When I became aware of the blockchain technology, one of the first ideas that interested me was how it could be used to replace custodial IOLTA or client trust accounts. If you’ve ever paid an attorney, up-front, your money was probably deposited into an IOLTA. IOLTA stands for Interest on Lawyer Trust Account and it’s a specific type of trust account where an attorney holds client funds (retainer), until the money is earned. Retainer is sometimes an ambiguous term. In this article, it means prepayment of legal fees for specific work that will be done in the future, not payment for an attorney to be “on-call” for whatever legal matter might arise during the month. Once the attorney has completed all or part of the work, the money is earned and the attorney must transfer the earnings out of the IOLTA account and into the attorney’s personal or business account. Although the procedure might seem straight-forward at first, it’s actually a complex and confusing process and many attorneys get it wrong. According to, Lawyer Trust Account Mistakes – 3 Common Lawyer Trust Account (IOLTA) Mistakes, three common mistakes are (1) “Borrowing” money from the trust account, (2) Commingling attorney funds with client money, and (3) Failing to properly track client funds. Attorneys are disciplined and disbarred every year for making these “mistakes”. [See the following articles as examples: Ex Michael Jackson Lawyer Disbarred for Commingling Funds to Evade Creditors, Attorney Disbarment Warranted When Funds Commingled and No Legal Services Provided, Disciplinary Actions from the Most Recent Law Journal (North Carolina)]
Now, with blockchain technology, we no longer need IOLTA accounts; we can simply use bitcoin or another cryptocurrency to facilitate transparent, instantaneous transfer of value which protects both the client and the attorney.
Before we explore the blockchain solution, we’ll look at how and why IOLTAs were created and what problems they attempt to solve. The first issue is client protection, the second is ensuring attorneys get paid for legal work (but you knew that…right?).
Governments, attorneys, and bar associations have been concerned about protecting client funds for many years. According to the American Bar Association (ABA) article, A History of the Client Protection Rules, the development of the laws surrounding client protection seemed to be historically tied to depressed economic times when client funds were misappropriated. Today, the ABA model ethics rules, and the ethics rules adopted in virtually every jurisdiction, clearly state that it is unethical for attorneys to commingle client funds with firm or attorney funds. Additionally, many jurisdictions require attorneys to keep client funds in an IOLTA. The IOLTA solution, while better than nothing, does not adequately protect clients. IOLTAs are still custodial accounts, with little oversight, and no client control.
What’s wrong with custodial accounts? Custodial accounts, particularly those with little oversight, create an environment that seems to invite confusion, misuse, and misappropriation. Remember the Madoff case where investors lost millions of dollars? Custodial accounts with little oversight. For those of you familiar with bitcoin, remember Mt Gox? Custodial accounts with little oversight. How does this relate to IOLTA? IOLTA exhibit the features of typical custodial accounts with little oversight by outside parties and no client control.
Most firms have one single IOLTA where all client funds are deposited and managed. Why? Because having a separate account for each client would be too cumbersome for the bank and the firm. Who watches over these accounts? The owner of the account – the law firm. While the firm may have audit procedures in place, there is no third party watching out for individual clients in real time. More importantly, individual clients cannot verify their own balances independently. Clients are not provided with aggregate IOLTA information; it would be of limited value to clients as the account contains information for all clients and not just one. In order to see the status of their account, clients must usually request an “accounting” from their attorney. The accounting is typically derived from the firm’s internal accounting system and should show all financial activity relating to that client. Obviously the accounting could be manipulated by the one party who creates all of the data, the one party who provides all of the information to the client, the one party who is entrusted with protecting the funds from misuse by the one party who has access to them – the attorney or firm. I’m not suggesting that most attorneys or firms would manipulate the data, nor am I suggesting that an attorney would intentionally set out to steal client funds. I am, however, suggesting that the system is both inefficient and ineffective at protecting clients and attorneys and there is a better way.
How could we do it better? If misappropriation is such a problem, why allow attorneys to hold client money in the first place? Why not create a service first, pay later model? Attorneys typically require clients to pay something up front for a few reasons: (1) attorneys want assurance that they will be paid for their work (believe it or not, non-payment of fees is a huge issue for lawyers), (2) clients who pay up front are typically willing to take action when asked (like requesting records or otherwise participating in the legal action), and (3) attorneys need access to client funds to pay for things like court filing fees. Without client funds either the attorney assumes the financial risk for the client’s case or the client must be immediately available to pay court costs and filing fees in the appropriate manner when needed.
What other options are available? There are four viable alternatives to IOLTA, all using cryptographic ledgers or the blockchain technology.
Option 1: Use bitcoin, or an alt coin, for payment of legal fees when they become due. Why is this a better solution to protect clients and attorneys? It eliminates the need for custodial accounts. When using traditional payment methods, such as checks or even credit cards, there is a lag time between the payment request and the time the client pays. In my experience, my bitcoin clients pay within thirty minutes of receiving an invoice – yes, minutes, not days. Currently it takes about ten minutes for a bitcoin transaction to be verified and about an hour for me to rely on it. Additionally, payment requests can be processed using SMS, smart phone, or traditional computer/laptop. Also “opening” a bitcoin account is faster, more convenient, and less expensive than opening a traditional bank account. I use blockchain.info but there are many excellent services available. Admittedly, the risk shifts from the attorney to the client using this method. However, it encourages open, frequent communication between attorney and client, which is likely to increase overall client satisfaction. [Clients commonly complain in grievances that their attorney was non-responsive. If communication necessitates payment attorneys are incentivized to communicate more frequently with clients.]
Option 2: Replace the current system with the exact same system, on the blockchain, for increased transparency. How? The attorney and the client both create bitcoin wallets. The attorney creates two addresses within the wallet, one for custodial funds, one for firm operating expenses or earned funds. The client can have one address or more, depending on their preference. When the client retains the attorney, the client simply transfers bitcoin from their wallet to the address of the custodial account. When the attorney has earned the funds, the attorney transfers them from the custodial account into the firm or personal account. This is the same process we currently use with two important distinctions: transparency and convenience. Clients can view the balance in the custodial account at any time, from the privacy of their home or from anywhere in the world. Confidentiality is maintained because while the transactions are public, the ownership of the accounts generally is not. This protects the client because it provides real-time convenient oversight, by the client. [It’s worth noting that “opening” a bitcoin account is faster, more convenient, and less expensive than opening a traditional bank account. Creating an address is even easier. I use https://blockchain.info/ (but there are many great wallets available). I create new addresses for free, in seconds, by clicking one button. I don’t need to know, use, or understand computer code.]
Option 3: This is essentially the same as Option 2 above but instead of one custodial account the attorney creates an account for each client. Bitcoin addresses can be created for free, with the click of one button (see the green New Address button below), in less than three seconds (depending on internet speed, of course). Each address can and should be privately labeled. Using the example below, EmpoweredLaw Dispute Resolution is an address label. This one happens to be public but you can set it as private as well. The long string next to the label is the public address. This is the “account number” provided to the client. It’s best to cut and paste or use the QR code generator option (located in the “Actions” drop down menu). In green is 0.00mBTC which means there is no bitcoin in this account. The “m” stands for millibits, which is simply a setting I have on my wallet. Instead of seeing my balances in full bitcoin, I see them in millibits.
When the attorney provides the address to the client, the client deposits the retainer into the given account. The client can then see each outgoing transaction, in real-time. No need to ask the attorney for an accounting, it’s available in real-time anytime. Again, this benefits clients by encouraging open frequent communication and client oversight.
Option 4: Creating a digital escrow, or multi-signature, transaction to release funds. While this option might sound complicated at first, it’s really almost as simple as the other options above with one difference: a third party is optionally brought into the transaction to resolve any disputes. Bitcoin has the ability to include some conditions on transaction execution including dates and signatures. The technology enables us, for the first time, to have the equivalent of non-custodial escrow accounts. The conditions must be put in place prior to payment, which makes sense because it should be part of the retainer discussion. Lets consider an example:
Alice is the attorney, Bob is her client, Pamela is the arbitrator/third party. Alice sets up Bob’s account using a service like, Bitcoin Multi-sig, which creates an address that requires conditions to be met in order to spend the funds.
Alice enters her public key address, Bob’s public key address, and Pamela’s public key address. Under the “amount of signatures required to release coins”, Alice selects 2. This means that two of the three signatures above are needed to release the funds. If the representation goes smoothly, only Alice and Bob need to sign the transaction to release the funds to Alice. This would typically happen when Alice sends Bob a payment request, via email. If however, Bob is unhappy with Alice’s representation he could decide not to sign the transaction. Alice then has two options, Alice could (and should) talk to Bob about the representation and resolve the issue directly with him. If that doesn’t work, Alice can contact Pamela and begin the dispute resolution process. Right now there are no standards for third party blockchain dispute resolution and each third party can set their own rates, response times, and requirements, so choose them carefully. If Alice can convince Pamela that she has earned the money and should receive it, Pamela and Alice can sign the transaction. Two of three signatures will release the funds to Alice. However, if Bob can convince Pamela that Alice has not earned the money or has failed to deliver adequate services to Bob, then Bob and Pamela can sign the transaction, releasing the money to Bob (a refund). This solution protects both parties while providing no third party interference unless one of the parties requests an intervention. In that case, both parties can present the dispute to their chosen third party for quick, inexpensive, binding resolution.
This is the ideal IOLTA replacement because it provides oversight not only by the client but by a third party, if needed. It provides transparency, protects both parties, and eliminates the problems with custodial accounts.
Why might the legal community be reluctant to replace IOLTA? First, many states require attorneys to deposit custodial funds into an IOLTA. Options two and three above might violate this rule. Options one and four above would not appear to violate the rule because the attorney is not taking custody of the funds. However, states could disagree with that interpretation. Second, interest bearing IOLTA fund state pro-bono legal systems. While this a good and worthy cause, this funding can be accomplished by simply reallocating bank fees that firms would have paid using the old system to those pro-bono causes.
Other considerations. There are many other considerations, such as currency volatility, exchange, gains, and credit that are not addressed in this article. I’m sure there are others that have yet to be discovered. This article is meant to open a dialogue about changing the way we view IOLTA, custodial accounts, how clients are served, transparency and other relevant issues. The bitcoin technology provides an opportunity to rethink, reimagine, and redesign systems – including the legal system. We don’t have to settle for “that’s how we’ve always done it” anymore. We can do better and we should.
About the Author: “The bitcoin network is much more than a currency.” I’ve heard that over and over from bitcoin enthusiasts. So I decided to explore the technology from the perspective of an educator, entrepreneur, and attorney. My hope is to find ways to reduce cost and risk to clients, increase autonomy in the legal process, and educate the community (including other lawyers) about what I find.
Pamela Morgan, Esq.;