Depending on the case and practice area, it can become necessary to accept cash. Some firms keep a cash ledger to handle these situations. If cash must be accepted, be sure to deposit the cash right away so it’s recorded accurately on the bank statements. Once deposited, the books will also need to be updated immediately. Otherwise, the monthly reconciliations will show a discrepancy.

CASH RECEIPTS

Once the cash is accepted, a receipt is paramount. A receipt is essential for proper bookkeeping but will also provide a layer of protection if the client disputes what has been paid. By providing the client with a copy and getting a signature for your records, there is recorded, tangible proof of how much was paid should the client contest the amount down the road.

Receipts have the additional benefit of helping to prove compliance with jurisdictional limits on how much cash can be accepted. For example, the Law Society of Ontario and the Law Society of Alberta only allow lawyers to accept amounts less than C$7,500 from their clients. Within the United States, lawyers are required to report cash received over $10,000. Entering the exact amounts taken in creates a clear record in the event of an audit.

Accepting too many cash payments, even when properly alerting the appropriate authorities for larger amounts, can lead to more scrutiny and a higher chance of being audited. In the United States, the Internal Revenue Service (IRS) considers accepting a majority of payments as cash a red flag given the possibility of cash being diverted for personal use without paying taxes. If accepting cash, having the right documentation to support bookkeeping records is crucial for passing an audit.

If you need to accept cash, keep in mind these best practices:

• Accept cash only when absolutely necessary
• Maintain accurate cash receipts
• Make sure the client receives a copy of the receipt and always get a signature
• Deposit cash and record it in the books right away to ensure proper recording as payments are received
• Make separate deposits for each client payment for easier tracking

Checks are a better form of payment to receive than cash in terms of the ability to track and potential compliance issues. Yet checks also present their own set of concerns, most of which are primarily caused by issues on the client’s end.

UNCLEARED FUNDS

When accepting checks and depositing them, the bank usually makes some or all of the funds available immediately. However, if the check doesn’t clear, the funds that were advanced are taken out of the account. This change needs to be immediately entered into the books to keep them accurate. Be mindful of bounced check fees as well, as these also need to be properly accounted for. The bookkeeping should reflect the same changes to an account as seen in the bank statement.

Some jurisdictions require funds to be placed on hold until cleared by the bank, especially for retainers. In many instances, those funds will be placed into a trust during the holding period depending on local ethics requirements. This hold helps to prevent law firms from spending these funds before they’re truly available.

FRAUDULENT CHECKS

Fraudulent checks also cause problems with bookkeeping. There are times when a fraudulent check can clear if the owner of the account doesn’t catch the problem. If a lawyer processes a fraudulent check and considers the funds received, this must be rectified when the account owner realizes what has happened. Beyond needing to address this in the books, the funds at this point may have been spent. The law firm then has the burden of locating the client and trying to collect the amount due.

BEST PRACTICES

When dealing with checks, be sure to follow these best practices:

• Make sure the matter identification number is written on the check
• Scan the front and back of the check and attach it to the referenced item for which it was paid, such as the matter bill or expense items
• When possible, request a bank check or wire rather than a personal check
• Always wait for the check to clear before disbursing any funds, especially if depositing into trust accounts

Accepting credit cards offers a host of benefits. Clients are a lot more willing to pay instantly when using a credit card over writing a check. Credit card payments are usually deposited into an account within 48 hours, leading to a more even cash flow and helping to reduce the expense of collections. Clients can also benefit from this as well, especially those who can more easily hire an attorney when credit is an option.

For all the benefits of credit cards, there are a lot of reservations in the legal community when it comes to accepting them as a form of payment. External and internal points of concern raise a number of red flags for lawyers. If set up correctly, however, credit cards can be processed ethically and securely to better manage accounts receivable.

Retainers ensure payments for lawyers prior to completing any work. These funds can be accepted in multiple ways (cash, check or credit card). Regardless of how they’re accepted, retainers generally go into a trust account to avoid any impropriety and compliance violations.

Some states require all payments, not just retainers, to be placed into the trust account first so it’s important to be aware of your state’s requirements. As discussed earlier some states require a hold on trust account deposits that can’t be earned until the hold period has ended (usually 2-3 days). All of these funds become subject to the requirements surrounding trust accounts.

TRUST ACCOUNT COMPLIANCE

As part of these requirements of bar associations and Law Societies, funds must never be pulled from one client to cover another. Only the amount belonging to a particular client can be used, even if the money is pooled in a trust account with other clients’ funds. To keep this from happening, accurate bookkeeping is essential when taking in retainers to make sure the amount shown is correct and to avoid over-drafting.

When using an accounting system created for all general businesses or conducting accounting manually, be careful as many programs don’t have mechanisms in place to prevent over-drafting or commingling of funds between clients. When earning payment from trust and retainers it’s common for these types of errors to happen. Legal-specific accounting software takes these needs into consideration and puts a safeguard in place to avoid such occurrences.

For more information on trust accounting compliance, check out The Dos and Don’ts of Legal Trust Management.

As with accepting credits, the separation of billing and accounting programs when dealing with retainers creates the potential for a compliance violation if they are not properly entered into both systems. Duplicating these entries not only creates more work for the staff but also increases the risk of error. If billing in one system and reconciling the books in another, there becomes a need for constant comparison to make sure the books are reflecting the accurate earning of funds.

Most states require retainers to be placed into a trust account, as the fees are earned as the work is performed and does not yet technically belong to the lawyer. Paying an invoice from a retainer requires some extra steps for compliance purposes. First, the trust account must be debited as either a check or transfer and the operating account must be credited with the same amount.

Next, the matter retainer and billing balances must be updated. And lastly, because the funds in the retainer are not yet the lawyer’s they are counted as a liability. Once earned, that amount must then be shifted to income on the general ledger.

BEST PRACTICES

Dealing with retainers, where funds belong to the client until earned, requires careful adherence to trust accounting regulations and these best practices:

• Know and follow your state’s requirements about what needs to go through trust and what the possible hold requirements are. If in doubt, deposit the funds into a trust and leave a two to three day grace period until converting them to earnings
• Find tools and processes to ensure avoidance of retainer commingling and ledger overdrafts
• Billing, trust, and accounting are very closely linked in law firms, so keep these records integrated and in sync

INCOME ALLOCATION

APPLYING PAYMENTS

No matter how a law firm accepts payments, the payments need to be properly recorded for both accounting and compliance reasons. For legal accounting, there is a very specific order in which payments should be applied when received. As payments are taken in they should be applied in the following sequence:

• Tax
• Cost recovery
• Late fees and finance charges
• Fee income
• Discounts

For lawyers, this means you could receive partial payment and only have it go toward covering costs. For example, if a lawyer receives $400 out of a $2,000 bill, those funds should be applied in the order of the above list. In that scenario, a lawyer wouldn’t receive any actual income until the highest priority items have been covered.

General accounting tools like QuickBooksTM don’t utilize this concept and, instead, apply payments proportionally to each item. This can be manually corrected with adjustments. To avoid having to rely on someone going into the system to make the change, some firms create an invoice for each part (such as costs or fees) and pay the invoices in order of the above formula to ensure proper allocation.

REIMBURSED COSTS

Reimbursed costs are very different from an earned fee. If entered incorrectly into the system without following the right formula for applying payments, it is inevitable to encounter bookkeeping errors. Reports will be incorrect, including profit and loss statements and accounts receivable reports.

If the firm compensates parties based on income earned, that amount will also be incorrect. These improper entries can also make it difficult to see what cases were the most profitable to a firm. This can lead to making business decisions based off of inaccurate information down the road.

BEST PRACTICES

When allocating income always ensure partial payments are designated correctly and applied in the proper order for accurate firm accounting.

TAKEAWAY

Bringing in income is the only way for lawyers to keep their doors open, but doing so is guided by unique rules and regulations not seen in other industries. Law firms face unique accounting requirements set by bar associations and Law Societies which call for adherence to best practices when accepting payments to avoid any violations or sanctions. When deciding whether to accept cash, checks or credit cards and how to take in retainer payments, be sure to address each area of potential compliance risks.