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
Can real estate agents deduct client gifts?
Yes, but only up to $25 per person per year. That's a federal limit that applies to all business gifts, which means your $200 closing gift only yields a $25 tax deduction.
Read answerWhat is the Qualified Business Income (QBI) deduction?
The QBI deduction lets eligible business owners deduct up to 20% of their qualified business income from their taxable income. It applies to pass-through entities like sole proprietorships, partnerships, S corporations, and most LLCs.
Read answerShould my consulting business be an LLC or S-corp?
The question isn't really either/or. LLC is a legal structure while S-corp is a tax election. Most consultants start as LLCs, then elect S-corp taxation once profits consistently exceed $40,000 to $50,000.
Read answerHow do I handle change orders in my accounting?
Record change orders as soon as they're approved, tracking both the additional revenue and the associated costs separately from the original contract. This lets you see whether change orders are actually profitable.
Read answerCan I switch from QuickBooks Desktop to Online?
Yes, Intuit provides a migration tool to move your data from Desktop to Online. But not everything transfers, and some businesses find Desktop's features better suited to their needs.
Read answerHow do I get an EIN for my new business?
Apply for free on the IRS website and receive your EIN immediately. You'll need your legal business name, entity type, SSN, and formation date ready before starting the online application.
Read answer
