- Dec 22, 2023
- 6 min read

Understanding IOLTA Trust Accounting: A Guide for Lawyers

Updated: Mar 4

In the realm of legal practice, managing client funds ethically and in compliance with regulatory requirements is paramount. The Interest on Lawyers' Trust Accounts (IOLTA) system plays a crucial role in ensuring that client funds held in trust generate interest, with the proceeds contributing to legal aid programs. This guide provides lawyers with a comprehensive overview of IOLTA Trust accounting. Covering essential steps from setting up the IOLTA Trust Bank account to navigating deferred revenue and earned revenue transitions, this guide aims to assist legal professionals in maintaining accurate and compliant financial records. By following the principles of GAAP accrual accounting and adhering to state-specific regulations, lawyers can confidently navigate the intricacies of IOLTA Trust accounting while reinforcing their commitment to transparency and client financial protection.

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Establish the Accounting System:

1.) Establish the IOLTA Trust Bank account Interest bearing account for Client funds held in Trust. (Interest on Lawyers' Trust Accounts)

2.) Establish the Main Checking account for Business Operations

3.) Setup the IOLTA Service Item for Deferred Revenue (setup item with income account=deferred revenue for Invoices, expense account=deferred revenue for Bills) This item represents the Deposit/Retainer collected.

4.) Setup Service Items for Billable Expenses as needed with sales price and purchase cost. LEDES/UTBMS codes: (setup item with income account= billable expenses income for Invoices, expense account=billable expenses for Bills/Expenses)

Correct setup means the actual Bills and Expenses for these items, are marked and categorized as direct billable expenses, when incurred, rather than overhead expenses on the Income Statement. Two ways to proceed: (Choose One)

(1) Bill directly from the estimate, with already marked up items. If this is the case, when the bills for services arrive in the banking center, the field for the client is entered on a bill or expense but they are NOT marked billable. When earned revenue is realized directly from the estimate invoice, the markup is already calculated and the difference on the Income Statement is the estimated Income less the bill fielded for the client = Gross Profit/Net Income. (should be invoiced to the IOLTA Clients monthly)

(2) If you are entering invoices directly from the bill or expense, marked billable and marked up, the invoice will reflect on the Income Statement as billable expenses and associated billable income-earned revenue, GAAP compliant, with markup as a separate income line item. You will also need to make timesheets billable so you can add them to invoices. Turn this feature, and the Markup feature on in Accounts and Settings. Consult local jurisdictions for sales or other tax requirements.

5.) Add IOLTA Generic Vendor (Firm Name) for deferred revenue to earned revenue transactions.

6.) Add IOLTA Generic Customer (Firm Name) for Interest received.

Interest earned in the IOLTA Trust Bank Account increases the deferred revenue liability account and the IOLTA Trust Bank Account. Note, that it is not recorded as P&L Interest Income (use a money in bank rule set to deposit interest earned to the deferred revenue liability account automatically)

7.) Add Client Accounts with details and customizations (Customer or Project) Projects preferred-add Project (requires QuickBooks Online Advanced) attach contract to new Project or Client/Customer account

8.) Multi-Lawyer Firms: Add Legal Payroll Employees and/or Legal Contractor/Vendors. Timesheets for both are always fielded for the client as COS labor billable expenses and paid from the Main Checking.

9.) Set up any class, locations or custom fields for more in depth reporting. Such as;

Area of Law Practice: Litigation, Counseling, Project, Bankruptcy,Trademark.

Office Locations or any other meaningful data; Case numbers, attorney names, et...

Follow Consistent Accounting Procedures:

A. Project Cost Estimate (Non Posting)

Upon signing the engagement letter/contract, the project cost estimate is marked as accepted. This document outlines the terms and conditions of legal representation, including the scope of work, fees, and other crucial details related to IOLTA Service items that will later become Billable Expenses. If you have markup turned on, it is possible to calculate markups for expenses that will occur, when invoiced. Always make a copy of the original Project Cost Estimate before beginning the invoice process.

B. Deferred Revenue/Retainer-Deposit Invoice:

(1) Create the IOLTA Client Invoice for the retainer as a whole or % of the approved estimate. Invoice to (IOLTA service item on an Invoice increases the deferred revenue). Current date, send to client for payment.

(2) Receive payment to undeposited funds and wait for IOLTA Account bank deposit matching for the entirety of the retainer deposit amount invoiced.

(Note: IOLTA Trust Bank Account and Deferred Revenue Liability Accounts should always be equal amounts on the balance sheet)

Notes about: Expense Items: *Paid from Main Checking

Billable Expenses (Any billable product or service): If you are using markup and have turned on markup in Accounts and Settings there are Two ways to proceed: (Choose One)

(1) items can be marked as billable on the estimate, and markup calculated. If Invoicing directly from the the estimate, with already marked up items, when the bills arrive, in the banking center, the field for the client is entered on a bill or expense but they are NOT marked billable. When earned revenue is realized directly from the estimate/invoice, the markup is already calculated and the difference on the Income Statement is the estimated Income less the bill, fielded for the client = Gross Profit/Net Income.

(2) If the items are marked up directly from the actual expense or bill, and subsequently invoiced, markup will appear as a separate Income line item on the Income Statement. Billable Income and Billable Expense line items should match EOM.

Do not duplicate items from the original estimate, that have already been converted to an invoice. Billing from the actual bills and expenses are reserved for Un-Invoiced Charges or Change Orders.

(****Caution should be taken! Failure to mark an expense transaction billable or duplications can be tedious to reconcile EOM****)

Pre-paid Expenses: (are normally expense carrying over for 12 months) However, if the firm is prepaying expenses on behalf of the client several months in advance set up the Prepaid other current asset account. This process will follow GAAP matching principles.

(1) Create a Bill to the vendor being paid, categorized to the Prepaid Expense Current Asset (increase Prepaid) and pay the Bill from the Main Checking Account. (enter Client/Customer name and note the Expense Item in the description line, but do NOT mark as billable)

(2) Immediately create an opposing Bill dated to the revenue deferral date with the Service Expense Item, previously prepaid, and mark as billable LESS (-) Prepaid Expense Current Asset category (decrease Prepaid NOT marked billable.) This net zero transaction does not affect A/P since the Bill was already paid. It reduces the Prepaid Expense Current Asset on the revenue deferral date and marks the expense to be billed.

(3) Create an Invoice on the same date of the revenue deferral, add the Prepaid billable expense Item you just allocated, from the pop out drawer, to the invoice and continue to follow Step C....adding any other open billable expenses to the invoice followed by the movement of funds from the IOLTA Trust Bank Account to the Main Checking Account.

C. Deferred Revenue to Earned Revenue with Incurred Expenses Transition:

(1) Create an Invoice from the estimate to the IOLTA Client for the total amount of the earned revenue Billable Service Items LESS the IOLTA Service Item for Deferred Revenue. Dated to the deferral, date revenue should show up on the Income Statement.

Final 50% Invoice + Addt'l Billing to Client

*Do not send the earned revenue invoice to the client/customer. For internal accounting only.

(2) In QuickBooks Online create a deposit from the IOLTA Account to the Main Checking Account, followed by an actual Bank Transfer or ACH from the IOLTA Account to Main Checking and wait for bank feed matching.

(Note: All transactions going in and out of the IOLTA Liability Account should have the IOLTA Trust Bank Account Associated and Billable Expenses should always be paid from the Main Checking Account. Don't forget to check your A/P! and if the case isn't closed go back to Step B

D. Reconcile both the Trust Account and Main Checking accounts monthly.

If the customer deposit in the IOLTA Bank Account is depleted and the case is not closed. Invoice the client, with an additional (Deferred Revenue/Retainer-Deposit Invoice from the Project Cost Estimate), continuing this process until the case is closed. I can help you with deferrals and automations. Please contact me

Footnote: By following these steps, the business adheres to the principles of GAAP accrual accounting, recognizing expenses as they are incurred, matching revenues with associated expenses, and accurately presenting the financial position and performance of the business over time. These steps also adhere to the rules of IOLTA Trust Accounting established by the states legal or judicial regulatory body, such as; the State Bar Association or the Supreme Court. QuickBooks Online provides a complete solution. Accounting, Payroll, Time Tracking and Integrated Applications.

**With the integration of Lean Law software or other apps your firm can create smooth, professional invoicing workflows. Pre-bill review, batch invoicing, fixed and hybrid fees such as; Rate with Contingency Fee, Fixed Fee with Performance Bonus, Subscription-Based with Project Add-ons, Retainer Fee with Success Fee, Hourly Rate with Equity Stake, Commission with Base Salary, and create LEDES invoices (Legal Electronic Data Exchange Standard) with UBTMS, or (Uniform Task-Based Management System) for Coding, custom invoices, electronic payments, batch invoice payments (including those from trust accounts). QuickBooks Online is the source of truth for accounting data. LeanLaw adds legal customization. Use of this app may require additional customizations within QuickBooks Online depending on your firm's requirements.