IOLTA Rules for Small Firms: The Three-Way Reconciliation, Explained

The core rules, plainly

• Client money is never your money: unearned retainers, settlement proceeds, filing-fee advances, all of it lives in the trust account until earned or disbursed. Fees move to operating only when earned under the engagement agreement, with an invoice to prove it
• No commingling: no firm funds in trust (except a small bar-permitted cushion for bank fees, where allowed), no parking, no 'borrowing', even overnight, even repaid, it's a violation
• No client can go negative: overdrawing one client's funds while the account total stays positive is spending other clients' money, the violation bars treat most seriously, and the one sloppy ledgers hide best
• IOLTA specifically: pooled trust accounts for funds too small or short-held to earn client-payable interest, interest goes to the state's legal-aid funding. Your state's rules govern which accounts qualify and at which approved banks
• Records: individual client ledgers, journals, and reconciliations retained for the period required by the governing jurisdiction

The three-way reconciliation, the heart of compliance

Every month, three numbers must agree to the penny:

1. The adjusted bank balance, statement balance corrected for outstanding checks and deposits in transit
2. Your trust ledger balance, the account's running total in your books
3. The sum of every individual client ledger, each client's deposits minus their disbursements, added across all clients

One and two agreeing is ordinary bank reconciliation. The third is what makes it trust accounting: the pooled total must equal the sum of its parts, proving no client is subsidizing another. When the three-way ties, you can answer the only question an auditor really asks, 'whose money is this, exactly?', for every dollar, on any date. When it doesn't tie, you have a finite list of causes: a disbursement posted to the wrong client, a deposit never allocated, a fee transfer that skipped the ledger, bank fees hitting trust. Find it that month, while the transactions are fresh; a three-way that hasn't tied in a year is an excavation.

The violations that actually happen to good lawyers

• The early fee transfer: work done, invoice not yet sent, money moved, a timing violation even with the fees fully earned
• The bounced-deposit disbursement: paying out against a settlement check that hasn't cleared; when it bounces, every other client just funded the payout
• Ledger drift: months of correct bank reconciliation with no client-level ledgers, compliant-looking, auditable-failing
• Fee-shifting on flat fees: state rules differ on when flat fees are 'earned' (some allow operating on receipt with conditions, many don't), assuming the permissive rule in a strict state is a classic solo mistake
• Unclaimed balances: old client funds nobody swept, most states route them to unclaimed property, not to the firm

The monthly routine that passes audits

Deposits allocated to client ledgers same-week; disbursements posted with client, matter, and purpose; fee transfers only against issued invoices; the three-way reconciliation completed and, this matters, printed or PDF'd with a date, because a reconciliation you can't produce didn't happen, in an auditor's eyes. Twenty minutes a month for a small firm, and it converts the audit letter from a crisis into a photocopying task.

This is work we run for law firm clients as a standing monthly service, ledgers, three-way, documentation, under books built for legal practice: Law Firms ↗. The attorney stays responsible (that's the rule); the system makes the responsibility light.