Solicitors can stop worrying about client money in banks. But they should still be careful how they invest, reports Lucy TrevelyanWhen the credit crunch led to the crisis at Northern Rock and its subsequent nationalisation, solicitors might well have worried about their liability. The bank certainly ran business accounts open to solicitors’ firms, though how much, if any, firm money it had is not public knowledge.


However, even if a bank did become insolvent, as long as it was regulated and approved by the Financial Services Authority (FSA) no liability is likely to arise for depositing law firms. No cash would be owed, and no Solicitors Regulation Authority investigator would come knocking.



‘As long as solicitors behave reasonably with a client’s money there shouldn’t be any liability,’ says Richard Schofield, the Law Society’s acting head of policy. ‘They would rely on the FSA to ensure a bank is solvent and robust. If a bank is regulated by the FSA, I think it’s reasonable to assume the FSA is doing its job reasonably. If a bank has a licence to operate, one could say that it is a safe prospect for clients.’



Even if a solicitor invested money in Northern Rock after it ran into trouble, Schofield says, as long as the Bank of England and the FSA continued to back the bank and confirm its robustness as an organisation, it would still be reasonable to rely on those assurances.



Liability aside – even though some cash (up to £35,000 per client) could be clawed back through the Financial Services Compensation Scheme – if a bank collapses many clients could lose money. A conservative estimate of client monies held in UK banks at any one time is £2-3 billion, says Schofield – so there is a lot of client money to lose.



One proposed answer to this problem is the Safety Deposit Current Accounts Bill, a private member’s bill introduced by Lord Caithness, currently proceeding through the House of Lords. The bill has been drafted by a team led by solicitor-advocate Tim Lawson-Cruttenden, of London-based Lawson Cruttenden & Co. As an answer to the Northern Rock crisis, the bill seeks to make it mandatory that banks and building societies offer safety deposit current accounts. The money placed in these accounts would be ring-fenced, would not ordinarily be available to be placed in general funds maintained by the relevant bank, and depositors would be allowed to withdraw their money after 24 hours’ notice. Banks could charge ‘reasonable fees’ to customers for the service of providing, maintaining and administering transactions in such accounts.



Lawson-Cruttenden says the bill is designed to address a fundamentally flawed banking system, which is based on an archaic and out-of-control barter system.



‘The banks are the big barons. We need a Magna Carta for them; they need to be reined in.’ He is appalled that solicitors have strict account rules and yet, as trustees of client account money, when solicitors invest money with banks they become unsecured creditors. It is also ridiculous, Lawson-Cruttenden argues, that the government is forced to guarantee the banking system.



‘The government shouldn’t have to prop up the banking system with taxpayers’ money, to shore up people who want to have a punt at investment. It’s just based on greed. We’re saying that [safety deposit accounts] are the only accounts the government should guarantee.’



He adds: ‘I call this bill a voice crying in the wilderness – I feel like John the Baptist. In most other industries you have to have contracts; everything is above board and understood. In banking you have this glorified barter system, where as soon as you hand over your money to the bank you lose control. If everyone who had money in the bank wanted their money back they couldn’t have it. This bill is a stab at a solution to this.’



Even inattentive students will remember that John the Baptist ended up with his head on a plate. Lawson-Cruttenden may keep his head, but his bill’s future is far less certain.



Schofield – soon to meet Lawson-Cruttenden to discuss the bill – concedes that in the light of Northern Rock and concerns about capital markets generally, ‘it is useful to have a vehicle for debate around this sector’. However, he says that, even if the bill were enacted, it is difficult to see how it would change business practice.



‘It seems very unlikely that clients – who have personal bank accounts of their own – would choose to have their money held by their solicitor treated any differently. Most people realise that the risk of losing money with a reputable banking institution is so slight that they are unlikely to avail themselves of something which would lose them interest and would require them to pay charges to use.’



It would bring with it all the downsides of banking, he says, including extra charges and extra insurance costs for the bank holding so much cash. ‘At the moment, individual branches have very little on deposit because of the risk. The bill envisages that funds should be available within 24 hours; this will see an increase in insurance premiums. Another downside is that there wouldn’t be any interest.’



Simon Young, a solicitor and legal management and training consultant, says that, as the accounts would be open to all, and are thus likely to attract a large number of applications from (understandably) cautious punters, they will be ‘a nightmare’ to administer, and hence attract large fees.



‘Presumably it would also mean that large amounts of money become locked into cash and are unavailable for investment purposes, thus increasing the problems for inter-bank lending,’ he adds.



Young also predicts that law firms may not be overjoyed at the prospect of the bill as it could add to liability burdens. ‘At present, I doubt if a firm would be tortiously liable for having invested client account in bank X, if bank X subsequently goes bust and not all funds are recoverable. If however the bill goes through, then I think firms might be at risk if they invested in any account with bank X other than a new-style account. If, for instance, bank X was able to pay out on its new-style account, but not on its traditional accounts, there could be problems.’



And, as Tony Williams, principal of Jomati Consultants, puts it: ‘Firms make significant money from client deposits, although for larger amounts the benefit needs to be passed back to the clients.’ Clearly this income would be lost in a low- or no-interest earning bank account.



The British Bankers Association, meanwhile, is sitting firmly on the fence. ‘The bill raises an underlying issue which we, along with other trade bodies and our members, are considering in the context of the tripartite consultation on financial stability and depositor protection. Client accounts are complex and we will be undertaking further work in that area,’ a spokesperson says.



Lawson-Cruttenden, however, insists the option should be available. ‘People might not take it up but the facility should be there. If it gets taken up, fine, if it doesn’t, it doesn’t.



‘All I’m trying to do is get people to start thinking about whether we should all be unsecured creditors and whether the government should prop up an increasingly flawed system. If we’re not careful a real crisis of confidence will arise. Cracks are appearing in the system and the government is just putting plaster over the cracks.’



But were there any more blips in the banking sector, the Law Society would be likely to look to the government and the FSA to prove that the framework was working as well as it could, says Schofield. ‘The FSA has accepted that some of the elements of the Northern Rock affair could have been done better. They are on probation to show that the framework they have in place is being implemented properly.’



Viv Williams, managing partner of the 2020 Lawyer Group, says the lesson is: do not deposit client money in any bank unless it is a top-rated bank.



‘If you’re banking with a non-high street bank, I think there is a risk. I have seen less well-known banks offering attractive rates if law firms transfer their client accounts, but I would be concerned about depositing with them. Some I haven’t even heard of. I wouldn’t advise a law firm to go with them just for a 1% increase in rates – it’s a huge risk. It’s not worth it.’



Lindsey Rix, industry commercial director in the professional and public sector services team at Barclays Commercial Bank, says: ‘Since 1994, Barclays has consistently held an AA credit rating. You only get this rating from the independent rating agencies if your business is judged to be of high quality and subject to very low credit risk.’ Barclays was the only bank we approached willing to comment for this feature.



Far from worrying about the collapse of banks, she says law firms can best safeguard their clients’ cash by having an effective risk management system in place internally, complying fully with the SAR (Suspicious Activity Report) regime and having a well-structured and efficient accounts department.



‘Externally,’ she adds, ‘it is crucial to have an active and open relationship with their bank, with a knowledgeable bank manager and servicing team, who understand fully legalities and compliance associated with managing clients’ funds – ones which are able to offer the most efficient product solution to the firm’s individual requirements.’



Most legal commentators agree that, in these uncertain times, banks are applying increasing pressure to ensure that law firms with high levels of unsecured debt are effectively and efficiently managing their practices as businesses.



Rix says her bank has seen no change of stance in the current environment with respect to pressure being applied on law firms with unsecured borrowing.



‘Our view has always been to review each firm individually, helping the firm to run its practice as efficiently and profitably as possible, ensuring a strong, sustainable and growing business. All borrowing is assessed on a case-by-case basis, considering the management of the firm, serviceability and repayment of the debt, and the strategy to sustain these measures in the future.’



As banks hold between £1 billion (say accountants BDO Stoy Hayward) and £3 billion (the Law Society) of law firms’ cash, and that, according to Williams, the number of law firms ‘getting into difficulty’ has shot up this year, one perhaps could not blame the banks for exercising caution.



‘We’re seeing an increase in law firms going into insolvency,’ says Williams. ‘The number of firms for which we have provided interim management because they are facing difficult times has risen roughly five times this year. And the reason they are getting into difficulty is because they are not running their practices as businesses.’ For example, he says, in the case of a ‘high-net-worth individual’ matrimonial case, law firms think the money is secure because of the value of the property at issue, so they might be funding a year’s work out of their own funds rather than asking the client for money on a monthly basis.



‘What business wouldn’t ask for payment, other than law firms? They are funding cases through their overdrafts and banks are saying this is no way to run a business. The client has the responsibility to pay as they would for any other service. The legal profession is the last bastion of the attitude of “we’ll support them and not worry about the money”.



‘By and large, banks are encouraging lawyers to manage their firms better. Someone has to manage the practice. It can’t be just pure law. Those running law firms can’t be hobbyists.’



But given the uncertain economic times, surely pressure can work both ways? Could not the potent investing power of law firms be harnessed as group power to persuade banks to offer law firms and their clients a better deal?



Not that way, says Young. ‘Firms which are prepared to negotiate are able to get pretty good terms already. They would probably be reluctant to join any group scheme with less well-organised, and hence higher-paying, firms.’



But Adrian Dion, managing director of The Solicitors Group (TSG), which acts as a buying group for law firms, has been doing just that. Since 2004, TSG has negotiated with several leading high street banks to secure over base rate on client monies for high street law firms.



‘When the programme started four years ago, TSG unsurprisingly found the banks fairly reluctant to negotiate their terms. However, TSG applied the buying power from its 4,000 members and negotiated with several high street banks to secure preferential terms for both law firms and their clients significantly greater than a firm could achieve standing alone.’



The current plight of the banking sector, he says, presented an increased opportunity for TSG to secure even more favourable terms for their members for the next three years.



‘There is an excellent opportunity, particularly in this current economic climate, for the roughly 9,000 law firms within the legal profession to form buying co-operatives to negotiate improved terms with the banks, on the basis that law firms collectively are a significant force,’ he adds.



So it seems that the banking crisis might work in solicitors’ favour, rather than endangering either client monies or their own. Law firms certainly seem to have many more legitimate causes for apprehension – even those that may have banked with the Rock.



Lucy Trevelyan is a freelance journalist