Law Firm Financial Housekeeping – prevention versus cure

Elaine Pasini, Head of Communications at ILFM

By Elaine Pasini, Head of Communications, at Legal Futures Associate Institute of Legal Finance & Management (ILFM)

Does your firm have monies sitting on client account that are residual?

Residual balances come up time again in our conversations within legal finance, as well as at conferences, and it’s a moot point that can be overlooked too easily if systems, processes, and internal communications aren’t in place.

What’s a residual balance?

When a law firm finds themselves holding onto client money at the end of a matter, which they are unable to return to the rightful recipient of that money. Ultimately, those monies are left unclaimed and are sitting in a firm’s client account.

This happens more than most of us would imagine, but what happens when those funds are forgotten about and when is a firm breaching the Accounts Rules?

A residual balance is client money. Client money is defined in Rule 2.1 of the SRA Accounts Rules. Under Rule 2.5, law firms are required to return client money promptly to the client, or the third party for whom the money is held as soon as there is no longer any proper reason to hold those funds. This extends to all balances, regardless of how small the amount is.

Why are there residual balances sitting in a client account? More often than not, the reason could be one of the following:

  • Balances acquired following an acquisition
  • If the firm returns the funds via a cheque, the client may not cash it.
  • The client’s contact information has changed.
  • The client will not provide instructions regarding the funds

It is quite common for law firms to hold small amounts of residual balances and in most situations legal cashiers can remedy banking situations or help their fee earning colleagues to identify the reason client funds are being held.

Legal Futures highlighted the case whereby a North London law firm found itself in front of and fined heavily by the SRA as it had inadequate processes and procedures in place to deal with residual balances that built up on their inactive, closed matters, and failed to send annual letters to clients. This, the SRA said, would have raised a red flag to remind the law firm that these monies were sitting in client accounts.

The ILFM (Institute of Legal Finance & Management) offers advice and training around residual balances, but quick reminders of what to do include, monitoring balances and returning funds promptly to the client/client account/third party, where possible. Thereafter, firms should be evidencing the attempts made to trace clients in order to return the money.

Firms must remember that as well as a possible breach of the SRA Accounts Rules, paragraphs 4.2 and 5.2 of the SRA Codes of Conduct for Solicitors and Firms provide a requirement to safeguard/protect money and assets entrusted to the firm by clients and others.

How can residual balances be effectively identified and monitored?

Robust systems and controls should be implemented and communicated firmwide. This cannot be overemphasised.

Practice Management Systems can be set up to provide specific reports on matters where there has been no movement on client accounts for a certain amount of time. The Law Society recommends reviewing outstanding client balances at least every six months. The ILFM recommends quarterly.

Creating a central register – documenting attempts to trace and repay monies to the rightful owner as well as any payments made to charity – will ensure appropriate accounting records are kept, in line with SRA guidance.

If the balance is over £500, the firm must apply to the SRA for approval to withdraw the funds from the client account.

The ILFM works with Access to Justice on residual balances, but of course there are other charities that gratefully accept donations and most charities will now provide an indemnity against any legitimate claim subsequently made for the sum they have received.

Residual balances are still a common reason for a qualified accountant’s report, particularly if systematic in nature and where a practice has neglected to give sufficient attention to these funds.

When it comes to law firm financial housekeeping, prevention is better than the cure!


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