What records must a business that holds client or third-party money keep, and what will an examiner look at?

What counts as holding client or third-party money?

Money is client money when it belongs wholly or partly to someone else and a rule that governs you reaches it. Washington's RPC 1.15A covers property of clients or third persons that a lawyer holds in connection with a representation, and escrow funds a lawyer holds for closing a real estate or personal property transaction; a comment excludes property held solely as a fiduciary, such as trustee, guardian or executor, where statute or other law controls the lawyer's investment duties. RCW 18.85.285 makes real estate transaction funds that a licensee controls trust funds.

Unlike operating money, it stays apart. RPC 1.15A bars a lawyer from using, converting, borrowing or pledging it for the lawyer's own use and requires it to be held separate from the lawyer's property; RCW 18.85.285 requires real estate licensees to keep client funds physically segregated from their own.

Whose rules govern you, and how do you find them?

These duties come from licensing rules, not tax guidance, and they differ by state and profession. Treat Washington's as a map of what to look for, not as your requirements:

To find your rule set, work through these steps in order:

1. For each account holding others' money, note the licensed activity behind it, the state whose license you used, where the account is held and where the clients are.
2. Find each body's trust-account rules, guidance and forms.
3. Match every account to each rule set whose scope reaches it; if more than one does, see the section on more than one state.

What must the client ledgers and account records show?

Washington's RPC 1.15B requires lawyers to keep current trust records, electronic or manual, that include at least the following:

• Account register. For each trust account, record every receipt, disbursement and transfer with the client matter, date, check number, payor or payee, and new account balance.
• Client ledgers. For each client, record every receipt, disbursement and transfer with its purpose, date, check number, payor or payee, and new client balance.
• Supporting records. Keep fee agreements, statements or accountings to clients and third parties, bills, documents supporting each disbursement, bank statements, deposit slips, cancelled checks, all reconciliations, and the parts of client files needed to understand the transactions.

RPC 1.15A also requires prompt notice of each receipt, a written accounting after distribution or on request, and one at least annually to anyone whose funds you hold.

For real estate firms, WAC 308-124C-105 requires the designated broker to keep these records:

• A duplicate receipt book or cash receipts journal of all receipts
• Sequentially numbered, nonduplicative checks with a check register, cash disbursements journal or check stubs
• Validated duplicate deposit slips or daily verified bank deposits
• A client accounting ledger for each transaction or management or collection account, with separate ledger sheets for each tenant (including security deposit), lessee, vendee or mortgagor
• Reconciled bank statements and canceled checks for all trust accounts
• A log of brokerage agreements, a copy of each contract, and a transaction folder for each transaction or collection account
• For each outgoing wire, a follow-up hard-copy debit memo and, in the transaction file, a copy of the owner's signed instructions naming the receiving entity and account number (WAC 308-124E-105)

WAC 308-124E-105 adds a ledger for each client and an "opening account" ledger for firm money that opens the account or keeps it from being closed. Under the same rule, credit entries must show the deposit's date, amount and item covered; debit entries, the check's date, number, amount, payee and item covered; and each check stub or register line, the client ledger debited, agreeing exactly with the check.

These records must agree. RPC 1.15A requires a lawyer to reconcile the register balance to the bank statement and to the combined total of all client ledgers; the WSBA booklet Managing Client Trust Accounts says to post each register entry to a client ledger simultaneously. WAC 308-124E-105 requires a real estate firm's checkbook balance, bank reconciliation and client ledgers, including the "open account" ledger, to agree at all times. Client ledgers kept in a spreadsheet apart from the register drift until neither proves the other, so post both in one system from the same document.

What may go into and come out of the account?

Washington's RPC 1.15A requires money belonging partly to a client and partly, presently or potentially, to the lawyer to be deposited and kept in trust, with the lawyer's portion withdrawn at the earliest reasonable time. Otherwise, it allows lawyer money in trust only in these cases:

• Money to pay bank charges, only in an amount reasonably sufficient for that purpose
• Money necessary to restore appropriate balances

Except as RPC 1.5(f) provides, RPC 1.15A keeps advance fees and expenses in trust until earned or incurred. Client costs may be paid when needed, but earned fees may be withdrawn only after reasonable notice to the client through a billing statement or other document; the WSBA booklet says they must then be removed promptly once the client has had an opportunity to review the bill. RPC 1.15A keeps disputed property in trust until the dispute is resolved and requires undisputed portions to be paid out promptly. Receipts are deposited intact, and withdrawals go to a named payee, never cash, by check or electronic transfer.

Washington's real estate rules differ in four ways:

• Firm money. WAC 308-124E-105 allows only a minimal amount to open the account or keep it open, and bars paying the firm's business expenses or its licensees' commissions from trust.
• Bank charges. The same WAC makes them business overhead, charged to the business account or billed on a separate monthly statement paid from it, except as WAC 308-124E-110 provides.
• Earned commissions. WAC 308-124E-110 requires a separate trust check to the firm for each commission after final closing, and WAC 308-124E-115 requires property management commissions to be withdrawn at least monthly.

• Paying out. WAC 308-124E-110 bars paying out sales trust funds before closing, or before a condition in the purchase and sale agreement occurs, without a written release from both purchaser and seller, unless the agreement ends on its own terms, when payment follows the agreement, or the funds go to the escrow agent both parties named in writing to close.

  WAC 308-124E-115 bars bank-preauthorized recurring payments, such as an owner's mortgage, from an account holding tenant security deposits or more than one client's money, and paying a security deposit to the owner or anyone else before the tenancy ends without the tenant's written agreement.

Why is one client's negative balance a breach when the account is positive?

RPC 1.15A says disbursements for a client or third person may not exceed that person's funds on deposit, and one person's funds must not be used for anyone else; WAC 308-124E-105 bars a real estate firm from disbursing more than it holds for that transaction or collection account. In a pooled account, a payment larger than one client's balance is funded by other clients while the total stays positive, so the bank balance proves nothing; only client ledgers agreed to the register and the bank show whose money is there. The WSBA's Monthly Reconciliation and Review Report asks whether any client ledger is negative and, if so, requires an explanation and corrective action.

The cause decides the fix:

Where client money is short, a Washington lawyer restores it from the lawyer's own money, under RPC 1.15A's exception for money necessary to restore appropriate balances. At a real estate firm, WAC 308-124E-110 requires the designated broker, when bank charges exceed interest and leave a sales trust account below its liability, to deposit business funds within one banking day of the notice; that text gives no route for other shortfalls, so ask the Department of Licensing.

Under Washington's ELC 15.4, banks holding lawyer trust accounts agree to report to the Washington State Bar Association any properly payable instrument presented against insufficient funds, honored or not, and a notified lawyer must promptly tell the Office of Disciplinary Counsel, with a full explanation of the cause. Whether a shortfall that caused no overdraft must be reported depends on your rule set; check before treating it as a bookkeeping fix.

What must you confirm before paying out?

Before each disbursement, confirm that the client's ledger covers it and that the deposit behind it has been collected. RPC 1.15A bars a lawyer from paying out before deposits have cleared and been collected, unless the lawyer personally guarantees all deposits under a written agreement with the bank, without recourse to the trust account. The WSBA booklet warns that banks often make funds available before collecting them and that even banks struggle to tell when funds have cleared. Because fraud can lead the remitting bank to recall a wire from a trust account, it says not to assume a wire deposit is collected when deposited; cashier's checks, money orders and certified checks take varying times, so ask your bank how long to wait. WAC 308-124E-105 bars a real estate firm from disbursing on wire transfer receipts until the deposit is verified.

So ask your bank whether each deposit has been collected, never rely on availability, and do not treat the bank's answer on a wire as a guarantee. Wait longer when the client is new, the sum is large or anyone presses for speed.

These checks do not confirm where the money goes: a bill or message changing a payee's payment details needs verifying before anything is paid, as a separate question. WAC 308-124E-105 requires a real estate firm's designated broker to keep the owner's signed instructions for every wire the firm sends.

How often must the account be reconciled, and who signs off?

RPC 1.15A requires a Washington lawyer to reconcile trust records as often as bank statements are generated or at least quarterly, and RPC 1.15B requires the reconciliations to be kept. The WSBA's Monthly Reconciliation and Review Report, completed monthly for each trust account, has a preparer line and a lawyer certification of personal review of the report, register, client ledgers, bank statement and cancelled checks, with all discrepancies investigated, identified and resolved within ten days of that review. Without that signed certification nothing shows the lawyer reviewed the reconciliation, so file it, dated, with the reconciliation.

WAC 308-124E-105 makes a real estate firm's designated broker responsible for a monthly trial balance of client ledgers, reconciled with the bank statement and check register.

Preparing the reconciliation statement and performing a three-way reconciliation are separate topics.

How long must the records be kept, and in what form?

RPC 1.15B requires a Washington lawyer's trust records, electronic or manual, to be kept at least seven years after the events they record, and arrangements for keeping them if the practice changes.

For real estate firms, WAC 308-124C-105 and 308-124C-110 set these conditions:

• Location. Records stay at one location where the firm is licensed, except that transactions closed for at least one year may move to one central facility in Washington, readily retrievable and available on demand, with a listing kept at the licensed office.
• Period. Records stay available for the director's inspection for a minimum of three years. The rule does not say what event starts the three years, so confirm it with the Department of Licensing before destroying anything. WAC 308-124E-105 also requires the cash receipts journal or duplicate receipts to be kept as a permanent record, and voided trust checks to be kept, with no period stated; keep both unless the Department confirms they may be destroyed.
• Electronic storage. It is allowed only if every document can be retrieved immediately and viewed and printed at the licensed office, from indexed storage on equipment kept in good repair.

The IRS's page on how long to keep records ties tax records, generally, to the return's period of limitations, a different clock. Keep client-fund records for the longest period any rule reaching them sets, counted from the event each rule names, or where a rule names none, as its regulator confirms.

How do the funds sit in your own books?

FASB's revenue standard, as issued in Accounting Standards Update 2014-09, bases revenue on the consideration you expect to be entitled to for your goods or services, excluding amounts collected on behalf of third parties, so money you collect only to pass on, such as a client's share of settlement proceeds or earnest money, is not your revenue. Advance fees differ: they pay for your own services, and RPC 1.15A holds them in trust until earned. WAC 308-124E-105 makes a real estate firm's trust balance equal its liability to clients plus its "open account" money. If you carry the trust account in your own general ledger, record a liability to clients equal to the total of the client ledgers, kept per client. Your own money in the account, such as that "open account" amount or a lawyer's bank-charge funds, stays your asset with its own ledger, as WAC 308-124E-105 requires for firms and the WSBA booklet recommends for lawyers.

How does one client's money move through all three records?

A Washington law firm's pooled trust account holds 8,000.00 for other clients. On 3 March, client Rivera pays a 2,000.00 cost advance, deposited intact; on 14 March, after the bank confirms it has been collected, the firm pays a court reporter 350.00 for Rivera's transcript by check 1042.

Rivera's client ledger:

The trust account register:

The firm's general ledger:

Rivera's ledger and the general ledger's "Client trust liability: Rivera" both end at 1,650.00; the register, the general ledger's trust bank account and total client trust liability, and the reconciled bank balance all show 9,650.00, of which 8,000.00 belongs to other clients. No revenue or expense account moved.

If your software imports the trust bank feed or syncs from trust-accounting software, match each imported client receipt and payment to that client's trust liability, and post bank charges, interest and your own deposits to their own ledgers; never let a bank rule send trust deposits to income, and at each reconciliation, check that the ledger's trust bank balance equals the register.

Who owns interest earned on client money?

RPC 1.15A requires Washington lawyer trust accounts to bear interest and sorts money only by whether it will produce a positive net return to the client. Money that cannot, being nominal or held briefly, goes into a pooled IOLTA account whose interest is paid to the Legal Foundation of Washington; money that can goes into a separate or sub-accounted account with the interest paid to the client, unless the client asks for IOLTA.

Washington's real estate rules split interest by account:

• Sales. RCW 18.85.285 requires a pooled interest-bearing account whose interest, net of reasonable bank charges, goes to the state treasurer for the housing trust fund and the real estate education program account. WAC 308-124E-110 uses it for trust funds of ten thousand dollars or less; a party depositing more must be told in writing of the option of a separate account paying the party the interest, or the pooled account if the parties agree in writing.
• Property management. WAC 308-124E-115 exempts these accounts from the interest requirement; an interest-bearing account for one owner's funds, set up on the owner's signed direction, accrues all interest to that owner, and individual accounts are not needed when all owners assign the interest to the firm. Interest on a tenant security-deposit account may go to the owner if a written agreement makes the firm the landlord's representative under RCW 59.18.270, and WAC 308-124E-105 keeps interest assigned to the firm out of the trust account.

WAC 308-124E-110 also requires a "Housing trust account interest" ledger for the pooled sales account, posted with the interest shown on each monthly statement and debited when interest is paid to the state or fees are charged; on a separate party account, interest and fees post to that party's ledger. WAC 308-124E-105 requires interest credited to a client to be recorded as a liability on that client's ledger.

What do you do with unidentified or dormant balances?

Never move an unexplained or stale balance into income; it still belongs to someone. A comment to RPC 1.15A says a Washington lawyer must take reasonable steps to locate the owner and, failing that, should treat the funds as unclaimed property; the WSBA booklet says the same of a balance no known client owns, after a reasonable effort to identify it. The comment cites chapter 63.29 RCW; the holder duties below are in chapter 63.30 RCW:

• Administrator. The Department of Revenue administers the chapter.
• Timing. The period before property is presumed abandoned depends on its type, so confirm with the Department which applies.
• Notice. Not more than 180 nor less than 60 days before reporting, send the apparent owner a notice by first-class mail if your records hold a deliverable address not shown invalid and the property is worth $50 or more, and by email too if the owner consented to email.
• Report and delivery. Report electronically unless the Department relieves you, and pay or deliver the property, on or before October 31 each year for the 12 months before July 1, unless the Department grants an extension you request before then.

What will an examiner look at?

In Washington, a lawyer can be examined without any complaint. ELC 15.1 authorizes the Office of Disciplinary Counsel to examine the books and records of any lawyer or law firm selected at random by bar number, examining the whole firm if the lawyer drawn is in one. The examination reviews and tests the controls for receiving, holding, disbursing and accounting for client money, and the RPC 1.15B records. ELC 15.2 requires the lawyer, subject only to the proper exercise of any privilege against self-incrimination, to produce forthwith every record and explanation requested and written authorization for the examiner to see trust and general accounts at the bank; failing to cooperate fully and promptly is itself grounds for discipline. ELC 15.1 then closes the examination with a report and no further action, or sends it to a review committee that may dismiss the matter, order corrective action and a reexamination within one year, or order a disciplinary grievance opened.

A complaint or an overdraft brings a different rule. Under ELC 5.3, disciplinary counsel must review, and may investigate, apparent misconduct learned of by grievance or otherwise, and a lawyer asked must respond fully and produce the records, copies, releases and subpoenaed material requested. The WSBA booklet says an overdraft notice in most cases leads to such an investigation, involving an audit. Neither rule says how far a given investigation reaches, so keep every record in the table below ready either way.

RCW 18.85.285 opens a real estate firm's records to inspection by the director, refers to the Department's normal enforcement and auditing practices, and makes a violation grounds for disciplinary action against the licenses of brokers, managing brokers or firms. WAC 308-124E-105 requires a computerized system's registers, reconciliations and trial balances, and WAC 308-124C-110 requires records stored off site, to be available on the Department's demand. These sections do not say how firms are chosen for audit, so keep the records ready at all times.

How do your records answer an examiner's requests?

ELC 15.1 and 15.2 set what is examined and require production forthwith, not an order. This sequence is an illustration, running from account to client ledgers to supporting documents, for a Washington lawyer:

Trace each sampled check to one client-ledger line, that client's prior balance and the document behind it; if every row comes from records you already keep, nothing is assembled on notice.

What changes across states, in general accounting software, or with an outside bookkeeper?

What if more than one state's rules reach the same money?

For Washington lawyers, the WSBA booklet reports advisory opinion #959: funds arising from practice under a Washington license are handled under Washington's rules, the key being whether the representation used that license. Otherwise, settle which jurisdiction governs each account first, since the licensing state, the account's location and the clients' locations can point to different cadences and retention periods; ask each body, and until you know, meet them all: the more frequent reconciliation, the longer retention and every required field.

What must you check yourself when the account sits in general accounting software?

WAC 308-124E-105 applies Washington's real estate trust rules to computerized systems, requiring a capability to back up all data files; registers or journals, bank reconciliations and monthly trial balances available for immediate retrieval or printing on the department's demand; and a dated source document or index file supporting any change to existing accounting records. Software built for operating accounts may not enforce client-fund rules, so unless you have tested that yours does, make these checks yourself:

• Before every disbursement, run the ledger and collection checks under paying out.
• At each reconciliation, review every client balance, including any below zero, and confirm each change to a posted entry has a dated source document.
• Back up the data regularly, preferably daily, as a comment to RPC 1.15B calls essential for computerized trust records.

What stays with you when an outside bookkeeper keeps the records?

The obligation stays with the license holder. The WSBA booklet says responsibility for compliance cannot be delegated, and that if an employee or other person maintains the trust records, the lawyer should review that person's monthly reconciliations; RPC 1.15A lets only a lawyer admitted to practice or an LLLT sign on the account. At a real estate firm, WAC 308-124C-105 and 308-124E-105 put the records, trust administration and monthly trial balance on the designated broker. Have the bookkeeper deliver each month the completed WSBA reconciliation report with the attachments it lists, or the trial balance, flagging any negative ledger at once, then review and sign it yourself. Where staffing allows, the person who records entries should not be the one who authorizes payments, and the review and certification never pass to the bookkeeper.