Residual Balances – no longer an unavoidable problem

A long standing cause for action within law firms is the ability to effectively deal with Residual Client Balances. Whether these have been inherited from previous cashiers, been brought to the business through merger activity or have simply been left to grow over a period of time, the ongoing issue of Residual Client Balances is considered by the Solicitors Regulation Authority (SRA) as a serious problem which, left unattended, will result in a material breach reportable in the Accountants Report to the regulator.

Not only do residual balances indicate poor file management they also point towards a lack of control within the firm’s client money management procedures, and in extreme circumstances has been an indication of fraud.

The SRA Guidelines are clear:

Accounts Rules 2019, (Rule 2.5)

You ensure that client money is returned promptly to the client, or the third party for whom the money is held, as soon as there is no longer any proper reason to hold those funds.”

Enforcement strategy of a rule breach is likely to consider factors such as volume of accounts, length of time balances has remained in dormancy and the firm’s adherence to their own written policy to deal with residual balances.

To add further responsibility on the firm, the new guidance contained within the SRA Code of Conduct, Rule 9.1, places a mandatory requirement on the Compliance Officer for Finance and Administration (COFA) to ensure the issue of Residual Balances, amongst others, is addressed. This is an onerous obligation now placed on the COFA.

If you are a COFA you must take all reasonable steps to:

1. ensure that your firm and its managers and employees comply with any obligations imposed upon them under the SRA Accounts Rules;

2. ensure that a prompt report is made to the SRA of any facts or matters that you reasonably believe are capable of amounting to a serious breach of the SRA Accounts Rules which apply to them.

The stance from the SRA indicates ignoring the issue could have serious ramifications and as such perhaps it is wise to seek a solid scalable resolution to the issue.

Due to the level of regulation and complexity attached to handling client money, a number of law firms have already taken the decision to entrust the operation of client money to a third party. Not only does this absolve the firms from adherence to the Solicitors Account Rules but the way in which Third Party Managed Accounts (TPMAs) makes it improbable for Residual Balances to exist.

In short, within a TPMA, both sides of the transaction are kept wholly up to date with the movement of funds with the transaction being authorised and approved by both sides. Ostensibly the TPMA cannot be closed until the balances have returned to zero. In the unlikely event a residual balance does exist, rather than the law firm being held accountable, the Third Party Managed Account provider must deal with the funds in line with FCA Regulations therefore exonerating the firm of any liability to deal with the residual balance.

If you would like to find out how TPMAs can work for you firm get in touch at paul.mccluskey@gemstonelegal.co.uk