IOLTA Trust Accounting 101 for Law Firms

Trust accounting is the foundation of legal ethics compliance. Get it wrong and you're looking at bar complaints, disciplinary proceedings, and potential suspension. Get it right and it's simply a ledger — money in, money out, every client accounted for. This guide explains IOLTA rules in plain language and shows you exactly how to record the transactions correctly.

What Is IOLTA?

IOLTA stands for Interest on Lawyers' Trust Accounts. It's a program — mandatory in most states — that requires attorneys to hold client funds that are too small or short-term to generate meaningful interest in a pooled trust account. The interest earned goes to a state-administered fund for legal aid and law-related programs. You never pocket it and neither does the client.

The key distinction: client funds go into the trust account; your earned fees go into your operating account. Mixing the two — known as commingling — is a rules violation regardless of intent.

The Core Rule: Segregation

Every client's money must be tracked separately, even though it all sits in one pooled bank account. You know how a hotel holds multiple guests' deposits in one account but each guest's deposit is tracked individually? IOLTA works the same way. The bank account is shared; the ledger is per-client.

Your trust accounting system must maintain:

• A trust account ledger showing all receipts and disbursements for the pooled account
• An individual client ledger for each matter showing that client's specific balance
• Monthly three-way reconciliation — the bank balance, the trust ledger balance, and the sum of all client ledger balances must all agree

What Goes Into the Trust Account

Client funds that must be held in trust include:

• Settlement proceeds (until disbursement is authorized)
• Retainers for unearned future work
• Advance cost deposits (filing fees, expert fees, court reporter fees)
• Funds held pending the resolution of a fee dispute
• Third-party funds you're holding on behalf of a client (e.g., real estate escrow in a transaction)

What does not go into trust: earned fees, reimbursements for costs already advanced, your operating expenses. Once you've earned a fee or paid a cost, move those funds to your operating account — don't let them sit in trust.

Journal Entry: Receiving a Client Retainer

Client pays a $5,000 retainer for future legal services:

The retainer is a liability because it's the client's money until you earn it. It is not income.

Journal Entry: Earning Fees from Trust

You've worked 10 hours at $400/hour. The client approves the bill and you transfer $4,000 from trust to operating:

Then in your operating account:

Journal Entry: Settlement Receipt and Disbursement

You receive a $50,000 settlement. Your fee is $16,667 (1/3). Costs advanced were $3,000. Client gets the rest.

Step 1 — Deposit the settlement:

Step 2 — Transfer your earned fee and cost reimbursement to operating:

Step 3 — Disburse the client's share:

Three-Way Reconciliation: The Monthly Requirement

Every month, you must perform a three-way reconciliation to prove that no client money is missing or misallocated:

1. Bank balance — from your bank statement, adjusted for outstanding checks and deposits in transit
2. Trust ledger balance — the running balance in your accounting records for the IOLTA account
3. Sum of client ledger balances — add up every client's individual balance

All three numbers must match. If they don't, you have a reconciliation difference that must be investigated and resolved — never just "plugged."

Common Compliance Mistakes

Paying firm expenses from trust. Paying a filing fee directly from the trust account without a corresponding client cost advance is commingling. Always draw from the client's trust balance, then pay the vendor.

Not recording bank-generated charges. Banks charge wire fees, service fees, and returned check fees. These must be recorded and covered by the firm (not the client) immediately — the trust account cannot go negative on any client's behalf.

Using one client's funds for another. The pooled bank account can't be used as a float. If Client A's matter needs a disbursement, Client A's ledger balance must be sufficient. Drawing against another client's balance is conversion — a serious ethical violation.

Skipping the reconciliation. Monthly reconciliation is required by most state bar rules, not optional. Document every reconciliation and keep the records for at least five years.