Using client account money to shore up a solicitors’ practice – SRA v Barker and Newton
Article by Nigel West published in Lexis PSL on 8 October 2015.
What were the facts of the case?
In SRA v Barker and Newton (SDT case no 11327-2015) a legal aid practice with two equity partners faced cash flow difficulties when the bank reduced the overdraft facility from £35,000 to £9,000. Legal aid payments due to the firm were received on a weekly basis on Mondays and by the end of the week the overdraft had often reached its authorised limit. When that happened the senior partner transferred small sums of money in the region of £1,000 or £2,000 from the client account to the office account towards the end of the week in the knowledge that legal aid payments would be received on the Monday. On receipt of the legal aid payments the money was paid back into client account.
The firm’s auditors reported the matter to the Solicitors Regulatory Authority (SRA) in a qualified accountants report. That triggered a forensic investigation. The SRA’s investigation officer identified 61 improper transfers totalling more than £114,000. The SRA took proceedings against both partners in the Solicitors Disciplinary Tribunal (the Tribunal), and alleged that the senior partner had acted dishonestly.
The senior partner had practiced for 35 years. He acted as the Compliance Officer for Legal Practice (COLP) and the Compliance Officer for Finance and Administration (COFA) and was responsible for the accounts. The junior partner had practised for 15 years. She started as a trainee in the firm and she took no active role in managing the practice or the accounts. Although she knew the firm had cash flow problems, she rarely accessed the bank records and was unaware of the improper transfers until the senior partner told her about them during the investigation. She did not attend the Tribunal hearing and, as the senior partner was responsible for the accounts, she sent a letter to the Tribunal suggesting that there should either be no order against her or a reprimand.
The Tribunal dismissed the allegation of dishonesty against the senior partner but stated that he had been responsible for the systematic transfer of client money in breach of the Solicitors Accounts Rules (the SAR) and his obligations to protect the public and the reputation of the legal profession. His conduct had been deliberate and calculated and had occurred over a lengthy period of time. The Tribunal said that the question whether he should be struck off or suspended called for ‘a very finely balanced judgment’ and decided, after accepting that he had been open and frank with the SRA investigators and that no clients had suffered loss, that he should be suspended for two years rather than struck off.
The Tribunal also suspended the junior partner for six months. As a partner, she was responsible for breaches of the SAR. The Tribunal said that the public expects all partners to exercise active custody of the client account. Her culpability arose from a failure to be vigilant and a failure to have regard to the financial management of the firm and custody of client money. The Tribunal was particularly critical of the fact that she maintained up to the hearing that the accounts were nothing to do with her. The Tribunal said a suspension was necessary to convey a message to the profession that undertaking partnership bears a heavy burden and that all partners have to take their obligations seriously.
What can compliance officers in law firms learn from this case?
There are four main points:
- The Tribunal (and the courts) regard the partner’s obligation to act as the custodian of client account money very seriously indeed. A breach can lead to suspension or strike off even if a partner has not acted dishonestly.
- The SRA alleged in this case, and is likely to allege in many cases involving breaches of the SAR, that the COFA should bear a heavy responsibility for the breaches.
- The Tribunal (and the courts) expect partners (and COFAs) to be particularly vigilant if a firm is in financial difficulty. That is because financial difficulties increase the risk that a partner will misappropriate client account money.
- The SRA alleged in this case, and may allege in other cases, that a COFA who is personally responsible for a material breach of the SAR, and then fails to report that breach, is dishonestly concealing the breach.
What should compliance officers be doing to ensure they do not find themselves in this position?
It is impossible to prevent a senior and trusted partner with access to client account monies from misappropriating client funds if the partner is intent on doing so.
In practice, a COFA should introduce and maintain systems and controls for monitoring client money for three reasons:
- To reduce the risk of misappropriation
- To adhere to the express obligation to maintain systems and controls relating to client account money under Outcome 7.4 of the SRA code of Conduct 2011
- To provides good mitigation if there is a breach. It reduces the risk that the COFA will be held to be culpable for misappropriation of client monies by an errant member of the firm. If a COFA can show he has gone ‘the extra mile’ he may be able to avoid any criticism at all.
Can you provide suggestions for any systems and controls which compliance officers should consider introducing to reduce the risk of a situation like this arising in their firm?
There are a number of different suggestions:
- The difficulties in this case arose after the bank reduced the firm’s overdraft facility and the firm could not trade at the lower authorised limit. Instead of addressing the financial problem head on, the senior partner turned to the client account. If there are serious problems which cannot be controlled by raising finance, advice should be sought from an insolvency practitioner. Financial instability will not as a general rule lead to long-term regulatory difficulties. The problems – such as voluntary arrangements, merger, closure and practising certificate conditions – do not last forever. In contrast, a decision to use client account monies to resolve financial problems can lead to career-threatening regulatory action. The importance of the Tribunal’s statement in this case that the question as to whether to strike off the senior partner was ‘finally balanced’ cannot be over emphasised. The improper use of client account monies to attempt to overcome financial difficulties can lead to the long-term destruction of a solicitor’s career.
- If COFAs are aware of cash flow problems, they should not only consider whether to report the matter to the SRA (and consult an insolvency practitioner), but should also ensure that they actively monitor the client account to satisfy themselves that there no improper transfers. They should also keep a paper trail of what they have done to mitigate personal criticism if an improper transfer is subsequently discovered.
Even if there are no known financial difficulties, the COFA should consider whether to introduce the following controls:
- The COFA could ask the accounts department to supply a list of client-to-office transfers on a monthly basis. The list should be compiled from the bank statements (not the ledgers) and should be checked for round sum transfers. Improper transfers are often made for round sums such as £1,000 or £2,000. If there are unusual round sum transfers, the COFA should ask for an explanation and also check the supporting accounts vouchers.
- The case report does not examine the role of the firm’s cashiers. It is possible that one of the cashiers would have known what the senior partner was doing (as a cashier may have been asked to make the transfers from client account to office account without any bills or appropriate accounts vouchers). A COFA could arrange to hold regular one-to-one meetings with every member of the accounts department to check whether all the cashiers are satisfied with the firm’s practices and whether any cashier is aware of any practice which could be improved.
- The COFA could check the movements on the firm’s suspense account ledger on a monthly basis. The improper transfers in this case appear to have been entered on a suspense ledger because they did not relate to any particular client matter. If a responsible member of the firm had checked the suspense ledger the transfers would probably have been discovered.
Can a COFA rely on client account reconciliations to discover problems like this?
Definitely not. The monthly client account reconciliations simply show that the amount in the client bank account reconciles with the amount shown to be due to clients on the client ledgers. The reconciliations would not have disclosed the improper transfers in this case for two reasons:
- many of the improper transfers were made at the end of one week and corrected at the start of the next week on receipt of the weekly legal aid monies. Those transfers would not have figured in the reconciliations unless the weekend straddled a month end; and
- bookkeeping entries for the improper transfers appear to have been made in a suspense account. The bookkeeping entries would have meant that the monthly reconciliations balanced even if an improper transfer straddled a month end.
The three controls set out above (checking client-to-office transfers and the suspense ledger and regular meetings with cashiers) would probably have led to discovery of the practice.
Are disciplinary cases for breaches of the professional rules on the rise?
The number of cases lodged at the Tribunal is currently on the rise. That does not however mean that more solicitors then usual are committing disciplinary offences. During recent years, the SRA has concentrated much of its effort on issues relating to authorisation, recognition and licensing rather than disciplinary matters. Anecdotal evidence suggests that the SRA is now concentrating more of its resources on disciplinary cases, and that is why the number of proceedings before the Tribunal is now on the rise.
Interviewed by Susan Ghaiwal.
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