The annual accountant’s report (Form 47) has been the primary tool for ensuring Law Society trust accounting standards are upheld. But is it the best way, or the most cost-effective? The Benchers have asked the Special Compensation Fund Committee to study the issue further and report back on alternatives, such as an expanded, proactive audit program similar to those in place in a number of other jurisdictions.
Special Compensation Fund Committee to report back to Benchers
Law Society comparing models for trust accounting review
The Benchers will take a closer look at the Law Society’s trust review program — namely the annual accountant’s report (Form 47) — to see how it compares with alternative programs in effectiveness and cost. The project started with a presentation to the Benchers in February by the Society’s senior auditor Jerome Maylsh* and will be pursued in the coming months by the Special Compensation Fund Committee.
Key to this review is the Law Society’s statutory responsibility under section 3 of the Legal Profession Act to protect the public and ensure the independence, integrity and honour of its members. Lawyers, through their education and commitment to professional standards, already foster a culture of strict compliance with trust accounting standards. But a trust review program should also effectively deter those few lawyer who might seize an opportunity to misuse funds and should detect a defalcation or other misuse of funds at as early a stage as possible.
What are the features of law society trust review programs?
Mr. Malysh surveyed several Canadian law societies and law societies in New Zealand and Scotland, which require either an accountant’s report or a self-report from law firms on a regular basis to demonstrate that the firms are in compliance with trust accounting standards:
Accountant’s report: a law firm retains a public accountant to prepare a report for submission to the law society based on a specific review of the firm’s records. (B.C., Alberta, Manitoba and New Brunswick)
Self-report: a law firm files its own report or certificate. (Ontario, New Zealand and Scotland).
Other than B.C., all these law societies also have a proactive audit program through which each law firm is audited every so many years. Firms may be selected for audit strictly on a random basis, or priority may be given based on risk.
What are the requirements in B.C.?
B.C. requires all law firms maintaining trust accounts to file an annual accountant’s report (Form 47). The report is a check that books and records are maintained in accordance with the Rules, monthly trust reconciliations are prepared and an adequate system for recording all financial transactions of the practice is maintained.
As noted, there is no proactive audit program in B.C. Audits are ordered based on complaints and other evidence that suggest serious accounting irregularities or misuse of trust funds.
This raises a question. Is the Law Society’s current program as effective as it could be in preventing and detecting abuses of trust funds? Although more analysis is needed, the experiences of other jurisdictions are valuable.
New Zealand, Scotland and Ontario: self-reports & audit
Within the last two years, three jurisdictions (New Zealand, Scotland and Ontario) have dropped the requirement that lawyers file accountant’s reports.
New Zealand did so after suffering large losses to its fidelity (special compensation) fund from defalcations undetected by accountant’s reports. New Zealand now requires law firms to file their own monthly certificates on client trust funds, among other things. The Law Society also audits each firm every three years.
In Scotland, law firms self-report to the Law Society (through an accounts certificate) every six months, and must include their last month’s trust reconciliation. Each firm also undergoes a Law Society audit every two years.
The Law Society of Upper Canada was the first to introduce self-reporting in Canada, about 18 months ago. Ontario law firms file an annual certificate to declare compliance with trust accounting standards. The Society plans to audit each firm every four years, with some provision for firms to opt out if they retain an accounting firm to conduct a comparable audit.
Alberta, Manitoba and New Brunswick: accountant’s report & audit
Certain other Canadian law societies — in particular Alberta, Manitoba and New Brunswick — require an annual accountant’s report that is more limited in scope than the B.C. Form 47, and costs less as a result. As well, these jurisdictions have proactive audit programs, with Alberta auditing each firm every eight years and Manitoba every four years.
Would B.C. benefit from a new program?
If the Law Society of B.C. were to follow the lead of these jurisdictions, it could move to a proactive audit program combined with either 1) a form of self-report by each law firm or 2) a shorter version of accountant’s report.
Requiring a report helps ensure the maintenance of proper records, though not necessarily the detection of misuse. The majority of Form 47 reports reflect minor or no exceptions in accounting practices. Only a small percentage of reports disclose major exceptions that require follow-up, although occasionally these result in the Discipline Committee ordering an investigation that uncovers misuse of funds.
The Law Society has looked closely at the audit program models in Alberta and Ontario, including the cost projections for those programs, but there is more work to do in developing an appropriate model for B.C. The Special Compensation Fund Committee will look at various options and will report back to the Benchers.
An audit program holds promise for more effective deterrence and detection. Not only would this enhance public protection, but it would hopefully limit exposure of losses to the Special Compensation Fund — which protects clients and saves money for the profession in the long-term.
The Special Compensation Fund Committee will continue work on the issue in the months ahead.
* Jerome Malysh, CGA CFE became the Law Society’s senior auditor in June, 1999, following 25 years in the RCMP, 16 of those years as an investigative accountant in the Commercial Crime Section.