All 50 states in the U.S., Washington D.C., the U.S. Virgin Islands, and all Canadian provinces and territories have IOLTA programs that law firms must adhere to or face serious consequences.
It’s a known fact that mismanagement of IOLTA accounts (intentional or not) can lead to big problems for attorneys including public sanctions, suspensions and disbarment.
Attorneys who borrow for case costs and working capital and pledge their legal fee as collateral also need to keep their IOLTA accounts in tip-top shape. While a lien for the loan amount is never placed directly on the IOLTA account, lenders may ask to see IOLTA activity as part of the monitoring arrangement.
We’ve assembled the basic Do’s and Don’ts of an IOLTA account referencing some of the honest mistakes, mishaps, and shenanigans that have cost some attorneys big. Has it been a while since you’ve visited your Stats Bar’s rules regarding IOLTA accounts? Check out our list below to brush up.
How do I pay for firm operating expenses?
DO: have a separate checking account, known as an operating account, containing the firm’s funds. An operating account should not contain any client funds, only earned fees and costs. For many firms, payments from clients are deposited in their trust account first, and transferred to the operating account once fees are earned or expenses paid, although sometimes payment can go directly to the operating account if it is entirely for fees already earned.
TIP: Get the checks from your trust account and from your operating account in different colors so you easily know which account you’re working with.
DON’T: pay for everyday or any firm expenses out of the IOLTA account. Earned fees and paid costs should go from the IOLTA account to the operating account, and firm expenses paid out of the operating account. It’s important to keep track of which client’s money is moving into and out of an IOLTA account, and properly using an operating account makes a clear and easy to follow paper trail. Even paying for something as innocent as bar registration fees directly out of an IOLTA account can result in a public reprimand.
DON’T: borrow money from the trust account to pay for unexpected expenses or cover a period of low cash flow – even if its a small amount for a short period of time. The only money that comes out of the IOLTA account to the firm is legitimately earned money.
Where do I put this check from a client?
DO: put it in the IOLTA account. Also account for the money on a ledger for the IOLTA account, and on a separate ledger for the particular client. A $5,000 retainer from Mr. Jones should be noted on the IOLTA account, and also on a separate balance sheet for Mr. Jones, so you always know how much of Mr. Jones’s money is in the IOLTA account. Payments that are partially earned and partially unearned go to the IOLTA account.
DON’T: put it in a personal or operating account.
How do I take money out of the IOLTA account?
DO: take earned money out and notify the client. Most states require attorneys to notify clients of costs and fees before disbursing the money from their IOLTA account and have different rules about notice, waiting periods, and client approval, so check your local rules.
Be careful to wait for checks from a client to clear before taking money out on behalf of that client. If you take the money out before the check has cleared, you’re taking money from another client. Note that large checks from insurance companies and corporate defendants can take longer than usual to clear. As long as these requirements are taken care of, simply transfer the money. Most lawyers keep both accounts at the same bank, so the transfer should be easy. Overdrawing your IOLTA account because you didn’t wait for clearance will be automatically reported to legal ethics bodies in many states.
DON’T: borrow money or take an “advance” on future fees you know you will earn. Also do not make cash withdrawals out of an IOLTA account because it is important for IOLTA accounts to have records of where money is going and why.
TIP: Don’t use an IOLTA account as collateral on a gambling debt, like a (former) attorney in New Jersey did. In Re Augustin, 208 N.J. 594 (2012).
When should I take earned money out of the IOLTA account?
DO: withdraw money promptly when the fees have been earned in full. Even if your accounting is perfect and your intentions honorable, leaving earned money in the IOLTA account is an unethical comingling of attorney and client funds.
DON’T: Use the IOLTA account as a rainy day fund. A two-year suspension was issued in Ohio to an attorney who left earned contingency fees in his IOLTA account for long periods to cover unexpected expenses. If you need a rainy day fund, get a separate account for that purpose, but don’t repurpose your IOLTA account.
I just got a settlement/award for a client, what should I do with it?
DO: put it in the IOLTA account. Pay any lienholders and creditors with an interest in the lawsuit, then pay yourself and the client. Make sure that liens are paid accurately, and that the lien holder knows who and what the payment is for.
DON’T: wait. Attorneys have been permanently disbarred for failing to diligently pay liens & debts and keeping client funds in escrow for their own personal use.
DON’T: give clients their award money before actually receiving it, even if you’re sure you’ll get it eventually and there is enough money in the account to cover other client expenses. Even with the best intentions (his clients needed money urgently) a New York attorney was publicly censured for giving settlements and awards to clients before receiving the money from defendants and depositing it in his trust account.
How do I keep track of all the money in my IOLTA account?
DO: keep accounts for each individual client so you always know how much money in your IOLTA account belongs to each client. Keep an account of the whole IOLTA account and check the client accounts against it regularly. Check your records against the bank’s account balance to make sure that your records are accurate. Make a note on the check the client and the reason for the withdrawal to create a record at the bank to back up your own records whenever you withdraw from the IOLTA account. Check your state’s rules, as some states have specific accounting requirements for attorneys.
DON’T: rely on the bank for everything. As a lawyer, you are responsible for that money, so take responsibility. A lawyer in South Carolina failed to keep records on his trust account for 20 years, and was unable to identify all of the money in his account. He was eventually able to reconcile the accounts, but not before a public reprimand. Pay attention to your state’s accounting requirements; this solo attorney from Indianawas publicly reprimanded for sloppy accounting and poor records.
I believe my clients should be receiving the interest earned on their funds in escrow, how do I make that happen?
DO: calculate your client’s anticipated interest in order to decide whether to place your client’s funds in the IOLTA or if you should set up a segregated interest bearing account for your client. For personal injury attorneys, who receive funds then promptly distribute them to lienholders, the client and themselves, a very nominal amount of interest is likely to be earned and likely will have to be put into the IOLTA account. IOLTA accounts are only used to hold funds that will not earn enough interest to pay for the administration of the interest bearing account. Client funds that will earn income in excess of administration fees should be placed in a separate, income-bearing, trust account for the benefit of the client. Most states leave the decision whether to place money in an IOLTA account or an account for the client’s benefit up to the attorney’s discretion. Funds that will generate enough interest revenue to be profitable should be put in an individual interest-bearing trust, with interest being returned to the client. If the money would not be profitable, it should be put into your IOLTA account. Some states use additional criteria to determine where money should go, so be sure to double check.
DON’T: place your client’s funds in a separate interest bearing account until you know how your state will require you to report on your decision. Some states leave the decision whether to place funds in an IOLTA account in the sole discretion of the attorney, and make the decision unreviewable for purposes of ethical violations. Other states use a good faith standard to review an attorney’s decision. A few states even make the decision unreviewable only in one direction, creating an incentive for attorneys to choose one type of account over the other. Most states with a mandatory IOLTA program require any lawyer holding client funds in the state to have an IOLTA account. Many of those states also require lawyers to submit annual paperwork certifying compliance with IOLTA requirements. A few have voluntary or opt-out IOLTA programs.
Check your local rules of professional conduct for details, in most states IOLTA rules are part of Rule 1.15 – Here are the links:
How do I report taxes for an IOLTA account vs my clients’ segregated interest bearing trust accounts?
DO: advise your client that the interest earned in a segregated interest-bearing account is taxable to the client and should be report by them. The attorney should also keep detailed records of this account on the client’s accounting ledger created by the firm.
DON’T: report the IOLTA account’s earned interest using your personal or firm employer tax identification numbers for the interest on documents generated by your firm. An IRS ruling concerning IOLTAs confirms that the interest on IOLTA accounts need not be reported by attorneys or clients. Typically the TIN of your local bar association or the IOLTA program recipient should be used, check with your local bar association for details on how to handle this.
What if I have a serious accident and I can’t work?
DO: have a back up plan. It’s important to have a back up signer, who can sign for your trust account in that situation. Having the necessary forms completed in advance at your bank is important, as the bank may be reluctant to allow another to sign for your trust account based on anything else.
DON’T: hope that you won’t get hurt. Ok, it’s ok to hope, but don’t avoid planning for the worst.
In any case, check your state bar association’s requirements. In many states some of these measures are required, while in others they are simply recommendations. With a solid accounting and documentation process, treating IOLTA accounts properly should be a cinch – and save potential headaches down the road.
If you are considering borrowing for working capital or case costs, give your IOLTA records a glance to be sure everything is in shape. Its just a small step on your way to the financial success of your personal injury firm.