Managing client money carries responsibilities that go beyond maintaining accurate bookkeeping records. When your law firm receives or holds trust money, specific legal and accounting requirements apply to how those funds are received, recorded, held and disbursed.
The exact requirements depend on the legislation and regulatory framework applying to your practice. However, the underlying principle is consistent: your firm must be able to account accurately for money held on behalf of clients or other people.
Small errors can become significant compliance issues if they are not identified and addressed promptly. Common problems include incomplete trust records, incorrect ledger balances, unauthorised withdrawals, poor reconciliation processes and inadequate oversight of trust transactions. Understanding where these mistakes occur can help your firm strengthen its controls and prepare more effectively for regulatory reviews or external examinations.
What Counts as Trust Money?
Trust money broadly refers to money entrusted to a law practice in connection with the provision of legal services. Depending on the applicable legislation, this can include money received in advance for legal costs, controlled money, transit money and other money that the practice is authorised to deal with on behalf of another person.
The distinction matters because trust money cannot simply be treated like ordinary business income. Your firm needs appropriate systems to identify trust money when it is received and ensure it is recorded and handled through the correct trust accounting processes. A failure to correctly identify the nature of a payment can therefore create problems further down the accounting process.
A Practical Breakdown of Trust Accounting Rules can provide a more detailed explanation of how trust money should be received, recorded, held and disbursed.
Mistake 1: Mixing Trust Money With Office Funds
One of the most serious risks is treating client money as though it belongs to the practice.
Trust money must be kept separate from money belonging to the law firm. For example, money received on account of legal costs may need to remain in the trust account until it can properly be withdrawn under the applicable rules.
Depositing trust money into an office account, transferring money without the required authority, or otherwise intermixing trust and office funds can create a trust account deficiency or irregularity. Regulators specifically identify intermixing trust money with other money and unauthorised withdrawals as trust account irregularities.
Mistake 2: Failing to Keep Complete Trust Records
A trust account is only as reliable as the records supporting it. Your firm needs records that provide a complete and accurate history of trust money received, transferred and paid out. Missing entries, incorrect descriptions, unexplained adjustments or outdated ledgers can make it difficult to establish the balance held for an individual client.
The Law Society of NSW describes proper trust record-keeping as essential to maintaining a complete historical record of trust transactions. A practical warning sign is when the accounting records require manual reconstruction before your firm can explain a client ledger balance.
Your bookkeeping and trust accounting processes should make that information readily traceable.
Mistake 3: Not Reconciling Trust Ledgers Properly
Regular reconciliation is an important control for identifying discrepancies between the trust bank account, trust accounting records and individual client ledgers. If your firm does not identify differences promptly, an incorrect balance can remain unresolved and become harder to investigate later. Common warning signs can include:
- Client ledger balances that do not agree with the underlying records
- Unexplained differences between bank and ledger balances
- Transactions that have not been properly allocated
- Dormant or unexplained balances
- Transfers that have not been appropriately reviewed
For firms that need specialist support with these requirements, Befree provides legal trust accounting services designed around trust reconciliations, client ledgers and external examination preparation.
Mistake 4: Making Withdrawals Without the Required Authority
Trust money cannot be withdrawn simply because the firm considers the money to be payable. The withdrawal process must comply with the requirements applying to the relevant trust account and transaction. Depending on the circumstances, this can involve client authority, billing requirements, appropriate approvals or other prescribed procedures.
This is particularly important when transferring money from a client ledger to the firm’s office account for legal fees or other expenses. Your firm should have a documented approval process that makes it clear who can authorise trust transactions and what supporting documentation is required.
Mistake 5: Relying on General Accounting Software for Trust Records
Ordinary business accounting software is not necessarily suitable for maintaining statutory trust records. Trust accounting systems have specific requirements around record integrity, transaction histories and the ability to account for money held for individual clients.
Your firm can still use ordinary accounting software for its general business accounts. The important point is to distinguish the systems used for office accounting from those used to maintain statutory trust records. Before changing accounting systems, your firm should confirm that the proposed trust accounting solution meets the requirements applying in the relevant jurisdiction.
Mistake 6: Treating Trust Accounting as a Bookkeeping Task
Bookkeeping support can play an important role in maintaining accurate financial records, but responsibility for trust accounting cannot simply be transferred to a bookkeeper.
The Victorian Legal Services Board and Commissioner specifically reminds principals that they cannot delegate their responsibilities for law practice trust accounts to other staff, including bookkeepers or practice managers. This means your firm needs appropriate oversight even where accounting or administrative work is handled by another employee or external provider. Clear responsibilities should be established for:
- Reviewing trust reconciliations
- Authorising transactions
- Monitoring unusual or unresolved balances
- Maintaining supporting documentation
- Reviewing trust accounting reports
- Responding to identified discrepancies
The aim is not to create unnecessary administration. It is to ensure there is appropriate accountability around client money.
Strengthening Your Trust Accounting Controls
A strong trust accounting process should make errors easier to identify before they become larger compliance problems. Your firm can strengthen its controls by:
- Using trust accounting software that meets the applicable regulatory requirements
- Reconciling trust accounts regularly
- Reviewing individual client ledger balances
- Maintaining complete supporting documentation
- Restricting transaction authority to appropriately authorised people
- Investigating unexplained balances promptly
- Keeping trust records up to date
- Reviewing procedures when staff, software or banking arrangements change
The specific controls required will depend on your jurisdiction and the nature of your practice. For firms that need additional support with the broader financial record-keeping function, outsourced bookkeeping services can help maintain accurate financial records and support the reconciliation and reporting processes around your practice.
What Happens When a Trust Accounting Irregularity is Identified?
Finding an error does not mean your firm should simply correct the ledger and move on. Certain jurisdictions impose mandatory reporting obligations for trust account deficiencies or irregularities, including suspected irregularities. In NSW, for example, the Law Society states that all trust account deficiencies and irregularities must be reported as soon as practicable, regardless of the amount involved.
The appropriate response depends on the nature of the issue and the legislation applying to your practice. Your firm should therefore have a process for escalating suspected deficiencies or irregularities to the appropriate responsible person and determining whether notification to the relevant regulatory authority is required.
Building a More Reliable Trust Accounting Process
Trust accounting compliance depends on more than getting individual transactions right. Your firm needs reliable systems, appropriate controls and clear accountability for the money it holds on behalf of clients and other parties. The most common risks arise when trust money is incorrectly classified, records are incomplete, reconciliations are not properly reviewed, withdrawals lack the required authority or responsibility for trust accounting is treated as purely administrative.
Accurate bookkeeping and regular reconciliations can give your firm greater control over its financial records and reduce the administrative burden of managing them internally. Befree provides outsourced bookkeeping services for businesses that need reliable day-to-day financial support. Find out how our bookkeeping services can help keep your firm’s financial records accurate, organised and up to date.