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Key Takeaways:
- Every state requires trust accounting to follow a specific court-approved or probate format — and even minor errors can cause costly delays.
- Inadequate documentation can derail trust administration and lead to lawsuits among beneficiaries.
- Small law firms that don't handle trust accounting in-house should work with experienced financial professionals to prepare accurate reports.
For smaller law firms offering estate planning services or trust administration services, managing trust accounting is a big responsibility. Failing to comply with trust accounting requirements can delay court approvals, create conflict among beneficiaries, and expose attorneys and trustees to legal action. Even the most experienced legal teams may find that trust accounting requires specialized financial skills beyond their usual scope.
Understanding what trust accounting entails — and how to avoid common missteps — can help your firm stay compliant, reduce risk, and deliver smoother outcomes for your clients.
What Is Trust Accounting?
Trust accounting involves the financial recordkeeping and reporting associated with administering trusts — including living trusts, probate matters, and special needs trusts. Trustees may be attorneys, family members, or other third parties; and they're legally required to maintain accurate financial records, provide accountings to beneficiaries when requested, and submit reports to the court in a specific format defined by state law.
While trust accounting formats vary from state to state, the underlying principles are consistent: the trustee must clearly account for all income, expenses, and distributions associated with the trust and maintain supporting documentation.
Attorneys typically do not perform the accounting themselves. Instead, they coordinate with CPAs or other financial professionals who can gather, analyze, and compile trust records into the required format.
Common Mistakes in Trust Accounting
Trust accounting is meticulous by nature, and small law firms without an in-house accounting function, despite the best intentions, may struggle with the following:
- Missing documentation: Without consistent recordkeeping, gathering historical data can be time-consuming and costly. Lost bank statements, questions about the purpose of certain expenses, and missing invoices often create delays.
- Improper format: Submitting reports that don't follow the court's required format can lead to rejections, costly additional court hearings, and postponed distributions.
- Failure to respond to beneficiary requests: Failing to provide timely updates or respond to requests for information erodes trust, can escalate into legal disputes, and may breach the trustee's fiduciary duty.
- Unauthorized distributions: Making distributions before the court approves the trust accounting can create compliance issues or grounds for removal of the trustee.
Risks of Non-Compliance
Courts often reject or delay trust accountings that contain even minor errors. The court can freeze trust assets and prevent beneficiaries and trustees from accessing funds. These delays frequently lead to frustration among beneficiaries who may be counting on distributions.
Family conflicts may also arise if beneficiaries suspect the trustee is mishandling assets. Trustees who fail to maintain proper records or provide timely accounting may be removed and, in extreme cases, face accusations of mismanagement or even lawsuits.
Consider the case of a trust established in 2017 after the passing of a father with substantial assets and rental properties. Initially, his sister was named trustee, but she passed away two years later and his adult daughter became the successor trustee.
Four years later, the son — frustrated with a lack of communication and distributions — filed suit against his sister, demanding a complete trust accounting from 2020 forward. The sister, unfortunately, lacked supporting documentation. She hadn't kept bank statements, many checks lacked appropriate detail, and records were incomplete.
The trust accounting team had to reconstruct the trust's finances, requiring copies of every bank statement and a painstaking review of years of transactions. The delays were substantial, and the trust incurred significant professional fees — costs that could have been avoided with proper recordkeeping and regular accounting.
Best Practices for Managing Trust Accounts
Here's another reason to take trust accounting seriously: trustees and legal counsel typically can't be compensated until the court approves the accounting. With that in mind, here are four practices we recommend for small law firms supporting clients with trust administration responsibilities:
1. Stay on Top of Daily and Monthly Recordkeeping
Maintain a comprehensive record of all trust transactions. This includes a detailed check register for paper checks, as well as logs for electronic payments, wire transfers, and cash disbursements. Record all deposits and withdrawals, and note any fees deducted directly from investment statements or bank accounts.
Accompany each transaction with supporting documentation — invoices, receipts, or memos explaining the purpose — so you can clearly demonstrate the flow of funds. Reconcile bank and investment statements monthly, and retain original statements and financial documents for audit or court review.
2. Manage Documentation
Save invoices and records for all trust disbursements, including attorney fees, property maintenance, and professional services. Keep receipts for all expenses paid by the trust and maintain a file for all correspondence with beneficiaries.
3. Prioritize Communication and Reporting
Respond promptly to beneficiary requests for information. You should prepare accounting at least annually or more frequently if required. Confirm your trust accounting format meets state requirements.
4. Educate Clients and Facilitate Communication
Educate your clients or trustees about their record-keeping responsibilities and the importance of timely communication with beneficiaries. Consider serving as a point of contact between trustees and beneficiaries when needed to keep the process transparent and collaborative.
5. Consider Outsourcing Trust Accounting
Trust accounting is detailed and time-consuming. An experienced accounting and consulting firm that understands probate formats and court requirements can reduce administrative burden and increase accuracy.
An accounting team also brings experience with specialized trust accounting software and a deep understanding of the tax implications of trust transactions — providing valuable guidance throughout the process.
For small law firms, working with experienced professionals can streamline the process, help prevent disputes, and keep trust administration on track.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
