Interest: Firms will ditch legally aided work
An Interest on Lawyers’ Client Account (ILCA) scheme will likely push law firms to hold more client money outside of a client account to the detriment of consumer protection, the government has been warned.
It will also likely cause more financial failures as well as law firms pulling out of the legal aid market, according to PKF Francis Clark, a firm of accountants that audits around 200 law firms and writes the NatWest annual legal report [1].
Its response to the Ministry of Justice consultation [2] on an ILCA scheme said: “Whilst the law firm will need to be clear with the client about the risks of not using the client account, the SRA Accounts Rules allow firms to take this route if the client is fully informed and consents.”
As a result, firms could offer clients two price options depending on whether or not they used the firm’s client account. Alternatives included the firm’s business account and the client’s own bank account.
The law firm would need to be “totally transparent” with the client about the relative risks of holding their funds in an unregulated business account, “but an average consumer looking at the price differential and perhaps seeing a law firm that has existed for say 200 years and always advised their family are highly likely to be tempted by the lower cost option”.
The outcome would be that those consumers who most needed the protection of a client account would often not receive it.
Its analysis showed that while, for a typical top 50 law firm, interest income represented less than 0.1% of turnover, this rose to around 6% for the rest of the profession, reaching 15% for some.
Similarly, interest income profits amounted to less than 1% of a top 50 firm’s profits, but outside of the top 100 this rose to 20%-30%.
It therefore “feels inevitable” that an ILCA scheme “would result in a significant increase in the instances of financial failures in the legal sector”.
PKF pointed out too that any gain for government revenues would be offset by lost income tax from firms’ reduced profits.
Firms would also need to increase their charges. “Consequently those consumers who are least able to pay additional costs for legal services and those that are least well positioned to understand the risks associated with client money will suffer the costs.”
The proposed scheme would apply to interest earned on reserved legal activities only and the response questioned how law firms holding money in pooled client accounts would be expected apportion the interest between reserved and non-reserved work.
PKF said its discussions with firms that do publicly funded work indicated that many would withdraw from it if the ILCA scheme was introduced, again to the detriment of vulnerable consumers.
“In our experience there are a large volume of law firms where public funded work is a relatively small element of their business (say less than 10%).
“Whilst for various reasons these firms like to be able to offer this service to clients it will become financially unviable for many to continue with this work given the large administrative burdens it already suffers from along with the low rates for legal aid.”
In its response, the Conveyancing Association (CA) argued that the scheme would cause “significant and unintended harm to conveyancing firms and consumers”.
It said: “Client account interest is not a surplus or windfall. For many conveyancing practices, this income contributes directly to meeting the substantial and rising costs of operating a law firm generally, and compliant client accounts in particular, including banking charges, specialist accounting systems, external audits, internal controls, and fraud prevention measures that exist primarily to protect consumers.”
The consultation underestimated the fact that costs would be passed on to consumers, the CA said, and the scheme would exacerbate growing difficulties with opening and maintaining client accounts “due to bank de-risking and anti-money laundering”.
It added: “The consequences of the change would benefit the wealthy client at the expense of the less well-off.
“This is because the interest earned will be higher on higher value amounts, but if firms have to increase their fees to compensate for the loss of interest then this will need to be one fee across the board.
“Under the current system the wealthier clients are paying more but under any new system all clients would be paying the same.”
The Ministry of Justice last week extended the closing date for consultation responses by a month to 9 March.
Birmingham Law Society’s response blasted the proposals as a “stealth tax on legal services” [3].