Last Updated: November 2025
Important: Legal practice rules, trust account requirements, and software pricing are subject to change. Always verify current requirements with your state's legal services regulator and consult current ATO guidance for tax matters.
Law firms face some of the most complex bookkeeping requirements of any Australian business. Unlike standard businesses, legal practices must maintain separate trust accounts, track work in progress across dozens of matters, manage disbursements, comply with state-specific legal practice rules, and undergo mandatory external examinations.
The Law Society of New South Wales reports that trust account breaches remain one of the top three reasons for disciplinary proceedings against solicitors. A single trust accounting error can result in fidelity fund claims, professional indemnity issues, and disciplinary action from your state's legal services commissioner.
This comprehensive guide explains how to manage bookkeeping for law firms in Australia, covering trust accounting compliance, work in progress management, time billing, disbursements, and the specific requirements that separate legal bookkeeping from standard business accounting.
Legal practices require a specialised chart of accounts that separates operating funds from trust funds, tracks work in progress, and manages disbursements correctly.
Legal practice income should be separated by revenue type to analyse profitability by practice area:
- Direct matter costs recovered from clients: Court filing fees, search fees (title, ASIC, PPSR), barristers fees, expert witness fees, courier and process serving
- Standard business expenses: Salaries for fee earners and support staff, professional indemnity insurance, law society membership and practising certificates, legal research subscriptions, practice management software, occupancy costs
Trust accounts are not part of your profit and loss. Trust money belongs to clients and is held in trust until authorised to be transferred to your operating account as earned fees or disbursed on the client's behalf.
Your balance sheet shows trust bank account (physical bank balance) as an asset, and trust creditors (amounts owed to clients, barristers, third parties) and trust ledger control (total of individual client trust ledgers) as liabilities.
The trust bank account balance must always equal or exceed the sum of all trust creditor balances. Any shortfall represents a trust account deficit requiring immediate rectification and reporting to your state regulator.
WIP represents time recorded and disbursements incurred on client matters not yet billed. Record as current assets:
When you invoice the client, WIP transfers to Accounts Receivable and corresponding income is recognised.
Trust accounting is the most critical aspect of law firm bookkeeping. Every Australian state and territory has specific legal practice rules governing trust accounts.
- New South Wales and Victoria: Governed by Legal Profession Uniform Law and Legal Profession Uniform General Rules. Monthly trust account reconciliations required, statutory interest payments to the Law Society, and annual external examinations for practices receiving or holding trust money during the financial year.
- Queensland: Governed by Legal Profession Act 2007. Monthly reconciliations required, external examination required annually for general trust accounts and controlled money accounts.
- Western Australia, South Australia, Tasmania: State-specific legislation with similar core requirements around monthly reconciliations, separate trust accounts, and external examinations.
Law firms must complete formal trust account reconciliation by the 15th day of the following month, verifying:
1. Trust Bank Reconciliation: Reconcile trust bank account balance to bank statement, accounting for outstanding deposits and unpresented cheques.
2. Trust Ledger Balance: Add all individual client trust ledger balances representing money held for specific clients and matters.
3. Trust Creditor Balance: Add amounts owed to third parties from trust (barrister fees pending payment, search fees awaiting disbursement).
4. Three-Way Reconciliation: Trust Bank Balance must equal Trust Ledger Control plus Trust Creditors.
Example: Trust Bank $284,500 = Client Ledgers $267,300 + Trust Creditors $17,200. Any discrepancy indicates an error requiring immediate investigation.
Paying From Trust Without Authority
Every withdrawal from trust requires client authorisation, either explicit (written instruction) or implicit (fee agreement allowing transfer of billed fees to operating account).
Example: Transferring $5,000 from client trust to operating account for fees before issuing an invoice creates a temporary trust deficit for that client, even if the firm overall has sufficient trust funds. Each client's trust ledger must never go negative.
Cost: Trust deficits require immediate rectification and reporting to state regulators. Serious or repeated deficits can result in practising certificate suspension or disciplinary action.
Holding Non-Trust Money in Trust
Only money held on behalf of clients or third parties belongs in trust. Your own funds (except a small amount for bank fees) should never be deposited to trust.
Cost: Regulators discovering general operating funds mixed with trust money during external examination can result in disciplinary action for breach of trust account rules.
Failing to Pay Statutory Interest
Trust accounts must be maintained in authorised deposit-taking institutions approved by your state regulator. Interest earned on general trust accounts must be paid to your state's law society or fidelity fund, not retained by the practice. NSW and Victoria require quarterly statutory interest payments.
If your practice receives or holds trust money during the financial year, you must engage an approved external examiner to audit your trust account records.
External examinations verify:
External examination costs typically range from $2,000 to $5,000 depending on transaction volume and complexity. The examination must be completed within three months after financial year end, with the report lodged with your state regulator.
Examiner-identified breaches must be reported to the state regulator. Minor administrative errors might result in warnings, while serious breaches (trust deficits, unauthorised withdrawals) can lead to fidelity fund claims, practising certificate suspension, or disciplinary proceedings.
WIP represents time recorded and disbursements incurred but not yet billed to clients. Proper WIP management is essential for accurate profit reporting and cash flow forecasting.
Most legal practices use time billing where solicitors record time in 6-minute increments (0.1 hours). Time is recorded at the solicitor's hourly rate and accumulates as WIP.
Example: Senior Associate rate $450/hour, 2.4 hours reviewing contracts creates $1,080 WIP. This sits in WIP until billed. The longer time sits unbilled, the longer you wait to convert it to cash.
Time billing: Record all time at standard rates, bill client for actual time spent. Common for litigation, advisory work, and matters with uncertain scope.
Fixed fees: Quote a set price for the matter (conveyancing, will preparation, standard agreements). Time is still recorded internally to measure profitability, but client pays fixed fee regardless of actual time spent.
Example: Firm quotes $2,200 for standard residential conveyancing. Solicitor records 4.8 hours at $450/hour = $2,160 internal WIP. Client is billed $2,200 (fixed fee). The firm made a small profit because actual time was below the fixed fee.
If the matter required 6 hours due to complications, internal WIP would be $2,700 but client still pays only $2,200. The firm loses $500, highlighting why fixed fees require accurate scoping.
When you pay disbursements from operating funds on behalf of a client, record as WIP Disbursements until billed.
Example: Court filing fee $1,045 + title search $45 + ASIC search $39 = $1,129 total disbursements in WIP.
When you invoice the client, disbursements transfer from WIP to the invoice, recovered from client, and recorded as income to offset the expense.
Review WIP monthly and age it to identify matters with unbilled time requiring invoicing. Aged WIP reports categorise each matter's unbilled time by age: current, 30-60 days, 60-90 days, and 90+ days.
WIP over 90 days old should be billed immediately. Aged WIP often becomes difficult to collect, and clients may dispute historical charges.
Target: Bill WIP within 30-45 days of time being recorded. Practices with WIP over 90 days typically have collection problems and poor cash flow.
Sometimes time recorded cannot be billed because the matter was unsuccessful, time recorded exceeded client expectations, client disputes charges, or the practice made an error requiring additional unbillable work. Written-off WIP is expensed, reducing profit without generating revenue.
Example: Litigation matter accumulates $18,000 WIP over six months. Matter is unsuccessful, and firm's costs agreement limits fees to $12,000 if matter fails. Firm must write off $6,000 WIP, reducing profit by $6,000.
High WIP write-off percentages (over 10% of WIP created) indicate poor matter management, unrealistic time recording, or client disputes.
Understanding the difference between disbursements and expenses is critical for legal bookkeeping.
Costs paid on behalf of clients that will be recovered when you bill:
Disbursements paid from operating funds are recorded as WIP Disbursements (asset). When recovered from client, recorded as income to offset the expense.
GST Treatment: Most disbursements are taxable and include GST. When you pay a $110 filing fee (including $10 GST), you claim the $10 GST as input tax credit. When you bill client $110, you charge $10 GST and remit to ATO. Transaction is GST-neutral.
Costs of running the practice not recovered from clients: staff salaries, professional indemnity insurance, office rent, practice management software subscriptions, law society memberships. These are standard business expenses recorded in profit and loss, not WIP.
Some disbursements are paid directly from trust on client's behalf: barrister fees held in trust pending payment, settlement proceeds paid to other party in conveyancing, expert fees paid from trust.
These disbursements do not touch your operating account or profit and loss. They are simply movements within the trust account.
Example: You hold $5,000 in trust for litigation client. Barrister fee of $4,400 (including GST) is due. You pay barrister from client trust, reducing client's trust ledger by $4,400. This is not an expense to your practice and does not appear in your profit and loss.
Law firms require practice management software handling time recording, trust accounting, matter management, and invoicing in an integrated system.
Cost: From $225 per user per month (pricing is quote-based)
LEAP is the most widely used legal practice management software in Australia, offering time recording, trust accounting, document automation, matter management, and built-in accounting. LEAP maintains separate trust and operating ledgers, automates trust reconciliations, and produces external examination reports. Software enforces trust account rules, preventing common errors like creating client trust deficits.
Best for: Small to medium firms (2-30 solicitors) wanting all-in-one solution with strong trust accounting compliance.
Cost: From $119 per user per month
Smokeball provides matter management, time tracking, document automation, and billing but requires integration with separate accounting software (Xero or MYOB) for trust accounting.
Best for: Firms wanting flexible practice management with accounting in Xero/MYOB rather than all-in-one software.
Cost: From $159 per user per month (quote-based)
ActionStep offers comprehensive practice management including trust accounting, matter management, time recording, and billing. More customisable than LEAP but requires more setup.
Best for: Medium to larger firms (20+ solicitors) with complex workflows requiring customisation.
Cost: From $80 per month (Established plan) plus practice management software
Some smaller firms use Xero for accounting with separate time tracking software (TimeSolv, Rocket Matter). This requires manual integration but costs less than all-in-one solutions.
Requirements: Separate bank accounts for trust and operating, separate Xero organisations or detailed tracking categories, manual trust reconciliations.
Best for: Sole practitioners or very small firms (1-3 solicitors) on tight budgets.
Law firms structured as partnerships require systems to track individual partner contributions and distribute profits appropriately.
Equity Partners: Share in firm profits and losses, typically receive monthly drawings against expected annual profit, with final distribution after year end.
Salaried Partners: Paid fixed salaries like employees, do not share in profits or losses.
Partner drawings are not expenses but distributions of profit to owners, recorded as reductions in partner equity.
Example: Three-partner firm projects $600,000 annual profit distributed equally. Each partner takes monthly drawings of $15,000 ($180,000 annually).
At year end, if actual profit is $630,000, each partner receives additional $30,000 final distribution ($210,000 total). If actual profit is only $540,000, each partner is overdrawn by $30,000 and must repay or have it deducted from following year's distributions.
Many partnerships track which partner originated matters and who performs work, with profit distribution affected by each partner's contribution to firm revenue.
Example: Partner A brings in $400,000 fees, Partner B $300,000, Partner C $200,000 (total $900,000, total profit $450,000).
Distribution weighted by origination:
This encourages partners to originate work and bill actively.
Legal practices commonly claim expenses directly related to earning practice income. Tax deductibility depends on your specific circumstances and how expenses relate to your income-earning activities. Always consult your accountant or registered tax agent before claiming deductions. For authoritative guidance, visit ato.gov.au.
Common expenses law firms may be able to claim include:
- Professional costs: Professional indemnity insurance (typically $3,000-$30,000 annually), practising certificate fees ($800-$1,500 per solicitor), law society memberships, legal research subscriptions (Lexis Nexis, Thomson Reuters, CCH)
- Professional development: Continuing professional development courses, conference attendance, seminars directly related to maintaining professional knowledge in current practice areas
- Equipment and assets: Law library books, practice manuals, office equipment. The ATO's instant asset write-off threshold changes regularly (currently $1,000 for businesses under $10 million turnover). Assets above this threshold are typically depreciated over their effective life. Check ato.gov.au for current rates.
- Motor vehicles: Solicitors attending court, client meetings, or site inspections may claim vehicle expenses using logbook method (business percentage of all costs) or cents per kilometre (up to 5,000 km at current ATO rate). Check ato.gov.au for current rates and requirements.
- Home office: Sole practitioners working from home may claim a portion of home-related expenses if the space is exclusively used for practice purposes and represents the principal place of business. This is a complex area requiring specific advice from your accountant.
These are general examples only. Consult your accountant or registered tax agent for advice specific to your circumstances.
Drawing fees from trust before issuing invoice creates temporary trust deficits. Even if overall trust account has sufficient funds, each individual client ledger must never go negative.
Cost: Trust deficits require immediate rectification and reporting to state regulators. Serious or repeated deficits can result in practising certificate suspension or disciplinary action.
Solution: Always issue invoices before transferring fees from trust to operating account. Use practice management software to enforce this automatically.
Allowing WIP to age beyond 90 days creates collection problems. Clients dispute historical charges, and aged WIP becomes difficult to convert to cash.
Cost: Firm with $200,000 in WIP over 90 days old may only collect 60-70%, writing off $60,000-$80,000 in legitimately recorded time.
Solution: Set monthly billing targets. Review aged WIP reports monthly and invoice all matters with WIP over 30 days unless specific reason to delay.
Recording disbursements as direct expenses rather than WIP causes incorrect profit reporting. Disbursements should be recorded as WIP assets when paid, then converted to income when recovered from clients.
Cost: Firm paying $50,000 in disbursements annually but recording as expenses rather than WIP shows artificially low profit by $50,000 (assuming all disbursements eventually recovered).
Solution: Use separate accounts for WIP Disbursements vs business expenses. Ensure all client-related costs flow through WIP.
Failing to complete mandatory external examinations by deadline results in automatic breaches reportable to state regulators.
Cost: Late or missed external examinations can result in penalties, increased scrutiny from regulators, and potential practising certificate suspension.
Solution: Engage external examiner in July (immediately after financial year end) to allow three months for completion.
Legal practices often have strong WIP and receivables but poor cash flow because time is not billed promptly and clients delay payment.
Cost: Firm with $300,000 in WIP and $150,000 in receivables may have only $20,000 in bank account, making it difficult to pay staff, rent, and suppliers despite being profitable on paper.
Solution: Bill WIP monthly, chase overdue accounts receivable aggressively, forecast cash flow weekly based on expected receipts and payments.
What is the difference between trust and operating accounts for law firms?
Trust accounts hold money on behalf of clients and third parties. This money does not belong to the law firm and cannot be used for business expenses. Operating accounts hold the firm's own money used to pay salaries, rent, and other business costs. Legal fees are transferred from trust to operating only after invoicing. Every withdrawal from trust requires proper authorisation and documentation.
Do I need an external examination for my law firm trust account?
You need an external examination if your practice receives or holds trust money during the financial year. The examination must be completed by an approved external examiner within three months after financial year end, and the report lodged with your state's legal services regulator. External examinations verify trust account compliance including reconciliations, statutory interest, and proper authorisation for withdrawals.
How should law firms treat disbursements in their bookkeeping?
Disbursements paid on behalf of clients should be recorded as Work in Progress Disbursements (an asset account) when paid. When you bill the client and recover the disbursement, it is recorded as income to offset the expense. This ensures disbursements do not incorrectly reduce your profit. Disbursements paid directly from client trust do not touch your operating accounts or profit and loss.
What is work in progress and why does it matter for law firms?
Work in progress represents time recorded and disbursements incurred that have not yet been billed to clients. WIP sits on your balance sheet as an asset until converted to revenue through invoicing. High WIP levels indicate delayed billing, which creates cash flow problems. Aged WIP over 90 days often becomes difficult to collect and may need to be written off, reducing profit without generating cash.
Should law firms use time billing or fixed fees?
Time billing records actual hours worked and bills clients for time spent, common for litigation and complex matters. Fixed fees charge a set price regardless of time spent, common for standard matters like conveyancing or wills. Many firms use a combination, with fixed fees for routine work and time billing for uncertain or complex matters. Internal time recording is still valuable under fixed fees to measure profitability and identify matters that exceed scoped time.
What software do law firms need for bookkeeping and trust accounting?
Law firms require practice management software that handles trust accounting, time recording, matter management, and billing. LEAP is the most popular all-in-one solution. Alternatively, firms can use Xero for accounting with separate time tracking software, though this requires careful trust account management. Whatever software you choose, it must maintain separate trust and operating ledgers and produce monthly trust reconciliations.
How do law firm partnerships distribute profits?
Law firm partnerships typically pay partners monthly drawings as advances against expected annual profit, with final distribution after year-end based on actual results. Distribution percentages are set in the partnership agreement, often based on equity share, fee contribution, or combination of factors. Partner drawings are not business expenses but distributions of profit to owners, recorded as reductions in partner capital accounts.
What happens if a law firm has a trust account deficit?
A trust account deficit occurs when a client's individual trust ledger balance is negative, meaning more money has been withdrawn than was held for that client. This is a serious breach of trust account rules requiring immediate rectification. The principal must deposit personal funds to restore the deficit, and the breach must be reported to the state regulator. Repeated or large deficits can result in practising certificate suspension or disciplinary proceedings.
Can law firms claim tax deductions for professional indemnity insurance?
Professional indemnity insurance premiums may be deductible when directly related to earning practice income. Premiums range from $3,000 to $30,000+ annually depending on practice areas and claims history. However, tax deductibility depends on your specific circumstances. Always consult your accountant or registered tax agent for advice specific to your situation.
How often should law firms reconcile their trust accounts?
Law firms must complete formal trust account reconciliations monthly, by the 15th day of the following month. The reconciliation must verify that the trust bank balance equals the sum of individual client trust ledgers plus trust creditors. Many firms reconcile weekly to catch errors early. Monthly reconciliation documentation must be retained for the external examination and potential regulatory review.
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