The Legal Services Board (LSB) recently published the findings of its investigation into the SRA’s handling of Axiom Ince.

There are many points within the more than 70 page report that the regulator will no doubt be digesting and these may well feed into its ongoing Consumer Protection Review (CPR) into how client funds are handled in the legal sector.

The future of client fund handling has been a key source of anxiety for the legal sector throughout the CPR. As the SRA seeks to manage risk in the legal sector following the loss of more than $60 million in client funds in Axiom Ince, the regulator has floated the idea of removing client money from law firms.

In effect, this would take the regulatory risk that comes with client funds away from the SRA and bring it under the FCA regulatory regime.

While this is standard practice in other jurisdictions, notably the US, in the UK market there’s a long-history of handling client funds. Keeping funds in-house is seen as central to the relationship of trust between law firms and their clients.

The LSB report is agnostic on the broader question of whether or not firms should continue to handle funds. What it does highlight however are some practical measures that could be taken to build some guardrails that would help mitigate the risk of another Axiom Ince.

One of the key issues identified by the LSB as contributing to the Axiom Ince scandal is the absence of independent accountancy around client funds. As it stands, the SRA requires firms to obtain annual accountants reports when holding client funds. However, firms are only required to share these reports with the regulator if they fail to comply with SRA Accounts Rules.

Beyond this, there’s currently no way for the SRA to ensure a firm is indeed auditing client money accounts and Axiom Ince has served to expose this weakness.

Between the laissez-faire status quo then and the other extreme of banning client fund handling all together, the LSB highlights a third way is available which involves the SRA building a mechanism to ensure firms are meeting their existing obligation to obtain annual accounts on client funds.

Building this transparency into existing systems would give the regulator more oversight while avoiding disrupting the law firm/client relationship that is built upon fund custodianship.

Another key theme to come through in LSB’s investigation is the complexity associated with reconciling account reports with bank accounts and other systems. In order to verify what is reported by an accountant, transparency on what client money is being held and where is necessary. This isn’t always an easy thing to do however and this complexity is identified by the LSB as a risk factor that could play into another Axiom Ince.

The further consideration for law firms here is that reconciliation failures and disparities might not be deliberate or nefarious. The greater the level of complexity, the greater the capacity for human error and, when it comes to client funds, these errors could be costly in terms of both reputation and finances.

So, what can firms and the SRA do to get ahead of the risks identified by the LSB and find the right balance between under-regulation and over-regulation?
The key it would seem is to manage the complexity that comes with client funds in a way which minimises the risk of error and provides the transparency needed to inspire the trust that Axiom Ince case has no doubt eroded.

Legal tech will have a role to play here, but any tech solutions will need to be balanced against the sense of protectiveness the legal sector feels towards client accounts. A recent survey of the UK legal sector found overwhelming opposition to the idea of firms being prevented from holding client funds and the sector is also sceptical that third-party managed accounts are the answer.

There’s clearly a fine balance to be struck here then between protecting the client / law firm reputation that fund handling represents, while also embracing tech to manage the risks that can come with this. There are already solutions out there that can integrate client ledgers, matter ledgers, bank accounts and other systems and provide smarter ways of managing funds which offer transparency and efficiency. Used correctly, legal tech can allow law firms to continue holding client funds and owning the relationships that go with that, while also making life easier for the regulator.

It remains to be seen what steps the SRA will take to close the gaps exposed by Axiom Ince, but firms should act now to get ahead of the issues identified in the LSB report and harness tech for smarter client fund handling.