Trust Accounting

Attorneys Trust Banking accounts are strictly regulated and require special care when dealing with the operating costs and any interest received.  It is important to note that the regulatory regime changed in July 2019 with the introduction of the Legal Practice Act. 

Most prominent in the regulatory framework is the following:

Legal Practice Act Section 86 

Trust accounts

86. (1) Every legal practitioner referred to in section 84(1) must operate a trust account.

(2) Every trust account practice must keep a trust account at a bank with which the Fund has made an arrangement as provided for in section 63(1)(g) and must deposit therein, as soon as possible after receipt thereof, money held by such practice on behalf of any person.

(3) A trust account practice may, of its own accord, invest in a separate trust savings account or other interest-bearing account any money which is not immediately required for any particular purpose. [Formerly s78(2)(a)]

(4) A trust account practice may, on the instructions of any person, open a separate trust savings account or other interest-bearing account for the purpose of investing therein any money deposited in the trust account of that practice, on behalf of such person over which the practice exercises exclusive control as trustee, agent or stakeholder or in any other fiduciary capacity. [Formerly s78(2A)]

(5) Interest accrued on money deposited in terms of this section must, in the case of money deposited in terms of—

(a) subsections (2) and (3), be paid over to the Fund and vests in the Fund; and

(b) subsection (4), be paid over to the person referred to in that subsection:

Provided that 5% of the interest accrued on money in terms of this paragraph must be paid over to the Fund and vests in the Fund.

(6)A legal practitioner referred to in section 84(1) may not deposit money in terms of subsection (2), nor invest money in terms of subsections (3) and (4) in accounts held at a bank which is not a party to an arrangement as provided for in section 63(1)(g), unless prior written consent of the Fund has been obtained.

(7) A legal practitioner referred to in section 84(1) must comply with the terms of an arrangement concluded between a bank and the Fund as provided for in section 63(1)(g).

Accounting Rules (No. 41781 GOVERNMENT GAZETTE, 20 JULY 2018) An extract from page 166

PART XII

54. Accounting Rules
54.1 Part XII of the rules applies only to legal practitioners conducting a trust account practice.

54.6.2 records containing entries from day to day of all monies received and paid by it on its own account, as required by sections 87(1) and 87(3) of the Act;
54.6.3 records containing particulars and information of:
54.6.3.1 all monies received, held and paid by it for and on account of any person;
54.6.3.2 all monies invested by it in terms of section 86(3) or section 86(4) of the Act;
54.6.3.3 any interest referred to in section 86(5) of the Act which is paid over or credited to it;
54.6.3.4 any interest credited to or in respect of any separate trust savings.

54.14.16.1 Any interest referred to in section 86(5) of the Act which relates to a trust banking account opened in terms of section 86(2) of the Act which has accrued on money deposited during the course of a calendar month, shall be paid over to the Fund or its nominee on or before the last day of the next succeeding calendar month; provided that the Fund may, in its discretion, exempt a practitioner from this obligation.
54.14.16.2 Where exemption has been granted as contemplated in rule 54.14.16.1, any interest referred to in section 86(5) of the Act which relates to a trust banking account opened in terms of section 86(2) of the Act, accrued on monies deposited in respect of any period ending on the last day of February in each year shall, on or before the last day of May in that year, be paid to the Fund or its nominee.

54.14.16.5 A legal practitioner shall be guilty of misconduct if he or she fails to pay over, in accordance with this rule 54.14.16, any interest that vests in the Fund.

54.14.8 A firm shall ensure that the total amount of money in its trust banking account, trust investment account and trust cash at any date shall not be less than the total amount of the credit balances of the trust creditors shown in its accounting records.
54.14.9 A firm shall ensure that no account of any trust creditor is in debit.
54.14.10 A firm shall immediately report in writing to the Council should the total amount of money in its trust bank accounts and money held as trust cash be less than the total amount of credit balances of the trust creditors shown in its accounting records, together with a written explanation of the reason for the debit and proof of rectification.
54.14.11 A firm shall immediately report in writing to the Council should an account of any trust creditor be in debit, together with a written explanation of the reason for the debit and proof of rectification.

This discussion specifically deals with Bank Accounts held in terms of Section 86(2), “the Trust current account”. 

The Legal Practitioners Fidelity Fund is the designated trust creditor for any interest received on the trust banking account. This is also why a client trust account should be used to process trust bank charges and interest. It is wrong to processing trust transactions to a nominal (expense) account.

The practical implication is that the Bank where the account is held, implements a monthly process whereby 

  • accrued interest is credited to the account
  • bank charges are deducted
  • VAT is reversed and 
  • the net interest balance is paid directly to the Fidelity Fund in terms of Section 86(5)
  • or bank charges are forwarded to the Business Banking account. 

It is important to note that in conditions where interest rates are relatively high and the trust account  carries substantial funds, the interest received will exceed bank charges and the applicable regimen will result in a small credit to the business banking account. 

However, in the event that the interest yield is low and bank charges exceed the interest, unexpected consequences start to present themselves.  It should be noted that 

 (a)The attorney is always responsible for the cost incurred in maintaining the firm’s various banking accounts;
 (b) It is natural, if unfortunate, for trust bank charges to exceed trust bank interest;
 (c) The interest and charges on each trust banking account are processed discretely every month;
 (d) Refund of bank charges is possible at the end of the Audit process.

Note that interest may be added to the account at the end of one month, and again be removed at the start of the next month, resulting in a net-nil position. But, in order to balance at month end, all bank statement transactions must be reflected on the cash book.  The mere fact that these transactions eventually zero out is irrelevant. Accurate bank reconciliation requires full disclosure.

Consider the following illustrative scenario: A small practice receives many cash deposits, which lead to increased bank charges. Interest falls far short of the cost of maintaining the bank account and while the net interest is payable to the Fidelity Fund, the attorney remains responsible for paying the bank charges. Please see Image 1 below for a Ledger detailing these transactions.

Image 1. Ledger account #T0001 Trust Bank Charges and Interest. Image courtesy of DynamicLTA.

Note the following concerning the Trust Banking Account:

  • Trust bank charges and interest to be processed to a client trust account, with the LPFF as client;
  • Each bank account to use a separate ledger account;
  • Trust charges will appear as a debit on the trust bank statement, as well as credit when forwarded to the business banking account.
  • Monthly, excess Bank Charges are forwarded to the Business Banking Account.
  • Monthly, excess Interest is forwarded to the Fidelity Fund.
  • VAT redirect from the Trust banking account to the Business banking account occurs regardless of the VAT registration status of the law firm.
  • VAT on the Trust bank statement is processed as a trust transaction.
  • VAT and redirected charges on the Business bank statement are processed as business transactions.

Business bank charges and interest (penalty or otherwise) to be processed to a nominal ledger account (Expense).

Notice the sequence of calculation of the transaction on the ledger account. Bank charges may be debited at any time during the course of the month, with the balancing entry only occurring at month end.

For the month of July, the total charges amount to R378.28, which is substantially more than the interest received of R104.75. The net costs are forwarded to the Business banking account. However, the bank charge of R7.00 on 3 July already created a deficit, only to be rectified later that month.

For the month of August, the total net charges amount to R605.28, which is substantially less than the interest received of R1345.91. After deducting the net bank charges, the remaining interest is forwarded to the Fidelity Fund.

Unforeseen Consequences

The Bank calculates charges, interest and refunds or payment to the Fidelity Fund on a monthly basis, the Bank does not calculate a running balance on these items. This means that either interest or bank charges may exceed for any given month. Also, the only way to determine the net balance of bank charges and interest is from the ledger.

This may lead to a situation where the trust bank account balance is less than the expected trust creditors. This is not an error, but a natural consequence of the transactions initiated by the Bank. Generally, by month-end, the Trust banking should have normalized. This raises the question: If there is no trust deficit at month end, was there ever an actual deficit? It is suggested that a holistic approach to bank charges and interest be taken over the course of a calendar month, and only the net balance be taken into consideration after all transactions have been accounted for at month end.  The following are suggested as methods for dealing with this recurring and unavoidable trust deficit.

How to Remedy This Unfortunate Situation

Assuming that closing the account is not a preferred solution, the following options remain:

  • Deduction From Trust Transfer – with sophisticated attorneys integrated Trust & Business accounting systems in use, a simple auto-correct deduction from the trust to business transfer will balance the ledger accounts, without the necessity of a separate business-to-trust refund payment. Where possible this is suggested as the preferred solution.
  • A Negative Transfer – this requires a payment from the Business bank account to the Trust bank account to top up the trust funds available. The problem is that the deficit will already have occurred at month end and the remedy can only be applied retroactively;
  • A Trust Float – Since the law firm is ultimately responsible for payment of the trust bank charges, this could be accomplished directly on the trust account.  Naturally the law firm can be it’s own trust creditor, as long as the identity of the creditor and transactional integrity is guaranteed. This will require a client account opened in the name of the firm, with a suitable trust credit balance. Where necessary a simple journal entry will extinguish the trust deficit.
  • Ignoring this Trust deficit is a dangerous, but unfortunately common approach. This will leave the Trust Ledger in debit until Financial Year End / Audit, when an annual correction is processed to balance the ledgers. This is not a preferred solution.

It should be noted that in terms of Rule 54.14.10 a firm must inform the Legal Practitioners Fidelity Fund of this difference. No standard form of procedure has been prescribed for this notice.

Audit Caveats

  • In principle, no trust banking transactions should be processed to a business ledger;
  • Trust banking interest and charges should be processed to a trust ledger;
  • Redirected trust bank charges constitute a business expense;
  • Reconciliation of trust banking interest and charges from the ledger to the bank statement should be done monthly;

At the end of the Financial Year, where bank charges exceed the interest accrued, it is possible to obtain a refund from the Fidelity Fund. A Legal Practitioners Fidelity Fund form entitled Application for Refund of Bank Charges and Audit Fees is attached. This form is available for download here http://www.fidfund.co.za/download-refund-application/  and changes from time to time.

The refund appears on the business bank statement. Once audit and bank charges are refunded, this should be processed to the business account as these items reduce business expenses and no longer relate to trust. Waiting time for refund after submission and approval is roughly four weeks.

In summary:

  • Use separate Trust and Business Ledgers for the bank charges related to each bank account;
  • Process each individual transaction on each bank statement to its related ledger account;
  • VAT will be refunded to the Business Banking account, regardless of the firms VAT registration status;
  • Anticipate a trust deficit where trust banking charges exceed trust interest.
  • Apply for a refund of Trust Bank Charges

Modern, cloud based accounting systems make it easy to accurately distinguish various ledger account types involved (such as client trust, business expense etc) and enforce a strict processing model in order to distinguish trust and business transactions and interest as income or expense, charges and VAT.

For more information on managing bank accounts, the reconciliation process and semi-automated bank statement imports, please contact Dynamic. Simply scan the QR tag with your phone. The QR tag is an entire business card, with telephone, email and website. 

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