How Attorneys Can Avoid Commingling Funds
When speaking with lawyers and bar association representatives across the county, we have found that many attorneys experience a great deal of confusion about trust accounting—particularly when it comes to commingling funds.
In this article, we’ll discuss the basics of fund commingling, the consequences of doing so, and how attorneys can avoid serious state bar violations by following proper trust accounting practices and using software designed specifically to support trust account compliance.
What Does Commingling Mean?
When a lawyer takes on a client and accepts money upfront from that client (or holds funds on the client’s behalf), the attorney accepts a fiduciary responsibility to appropriately and legally handle those funds. Those funds, commonly referred to as a retainer, typically must be deposited in the attorney’s IOLTA. Commingling of funds refers to the mixing of funds that are ethically and/or legally required to be kept separate (e.g., retainer funds that were supposed to be deposited in the IOLTA were put into the firm’s operating account).
Examples of fund commingling include:
- Mixing client funds with a law firm’s operating funds or a lawyer’s personal funds
- Using client funds to pay the firm’s business expenses or the lawyer’s personal expenses
- Preemptively pulling client funds from the IOLTA before the attorney earned that money
Many attorneys may accidentally engage in commingling due to confusion over which funds qualify as client funds that must be held in trust and which funds can be deposited into the firm’s operating account.
For example, when a client pays a lawyer’s fees, sometimes the fees may be deposited directly into an operating account. But in other circumstances, a client’s payment may simply represent an advance of money that the lawyer can bill against as they perform work for the client.
In the latter situation, until the lawyer performs the work and invoices for that work to the client, those advanced funds constitute the client’s property and must be held in a trust account by the attorney.
Potential Consequences of Commingling Funds
If a lawyer accidentally or intentionally engages in the commingling of funds, they can face various professional and legal sanctions. Commingling of funds by a lawyer constitutes a violation of the state bar’s rules of professional conduct. This can subject the attorney to discipline by the state bar, which can include a reprimand, suspension from the practice of law, or in particularly egregious circumstances, disbarment.
Commingling of client funds also can constitute conversion, which may entitle the client to file a lawsuit against the lawyer to recover the funds belonging to the client that have been lost due to the lawyer’s commingling. In some states, conversion itself also constitutes an ethical violation under the state’s rules of professional conduct.
Avoid Commingling by Establishing Separate Operating and Trust Accounts
Lawyers can avoid the risks of commingling funds by having two separate accounts: a trust account (also referred to as an IOLTA) for holding client and third-party funds, and an operating account for collecting the fees the lawyer is legally entitled to and from which to pay their expenses. (Note: under some circumstances, state bars require law firms to open trust accounts.)
These trust accounts are usually subject to specific requirements, such as being held at a bank with physical branches within the state. Depending on the bar, lawyers are also required to take certain actions with their trust account(s), including:
- Reporting overdrafts to the state bar
- Forwarding all accrued interest to the bar
- Providing copies of canceled checks
- Designating the account specifically as a trust account
While some law firms may only need one single trust account to handle all client funds, for larger firms or those firms that handle complex legal matters, opening separate trust accounts for each client may be appropriate. Practicing detailed and regular trust accounting can also avoid this risk as well.
How to Ensure Trust Account Compliance
Payments from a trust account can generally be made to pay the costs and expenses of a client’s case, to pay settlement proceeds, or to pay the lawyer’s earned and undisputed fees. However, law firms are permitted to also deposit personal or business funds into a trust account to open the account or to cover account expenses, such as maintenance fees, since those expenses may not be paid from client or third-party funds.
You should always avoid disbursing uncleared funds from a trust account, since it runs the risk that those uncleared funds are never collected by your bank, which can lead either to you disbursing funds that legally belong to another client or party or your trust account being hit with insufficient funds.
State bar trust accounting rules usually require keeping a general ledger for an account, as well as separate client ledgers if more than one client’s or third party’s funds are kept in an account. These ledgers must be regularly reconciled against the account statements you receive from the bank.
You can use paper bookkeeping or Excel spreadsheets to keep track of your trust accounting, but specialized trust accounting software can make the process considerably easier.
If your firm uses electronic payment processing, it can prove extremely helpful to work with a payment processor dedicated to serving lawyers. Legal-specific processors who work with law firms will often have the capability to separate earned and unearned fees and to charge payment processing costs to your operating account rather than deducting it from client or third-party funds coming out of the trust account.
Lawyers have a legal and ethical obligation to perform accurate trust accounting to avoid the risk of commingling client funds. If you have questions about trust accounting or are looking at solutions to help you appropriately handle client and third-party funds, we’ll be glad to help. Contact LawPay to learn how we can help you safeguard your fiduciary duties and assist you with preventing the commingling of funds.