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Trust Account Reconciliation: What Is Three Way Reconciliation?

Updated: Aug 11

When it comes to trust accounting, attorneys must reconcile their trust account bank statement to their clients’ individual balances on a monthly (or quarterly) basis. For trust account management, this reconciliation process is one of the most important aspects of maintaining compliance and administration.

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Types of Reconciliation

Law firms rely on several types of reconciliation to ensure the accuracy and integrity of their financial records. Bank reconciliation is the process of comparing a bank statement with the firm’s internal records to confirm that all transactions are properly recorded and accounted for. Account reconciliation takes a broader approach, involving the comparison of various account statements with internal records across different areas of the law firm’s finances. Three-way reconciliation, however, is unique to trust accounting and is considered the gold standard for law firms. This process involves comparing the trust ledger, individual client ledgers, and the bank statement to ensure that all records are in agreement. By performing three-way reconciliation, law firms can maintain client trust, meet regulatory requirements, and ensure that their trust accounting practices are both accurate and compliant.

What Is The Three Way Trust Account Reconciliation?

Best practices encourage Three-Way Reconciliation no matter how many trust accounts are involved. Before diving into three-way reconciliation, it's important to note that two way reconciliation is a simpler process that only compares the bank statement and trust ledger. However, two way reconciliation is insufficient for trust accounts because it does not verify the accuracy of individual client balances. In the Three-Way reconciliation, there are three items in the process: the trust ledger (internal books), the client ledgers, and the trust account bank statement. The three way reconciliation report consolidates data from the trust ledger, client ledgers, and bank statements to ensure accuracy and transparency in trust account management.

The trust ledger, sometimes referred to as the client trust ledger, provides a summary of all the transactions in and out of a trust account. It summarizes all trust account activity and is essential for tracking the trust ledger balance.

The client ledgers are created by taking the trust ledger a step further, assigning each transaction to a specific client, and grouping together all the trust account activity associated with each client. Maintaining accurate client balances and individual client ledger balances is crucial for compliance and transparency.

Both the trust ledger and the client ledgers should be maintained by a firm’s internal recordkeeping system, and their balances should always match. Reconciling the trust ledger balance with the sum of individual client ledger balances is essential to ensure accuracy and regulatory compliance.

The last component in a trust reconciliation - the trust bank statement - is generated by the bank where the trust account is held and it provides third-party verification of the transactions posted to the trust account.

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Components of Three-Way Reconciliation

The three-way reconciliation process is built on three essential components: the trust ledger, client ledgers, and the trust account bank statement. The trust ledger is an internal record that tracks every transaction related to the trust account, including deposits, withdrawals, and interest payments. Client ledgers provide a detailed breakdown of transactions for each individual client, allowing law firms to monitor client-specific balances and activity. The trust account bank statement, issued by the financial institution, acts as a third-party verification of all transactions recorded in the trust and client ledgers. By systematically comparing these three elements, law firms can identify and resolve discrepancies, ensuring that their internal records match the bank statement and that client funds are managed with complete accuracy and transparency.

3 Steps Easy For Reconciling Every The End Of Month

First: reconciling your account to the bank statement

Trust account reconciliation is the act of making our bank statement compatible with our trust accounting software or manual records. Reconciliation also gives you an overview of any clarity across your trust accounting records, help you match them with transactions on your bank statement. Reviewing bank statements and identifying pending transactions, such as outstanding checks or deposits, is crucial for ensuring the accuracy of your trust account balances and for calculating the adjusted bank balance.

Although a bank statement is trustworthy, there may be some figures that need to verify on the bank statement.

1. If there are any deposits made after the statement closing date, add them to the balance shown on the bank statement

2. If there are any checks or withdrawals made after the statement closing date, subtract them from the balance shown on the bank statement

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Second:Compare the balance between your journal entries (in your internal books) and your reconciled trust account bank statement.

It is important to reconcile trust accounts and reconcile internal trust accounts by comparing trust account balances, trust bank statements, and client records. This process ensures that all records are accurate and discrepancies are identified and resolved.

Third:* In order to comply with state bar regulations, the trust account bank statement must be reconciled with the client ledgers every month.*

Ensuring regulatory compliance and maintaining accurate reconciliation are essential for legal professionals to meet legal and ethical standards.

What makes this process more complicated is that the balance on the trust bank statement will need to be adjusted before the reconciliation. Sometimes, there will be transactions that have occurred but have not been cleared in the trust bank account, so we need to alter the ending balance on the trust bank statement to account for these missing transactions. For example, if our clients gave a check and sent it to a payee prior to the month’s end but it was not yet deposited by the payee, the check would be recorded in the client ledger but it would not yet have shown up on the trust account bank statement.

If you, as a business owner, see that you cannot handle accounting on your own, consider hiring an accountancy service for contractors to help you with it.

A client trust account, also known as an IOLTA account, is a special account used in legal practice to hold client funds separately from the law firm's operating funds. Proper management and reconciliation of the client trust account are critical for compliance and transparency.

Effective trust account management, diligent record keeping, and accurate financial reporting are essential for safeguarding client funds and meeting legal and regulatory requirements. Many law firms rely on these practices, and they are not just a best practice but a necessity to ensure compliance, accountability, and the integrity of trust account operations.

Role of Accounting Software in Trust Account Reconciliation

Legal accounting software has become an indispensable tool for law firms managing trust accounts and performing three-way reconciliation. Modern accounting software solutions, such as Clio or MyCase, automate many aspects of the reconciliation process, from data entry and transaction tracking to generating comprehensive reports. These platforms often feature real-time syncing with bank feeds, integrated client ledgers, and customizable trust account management tools, making it easier for law firms to maintain compliance and accuracy. By leveraging technology and staying informed about innovations in law firm billing practices, law firms can streamline their reconciliation process, reduce the risk of human error, and ensure that client trust is maintained through precise and timely financial management.

Best Practices for Effective Reconciliation

To achieve effective trust account reconciliation, law firms should adhere to several best practices. Regular and timely reconciliation—performed monthly or quarterly, depending on transaction volume and regulatory requirements—is essential for maintaining accurate trust accounts and safeguarding client funds. Law firms should also maintain detailed records of all financial transactions, including deposits, withdrawals, and interest payments, to support transparency and accountability. Leveraging technology, such as legal accounting software, can further enhance the reconciliation process by automating routine tasks and providing real-time insights. Additionally, implementing internal controls, such as segregating duties and conducting periodic audits, helps prevent errors and misappropriation of client funds. By following these best practices, law firms can ensure compliance, protect client funds, and maintain the trust and confidence of their clients.

If you, as a business owner, see that you cannot handle accounting on your own, consider hiring an accountancy service for contractors to help you with it.

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