This post was written by Megan Zavieh and originally published on Lawyerist.com on April 4, 2014.
Managing trust accounts – handling other people’s money – is one of the most sensitive things lawyers do, and one of the most common sources of ethical violations. You must know the rules.
Every state has its own set of rules, but the basics that are common to most:
Opening a trust account: Check your state rules for details on how a trust account must be held. It probably needs to be held in the state (no matter your physical location) and bear certain words in the title of the account (such as “attorney-client trust account”). Follow the rules to the letter.
Receiving retainers: When a client provides you with an up-front retainer before fees are earned, immediately deposit it in your trust account. You may not put money received for unearned fees in any other place, including your firm’s operating account.
Withdrawing funds: As soon as you earn fees, take them out of your trust account. Funds held in the trust account belong to the client and should be withdrawn. This does not mean you have to withdraw fees on a daily basis, but you do need to send out regular bills and you should be withdrawing earned fees from the trust account each period. This should really be done monthly.
Related: Essential Law Firm Billing Best Practices (Regardless of Firm Size)
Receiving fees already earned: If a client’s bill exceeds the amount held in trust and the client pays the balance after the fees have been earned, the check should not go into your trust account.
Disputed fees: If you are holding money in trust and you think you have earned fees that should be paid from that money, but you know that the client disputes your bill, do not take the fees out of the trust account. Any disputed fees must remain in your trust account until the matter is resolved. However, if some portion of the money held in trust is undisputed, you should take that portion out. Consider this situation:
You receive $10,000 from the client as a retainer. You work for the client and generate an invoice with a balance of $8,000. Before you take funds out of trust to pay this invoice, the client calls and says they think your bill is too high, and that they only owe you $7,000.
You should immediately withdraw the $7,000 as undisputedly earned, but leave the $2,000 not-yet earned and the $1,000 disputed amount in your trust account until the dispute is resolved.
But what do you do when you have earned a fee, withdrawn the funds from trust to pay it, and then the client disputes the fee? In California, there is no rule that says you must return the now-disputed funds to trust. However, a recent unpublished decision of the State Bar Court Review Department stated that the attorney should have returned the funds to trust when the dispute arose, even though the funds had been undisputed at the time they were withdrawn. Absent clarification or a clear rule by your state that such an obligation exists, if this situation arises you should contact your ethics regulator to ensure compliance with your applicable rules.
Refunds: If the client demands return of money in trust and you have no claim to the funds for fees, immediately return it. In the example above, the $2,000 not-yet earned should be immediately refunded upon demand.
Segregation of funds: The general attorney trust account is for relatively-small amounts from many clients. Even though the money is in one bank account, it belongs exclusively to client who deposited it. This means that you cannot commingle the funds of one client with the funds of another, even though they are residing in one account. If a client provides you with $1,000 to hold to pay costs and his costs add to $1,200, you may not “borrow” $200 from another client’s funds in trust account to pay the bill.
Related: Paying Yourself from an IOLTA: How to Avoid an Ethics Complaint
Holding large sums: If one client gives you a lot of money to hold in your trust account (consider “a lot” to be an amount well in excess of the advance fees of your other clients), look at your state rules for opening a separate account for that client. You may be able to open a completely separate account where the client receives the interest on the funds held.
Make sure you are educated on your state’s rules. Check your state bar or local bar association for training on trust accounting for your area. Some states offer trust accounting class that is usually required if you have been brought up on an ethics violation relating to handling client funds, but it is also valuable preemptive education.
Consequences Are Severe
The consequences for mistakes in trust accounting are severe. Ethics regulators tend to think attorneys have acted with moral turpitude rather than ignorance or confusion when a trust accounting violation occurs. Some states have standards that a trust account balance dropping below the amount that should be held for clients is deemed misappropriation. It is an uphill battle to show a lack of intent to misappropriate client funds, and the attorney’s defense is basically a showing that they lack skills and organization to manage their client’s funds – not something most of us want to try to prove!
So get educated, know your state rules, and keep up with any changes in those rules. Set up a system of trust accounting to ensure ongoing compliance and avoid ethics charges.