Law Firm Accounting: A Practical Guide to Trust Money and the Firm's Books

Law firm accounting means keeping two sets of records: the firm’s own books, and separate records of money the firm holds for clients in trust. The firm’s books show what it earns, spends and owns; the trust records show, client by client, money that belongs to someone else until it is earned or paid out.

The firm’s own books work like any small business’s. Trust money is what makes legal accounting different, and the rules for it differ by state, so each point below names the rule it comes from.

What makes accounting for law firms different

Client money stays apart from the firm’s money

The ABA’s model rule, which binds only where a state adopts it, keeps client property separate from the lawyer’s own, with client funds in a separate account ABA Model Rule 1.15(a) [1]. New York treats a lawyer holding other people’s money as a fiduciary and bars commingling it with the lawyer’s own New York, 22 NYCRR 1200.0 Rule 1.15(a) [2]. Florida requires a separate trust account, clearly labeled as one R. Regulating Fla. Bar 5-1.1(a)(1) [3].

So a deposit into trust is not fee income. In the firm’s books it is matched by a liability: money owed to clients. Intuit’s help for QuickBooks Online, for example, records client retainers in a liability account, with a separate trust bank account where the firm keeps the money apart [4].

The firm’s own money may sit in trust only in narrow cases. The ABA model allows it only to pay bank service charges on the account ABA Model Rule 1.15(b) [1]. Illinois also allows enough to meet a minimum balance Ill. RPC 1.15(c) [5].

Fees paid in advance

Under the ABA model, fees and expenses paid in advance go into trust and come out only as fees are earned or expenses incurred ABA Model Rule 1.15(c) [1]. States treat flat fees differently. California lets a flat fee paid in advance go into the operating account if the client gets written disclosures Cal. RPC 1.15(b) [6]. Illinois sends fixed fees and engagement retainers to the lawyer’s own account Ill. RPC 1.15(d) [5].

Earned money has a deadline too. California requires the lawyer’s share to be withdrawn at the earliest reasonable time after it becomes fixed Cal. RPC 1.15(c)(2) [6]. In California a disputed portion stays in trust until the dispute is finally resolved Cal. RPC 1.15(c)(2) [6]; the ABA model rule keeps a disputed amount separate until resolved ABA Model Rule 1.15(e) [1].

A ledger for every client

The ABA’s model records rules call for a journal of every trust deposit and payment ABA Model Trust Account Records Rule 1(a) [7] and a ledger for each trust client ABA Model Trust Account Records Rule 1(b) [7]. Florida requires a ledger card or page for each client or matter R. Regulating Fla. Bar 5-1.2(b)(7) [8].

Regular reconciliation

The schedule differs by state. California requires a monthly balancing of the client ledgers, the account journal and the bank records Cal. RPC 1.15, Standards (1)(d) [6]. Florida compares the reconciled trust balance with the total of the client ledgers every month R. Regulating Fla. Bar 5-1.2(d)(1)(B) [8]. Illinois requires three-way reconciliation reports at least quarterly Ill. RPC 1.15A(b)(7) [9]. In California, the licensee designated for each trust account performs or supervises its monthly reconciliation California, State Bar Rule 2.5(E) [10].

The firm’s own books

The operating side is ordinary double-entry bookkeeping. A general ledger records every transaction in the accounts listed in the firm’s chart of accounts: the operating bank account, fees clients owe, expenses, fee income and the owners’ capital.

A law firm’s general ledger accounts add a few that other businesses rarely need: the trust bank account and the matching liability to clients. A firm that pays costs on a client’s behalf, such as filing fees, and bills them back can track those in an account of their own.

Cash or accrual accounting

Cash basis records fee income when the client pays. Accrual basis records it when the firm bills, and records costs when they are incurred rather than when they are paid. The two give different profit figures for any month with unpaid invoices. Legal products with their own ledger can report either way: CosmoLex’s balance sheet runs on a cash or accrual basis [11], and so does MyCase Accounting’s general ledger report [12]. Money in trust is not the firm’s income until it is earned. On a cash basis the fee is recorded when it moves to the operating account; on an accrual basis, when it is billed.

How a legal fee moves through the books

The trust bank balance and the amount owed to clients match at every step, and the client’s ledger shows the same figure. Checking those three figures against each other is what a three-way reconciliation does.

The order matters. Taken out before it is earned, the fee would be client money in the firm’s hands. Left in trust after it is earned, it would be the firm’s money mixed with the client’s, which the ABA’s comment describes as normally not allowed ABA Model Rule 1.15 cmt. [2] [13]. The ABA’s model records rules allow an electronic transfer of earned fees to the lawyer only when they are not in dispute ABA Model Trust Account Records Rule 2, Comment [14], and Florida sets a similar limit R. Regulating Fla. Bar 5-1.2(e) [8].

Records, reports and retention

How long trust records are kept differs by state. Florida keeps them for six years after a representation ends R. Regulating Fla. Bar 5-1.2(f) [8], Illinois for seven Ill. RPC 1.15A(a) [9] and Texas for five Tex. Disciplinary R. Prof'l Conduct 1.15(a) [1.14(a)] [15].

Some states add yearly reporting. Florida lawyers file a trust accounting certificate each year R. Regulating Fla. Bar 5-1.2(d)(5) [8]. California licensees report each year whether they handled client funds; those responsible for client funds also register each trust account and complete a self-assessment California, State Bar Rule 2.5(A)(1)-(3) [10]. A California licensee the State Bar selects must also complete a compliance review by a State Bar-approved CPA, at the licensee’s expense California, State Bar Rule 2.6(A) [10].

The rules describe records, not tools. Florida and Illinois accept records kept digitally, as long as they can be produced or printed R. Regulating Fla. Bar 5-1.2(b) (introductory text) [8]Ill. RPC 1.15A(b) (closing sentence) [9]. A spreadsheet can hold the records; software ties each entry to a client and builds the reconciliation reports.

Where software fits in law firm accounting

Legal accounting software keeps a ledger for each trust client, tracks every deposit and payment against a matter, and moves earned fees from trust to operating when an invoice is paid. Products split on where the firm’s general ledger lives.

• A ledger built into the legal product. Clio includes Clio Accounting on every plan [16]. PracticePanther keeps its general ledger on Business Pro only [17], and CosmoLex on Pro only [18].
• A ledger sold as an add-on. MyCase Accounting, sold with Pro or Advanced, costs from $39 per user per month, for each user given an accounting license, billing term not stated [19–24].
• A legal product on top of QuickBooks Online. LeanLaw requires QuickBooks Online and posts its trust entries to the firm’s trust bank and liability accounts there [25]. Smokeball keeps billing and trust ledgers and leaves the general ledger to QuickBooks Online [26].

Several products let an outside accountant work in the books. QuickBooks Online plans from Simple Start up include free accountant firm users [27]. Clio Starter includes one free accountant license [16], and MyCase Accounting adds a free license for an outside accountant [22].

The law firm accounting software comparison costs each route for a five-user firm. The trust accounting software comparison shows where three-way reconciliation starts, the law firm bookkeeping software guide covers the general ledger alone, and QuickBooks for lawyers covers the QuickBooks Online route.