The SRA has uncovered a ‘clear correlation’ between firms in financial difficulty and increased risks to clients.
A review of 76 firms that suffered recent money problems found evidence of misuse or misappropriation of client monies at more than a quarter.
The research was undertaken to identify good and bad behaviour in firms, checking their adherence to the principle 8 requirement to run the business effectively, with sound financial and risk management principles.
In nearly 40% of cases, the SRA found firms were struggling because of poor financial and business management, rather than external market forces.
Examples of this included autocratic management, partner drawings in excess of cash takings and failure to control billing.
Firms were also vulnerable if they offered niche, specialist services, while others that tried to diversify faced dangers if they did not plan sufficiently.
In more than a fifth of cases, a key partner leaving was a significant contributor to the firm’s problems.
Failure to pay service providers was also seen to have an adverse impact on clients – in one case where the creditor was a landlord who could lock employees out of the building.
Mike Haley, SRA director of supervision, said: ‘Tough economic times can sometimes lead ethical and upstanding solicitors to stray from the straight and narrow. They think that because they are breaking the rules for the best of intentions - to keep the firm afloat - that this is somehow acceptable.
‘That is simply not the case. It is not our job to tell solicitors how to run their firms, but we do need to be kept informed if there are financial difficulties so we can make sure client interests are not put at risk.
‘Our concern is to ensure that when a firm is in financial difficulty that client monies are not misused, and to oversee the orderly transfer or closure of a firm in a way that means client matters are dealt with properly.’
In most cases where client money was misused, it was taken to pay outstanding debts or to cover the costs of overheads. The SRA found evidence that firms moved client money into the office account or in recent cases took advantage of strong relationships with clients to create a loan agreement.
In one example, the SRA found one law firm that had borrowed £80,000 from a client in two loan agreements, but could not repay it when required as the money had been used to cover shortfalls in the practice.