How do law firms handle trust accounting and bookkeeping?
Trust accounting is one of the most regulated aspects of running a law practice. State bar associations require attorneys to keep client funds completely separate from the firm’s operating money. Violate these rules and you’re looking at discipline, malpractice claims, or disbarment.
The foundation is an IOLTA account (Interest on Lawyers Trust Accounts). This pooled trust account holds client retainers, settlement proceeds, and any other funds you’re holding on behalf of clients. The money doesn’t belong to the firm until it’s earned. When someone pays a $15,000 retainer, that money sits in trust. You transfer funds to your operating account only as you bill time and earn fees.
Bookkeeping for trust accounts goes beyond standard small business bookkeeping because you’re tracking two layers. The trust account itself needs reconciliation like any bank account. But you also need individual client ledgers within that account showing exactly how much belongs to each client at any moment. You should be able to say “Client A has $4,200 in trust, Client B has $8,500” and have those numbers add up to your total trust balance.
Three-way reconciliation is the standard. You compare the bank statement balance against your trust account ledger balance and against the sum of all individual client ledgers. All three numbers must match. When they don’t, you have an error that needs to be found immediately. Monthly reconciliations are the minimum. Many firms reconcile more frequently.
Common mistakes include transferring funds before they’re earned, failing to maintain accurate client ledgers, and sloppy documentation. Your records should show what came in, from whom, for what matter, and where it went. State bars can audit these records, and incomplete documentation creates problems even when money is handled correctly.
Most professional services firms like law practices work with accountants who understand trust accounting rules specifically. The consequences of getting this wrong go beyond financial penalties, so proper setup and ongoing oversight are worth the investment. Someone unfamiliar with bar requirements can create compliance problems even with good intentions.
The Treasure Valley's Tax and Accounting Team
The Next Step:
A Short Conversation
Tell us what you're dealing with. We'll listen, answer your questions, and give you a straightforward quote.
More Questions
What is the difference between cash and accrual accounting?
Cash accounting records transactions when money actually moves. Accrual accounting records them when they're earned or owed, regardless of payment. The method you choose affects what your financial statements show and how you manage taxes.
Read answerHow do I set up a chart of accounts for my business?
Your chart of accounts organizes every transaction into categories that match how your business operates. Start with the five main account types, then customize with specific accounts for your industry and the financial information you need to make decisions.
Read answerShould I use accrual or cash accounting for my restaurant?
Most restaurants use cash accounting because it's simpler and matches how the business actually operates. Accrual becomes necessary when you grow past IRS thresholds or need financial statements for investors and lenders.
Read answerHow do I track marketing and advertising expenses as a realtor?
Use a dedicated business card for all marketing spend and set up subcategories in your accounting software. Breaking expenses into digital ads, print, signage, and photography helps with tax deductions and shows you where your marketing dollars actually go.
Read answerWhat is the difference between completed contract and percentage of completion accounting?
Completed contract recognizes all revenue when a project finishes. Percentage of completion recognizes revenue as work progresses. The method you use affects when you pay taxes and how your financial statements look to banks and bonding companies.
Read answerCan I deduct food waste as a business expense?
Food waste is deductible, but not as a separate line item. It's captured through your cost of goods sold calculation. When you throw out spoiled inventory, that cost is already reducing your taxable income.
Read answer
