With so many law firms trying to navigate through these difficult times, with (and quite rightly so) a real focus on managing cash flow, it is easy to ignore some important compliance tasks, particularly if they do not directly relate to the continuity of the business.
A classic example of this is dealing with the firm’s residual client balances. At the SRA’s Compliance Conference last year, Sean Hankin and Jatinderpal Loyal explained that the SRA are unlikely to take action where a firm is aware of their residual balances, and able to demonstrate that they are dealing with them. However, where the reporting accountant has included residual balances on the accountant’s reports for three or four years in a row, then the SRA are more likely to investigate. A recent SDT hearing demonstrates this exact point.
The case involved four partners from a firm in Wales, who were fined for sitting on 979 residual balances totalling over £468,000. The largest individual balance was in the region of £95,000, and the SRA found balances outstanding as far back as 2002. The smallest balance was 2p. In addition, the firm had failed to reconcile client designated deposit accounts for 22 years!
The firm’s defence appeared to centre around the explanation given by the firm’s COLP and COFA (one of the partners performed both roles), who explained that he was aware of the balances, but that "the intention had been to delay addressing the residual balances until the firm had installed a new accounts software package”. However, when pushed for a date of when this was going to happen, no date could be given, as the partners were still reviewing the various software packages on the market.
In addition to failing to deal with residual balances, the partners also admitted causing or permitting a minimum client account shortage of more than £9,100 and operating client suspense accounts with overdrawn balances of over £8,500.
The COLP and COFA partner was fined £10,000, the other partners were fined £7,500 each, the firm itself was fined another £7,500, and the partners were also ordered to pay costs of £10,000 on a joint and several basis.
Although this may be seen to be an extreme case, it does highlight the importance of including compliance tasks into your routine. Ideally, this should be weekly, but monthly at a minimum, even if part or all of your accounts team are working remotely.
These compliance tasks should include:
- Review and reconciliation of suspense accounts to ensure any funds you have been unable to identify are returned to source.
- Review any office credit balances to identify client funds that need to be moved to the client account.
- Review any overdrawn client ledgers, and make good with funds from office account if necessary.
- Encourage fee earners to close files in a timely manner and return funds to clients promptly once matters have completed.
- Review any potential historic residual client balances, continue to make attempts to return them to their owners, but if you are not able to, donate them in accordance with the SRA’s prescribed circumstances.
We have seen the SRA launch investigations into firms on the back of an accountant’s report that has reported residual balances over several years. Although none of the investigations have reached the SDT, the time and stress involved in any enquiry from the SRA is something that you want to avoid.
Strong and effective systems and control procedures are key to ensuring that your firm stays compliant, particularly following the changes to the SRA Accounts Rules last November. Now is a good opportunity to check that they are working correctly.