How to Manage Client Refunds and Unearned Fees in IOLTA

Handling client funds is a core duty for every law firm. When refunds or unearned fees are involved, the risk is higher.

The Interest on Lawyers’ Trust Accounts (IOLTA) program protects client money and supports legal aid. It also sets strict rules for how firms must hold, earn, and return funds.

This guide explains key terms, gives you a step-by-step SOP, and lists common mistakes to avoid. Follow it to stay compliant, protect your reputation, and maintain client trust. Because rules vary by jurisdiction, schedule regular training and check updates from your state IOLTA authority.

Understanding Key Concepts

Before addressing procedures, clarify the terms. Client refunds are amounts previously paid by the client that the firm did not earn (e.g., overpayments or services not performed). Unearned fees are advance payments for legal work that has not yet been completed. Defining these concepts up front builds transparency and client trust.

Both refunds and unearned fees are client property and must be kept separate from the firm’s operating funds. Under the IOLTA program, these amounts are deposited into a designated trust account and remain there until earned or returned. Proper segregation protects client money and reinforces the firm’s ethical reputation; mismanagement can lead to serious sanctions and reputational damage.

Earned fees are amounts rightfully earned after legal services are provided. Only then may funds be transferred from trust to operating, and the transfer should be supported by an invoice and work records. Meticulous documentation—receipts, services rendered and dates, transfers, and refunds—ensures accurate accounting and provides protection in audits or disputes.

Because the ethical stakes are high, firms should implement robust internal controls, perform regular reconciliations and audits, and train staff on trust-account distinctions and handling. These practices reduce risk and foster a durable culture of accountability.Read more: IOLTA Disbursements: Why Solo Paralegal Oversight Fails (and What to Do Instead)

Why Proper Handling Matters for IOLTA Compliance

It’s a legal and ethical mandate. Proper handling of client refunds and unearned fees is required, not optional.

• The ABA Model Rules of Professional Conduct obligate lawyers to safeguard client property, including trust funds.

• Violations can lead to discipline, including suspension or disbarment.

Business and reputational risk. Mishandling client funds erodes trust and damages your brand.

• Clients expect transparency and accountability for their money.

• IOLTA noncompliance can trigger audits and financial penalties that are costly and time-consuming.

Public-interest impact (IOLTA). Sound trust accounting advances the mission of IOLTA.

• Interest on pooled client funds helps fund legal aid for underserved communities.

• Accurate records and consistent procedures enable firms to contribute reliably to this system.

Step-by-Step Process: Managing Client Refunds & Unearned Fees in IOLTA

Identify and classify the funds

The first step in managing client refunds and unearned fees is to accurately identify and classify the funds. When a client pays an advance fee or deposits money, determine whether the funds are earned or unearned. If services are yet to be performed, treat the money as unearned and deposit it into the IOLTA account.

Similarly, if a client has overpaid or a refund is due, classify those funds as client property that must remain in trust until returned. This classification ensures that the money is not commingled with the firm’s operating funds, which is a violation of trust account rules.

Ledger setup and tracking

Maintaining a detailed ledger for each client is essential. The ledger should track all deposits, withdrawals, earned fees, and refunds related to that client’s funds. This individual client ledger acts as a clear record that shows the status of funds at any given time.

Many firms use specialized trust accounting software to automate this process, reducing errors and simplifying reconciliation. The ledger must be updated promptly whenever funds move in or out of the trust account to maintain accuracy and transparency.

Timing of recognition and movement of funds

Timing is crucial when moving funds between the IOLTA account and the firm’s operating account. Fees should only be transferred once they are fully earned. This means the legal service has been performed, and the client has been billed accordingly.

Client refunds should be issued promptly once identified. Delays in returning unearned fees can raise ethical concerns and potentially violate trust account rules. It’s best practice to process refunds as soon as possible to maintain client confidence and compliance.

Monthly reconciliation and audit trail

Reconciliation of the IOLTA account should be performed monthly. This involves comparing the bank statement to the firm’s ledger to ensure all transactions match and that the balance is accurate. Any discrepancies must be investigated and resolved immediately.

Maintaining a clear audit trail is essential for demonstrating compliance during audits or disciplinary reviews. Proper documentation includes bank statements, client ledgers, deposit slips, and refund records. This transparency protects the firm and provides peace of mind.

Reporting and disclosure

Many jurisdictions require law firms to report on their IOLTA accounts periodically. This may include submitting statements or certifications confirming compliance with trust accounting rules. Firms should be familiar with their local bar association’s reporting requirements.

Additionally, clear communication with clients about their funds is important. Providing clients with statements or updates on their account status helps build trust and prevents misunderstandings. Transparency in reporting fosters a professional relationship and reduces the risk of disputes.

Common Mistakes and How to Avoid Them

Commingling client funds with operating funds (strictly prohibited)

• Risk: Disciplinary action, fines, audit findings.

• Fix: Keep all refunds and unearned fees in IOLTA until properly disbursed. Never pay firm expenses from trust. Maintain separate accounts and dual-approval withdrawals. Review bank activity weekly.

Late or inaccurate client-ledger updates

• Risk: Balance variances, failed reconciliations, client disputes.

• Fix: Enforce same-day entries. Use dedicated trust-accounting software with alerts for negative/overdrawn sub-ledgers. Run end-of-day/week checklist reviews.

Incorrect timing, transferring before earned or delaying refunds

• Risk: Using client property prematurely; noncompliance with IOLTA rules.

• Fix: Adopt an invoice-first-then-transfer policy. Transfer only the invoiced earned amount. Set a refund SLA (7–14 days) or stricter per jurisdiction. Add a “calculate remainder & refund” step to matter-closing checklists.

Insufficient periodic review (audits/reconciliations)

• Risk: Small errors compound into reportable violations.Fix: Perform monthly three-way reconciliation (bank statement = trust general ledger = sum of client sub-ledgers). Conduct random file reviews. Document findings and manager sign-off. Provide regular staff training.

How Irvine Bookkeeping Supports Law Firms

Irvine Bookkeeping delivers law-firm-specific trust accounting. We manage refunds and unearned fees in strict IOLTA compliance, handle monthly three-way reconciliations, maintain client ledgers, and prepare audit-ready reports. Our guidance on best practices reduces errors and administrative load, so attorneys can focus on legal work. This is especially valuable for small firms and solos without in-house accounting.

Practical Checklist for Law Firms

• Deposit all client funds, including unearned fees and refunds, into the IOLTA account immediately.

• Maintain individual client ledgers with detailed tracking of all transactions.

• Only transfer fees to the operating account once they are fully earned.

• Process client refunds promptly and document all disbursements.

• Perform monthly reconciliation of the IOLTA account against bank statements and ledgers.

• Keep a comprehensive audit trail with all supporting documents.

• Understand and comply with local bar association reporting requirements.

• Communicate transparently with clients regarding their funds and account status.

• Train staff regularly on trust accounting rules and procedures.

• Consider partnering with specialized bookkeeping services like Irvine Bookkeeping for expert support.

Conclusion

Managing client refunds and unearned fees in IOLTA accounts demands precision, vigilance, and a thorough understanding of ethical obligations. By correctly identifying funds, maintaining accurate ledgers, and adhering to timing and reporting requirements, law firms can ensure compliance and protect client interests.

Common mistakes often stem from oversight or lack of clear processes, but these can be avoided with proper training, reliable systems, and, when appropriate, professional bookkeeping support. The integrity of your trust account management reflects directly on your firm’s reputation and legal standing.

Ultimately, careful management of client funds not only fulfills regulatory requirements but also strengthens client relationships and contributes to the broader mission of justice and fairness within the legal system.

About the Author

Irvine Bookkeeping Inc   

Irvine Bookkeeping Inc is a U.S.-based accounting and bookkeeping firm with over 10 years of experience helping small and mid-sized businesses manage their finances with confidence.

Beyond software implementation, Irvine Bookkeeping provides full- service bookkeeping, payroll management, tax compliance, and financial reporting—ensuring that business owners can focus on growth while maintaining accurate and compliant books.