of client trust accounts is the bank.  If the bank fails, the lawyer (in light of Rule 1.15) is responsible.  One way to ensure client safeguards is to identify in bank records the name of the client and the amount of dollars held for that client, in effect creating sub-accounts.  Another, more direct approach is to maintain a separate trust account for each client whose funds exceed $5,000 to $10,000 and are likely to be held for an extended period of time.  The interest on such a separate account belongs to the client.  This is not an IOLTA account.

Does this increase the expense of a lawyer?s trust fund accounting?  Yes.  Some lawyers will see it as a standard cost of doing business.   For others, when it is anticipated that funds for the accounts will pass through the law office, it might be advantageous to provide in the engagement agreement for an administrative charge to cover the cost of account administration.  Also, remember that trust funds are a large and stable deposit for the bank, and thus are desirable accounts because they bolster the financial assets against which a bank makes the loans that are its source of income.  For that reason, a law firm may have considerable leverage to negotiate reduced service fees for multiple trust accounts.

Jurisdictional Rules

Lawyers must stay cognizant of the rules in their jurisdiction that may require client funds in excess of a certain amount, and expected to be held for short periods of time, be placed into IOLTA accounts.  In Connecticut, for example, an IOLTA account is the only place where lawyers and law firms may deposit a client's or third person's funds which are less than $10,000 in amount or are expected to be held for a period of not more than sixty business days.  In these circumstances, more than one IOLTA account may be advisable.

However a client?s trust account is structured, the engagement agreement must document that structure and the client should agree to it.  In some cases, the client may specifically instruct a lawyer to open a separate trust account as a source of interest income; in others, the client will seek the lawyer?s guidance.  Whatever decision is made, in today?s financial environment, it should be researched carefully, disclosed openly, and made in full accord with all ethical rules on safekeeping client property.