Trust money: earnest money, who holds it, deposit deadlines, commingling and conversion

Bottom line: If it is not your money, it never touches your pocket or your business account. It goes into a trust account, it gets recorded, and it leaves only when the contract or the people who own it say so. Most broker discipline in Colorado traces back to mistakes with other people's money, so this lesson is the most important one in the course.

What counts as "Money Belonging to Others"

The Commission's rules use the term Money Belonging to Others for any money a broker or brokerage firm holds that belongs to someone else: earnest money, rent collected for an owner, tenant security deposits, fees paid in advance for a service not yet done, and similar funds. Earnest money is a good-faith deposit a buyer puts down when making an offer, to show the buyer is serious. It is credited to the buyer at closing, but until closing it is not the seller's money and not the broker's money. It is held for both.

A trust account (also called an escrow account) is a bank account set up only to hold other people's money. The brokerage firm controls it, but the firm is only a fiduciary, meaning a person who must handle someone else's money with the highest level of loyalty and care. The firm does not own what is in it.

How the account must be set up

• Separate from your own money. All Money Belonging to Others must be kept apart from the broker's or firm's own money and deposited in one or more of the firm's trust or escrow accounts (4 CCR 725-1 Rule 5.2).
• The bank deal must say it is a trust. The firm must identify the account's fiduciary nature in its deposit agreement with the bank by using the word "trust" or "escrow" plus a label for its purpose, such as "sales escrow," "rental escrow," or "security deposit escrow." The firm must keep a copy of each signed deposit agreement for inspection by the Commission (Rule 5.2).
• Whose name? A firm run by a sole proprietor keeps the accounts in the name of the employing or independent broker. A partnership, corporation, or LLC keeps them in the entity's name (Rule 5.3).
• Who controls it? The employing broker or independent broker is responsible for each account and must be able to withdraw money from it. Others, licensed or not, may be added as signers, but that does not remove the broker's responsibility (Rule 5.3(C)).
• Where? The statute says a bank or recognized depository in Colorado, in an account that is a checking, demand, passbook, or statement account insured by a U.S. government agency (C.R.S. 12-10-217(1)(i)).
• How many? As many as needed, from zero to unlimited. If the firm holds no one else's money, it needs no trust account (Rule 5.4).
• Written controls. A firm that receives other people's money must have written accounting policies with checks and balances, to guard against mistakes and fraud (Rule 5.1).

Interest-bearing accounts and "available immediately"

Unless the parties agree otherwise in writing, trust money must not be put in anything with a fixed end date or a fee or penalty for early withdrawal, such as a certificate of deposit (CD) (Rule 5.6). The idea is simple: the money may be owed to someone next week, so it has to be available right away. The rules in our sources do not ban an account that pays interest. They only require that the money stay available without penalty. Who gets any interest is a matter for the written agreement, and it must never become the broker's secret profit (C.R.S. 12-10-217(1)(t) bars undisclosed compensation).

Earnest money: who holds it, and the clock

The contract names who holds the earnest money. In Colorado, it is often the buyer's or seller's brokerage firm, or it can be the title company. If a title company or lawyer holds it, the broker who receives the check must hand it to that holder and get a dated and signed receipt from the person the broker was told to deliver it to (Rule 5.12(A)).

If the brokerage firm holds the earnest money, it must deposit it in its trust account no later than three business days following receipt of the funds or mutual execution of the contract, whichever is later (Rule 5.7(B), applied by Rule 5.12(B)). "Mutual execution" means the date both sides have signed. A business day is a normal working day, so weekends and legal holidays do not count. Later, when the firm sends the earnest money on to a lawyer or closing company, it must get a dated, signed receipt from that company (Rule 5.12(B)).

An associate broker who receives deposit money must put it into the employing broker's custody as soon after receipt as practicable (C.R.S. 12-10-217(1)(g)). Keep it simple: never hold a buyer's check in your car or desk.

Two side rules. If the buyer gives a promissory note (a written promise to pay later) as earnest money, the seller must be told the date the note is due, and if it is not paid on time the broker must promptly tell the seller and deliver the original note (Rule 5.13). And anything taken in place of cash, such as a valuable item, is held by the brokerage firm unless agreed otherwise (Rule 5.18).

Mixing, using, and diverting: three different sins

• Commingling means mixing your own money with other people's money. The rule says personal or business operating funds must not be commingled with Money Belonging to Others (Rule 5.10).
• Conversion means using someone else's money for yourself, for example paying your office rent out of a client deposit. Rule 5.9: money must not be used for the benefit of the brokerage firm or broker.
• Diversion means using one person's money for another person's benefit, such as covering a shortage in one owner's account with another owner's money (Rule 5.9).

All three are grounds for discipline (C.R.S. 12-10-217(1)(i)). Fraud, deceit, or conversion of trust funds that ends in a civil court judgment for damages is its own ground (C.R.S. 12-10-217(1)(v)). Failing to account for or pay over money within a reasonable time is also a ground (C.R.S. 12-10-217(1)(h)). After a hearing, the Commission may fine up to $2,500 for each separate offense, censure, put on probation, suspend, or revoke (C.R.S. 12-10-217(1)).

What may legally sit in the trust account besides client money

• The firm's earned fees, for a short time. Money that becomes due and payable to the firm must be withdrawn monthly (Rule 5.10(A)). Fees count as "earned" only after all contracted services are done and nobody has a right to take the money back, unless a written agreement says otherwise (Rule 5.10(C)).
• Money the firm advanced for someone. It can be put in and labeled as an advance, and only taken back on behalf of that person (Rule 5.10(B)).
• Personal money for bank charges. The firm may deposit its own money to pay account fees, as long as it is recorded in the journal and ledger (Rule 5.14(D)).

When the money leaves

Trust money leaves for one reason: the contract says so or the people entitled to it say so in writing. The standard Colorado Contract to Buy and Sell has an Earnest Money section and a dispute section describing what happens at closing, on a termination, and when both sides disagree. If buyer and seller both sign the same written instruction, the holder follows it. If they disagree, the holder does not pick a winner. The holder keeps the money until the parties agree or a court or the process in the contract decides. The firm also does not get to pay itself a commission from a deposit just because the deal fell apart: if the seller defaults through no fault of the buyer, the firm has no right to any part of the buyer's earnest money (Rule 6.22(A)). Brokers must also not disburse any money until it has actually cleared and is available for withdrawal (Rule 6.19(E)).

Example with real numbers

A buyer offers $500,000 on a Boulder County house and gives a check for $15,000 earnest money (3% of the price). The contract names the buyer's brokerage firm as holder. The contract is signed by both sides on Monday, October 5. The buyer's check was handed over the Friday before.

1. Find the deadline. Rule 5.7(B) says three business days after the later of receipt or mutual execution. The later date is Monday, October 5, so the deadline is Thursday, October 8 (Tuesday is day 1, Wednesday day 2, Thursday day 3).
2. Deposit. The firm deposits $15,000 into "Smith Realty Sales Escrow" on Tuesday. It records the date, who gave the money, which property it is for, the purpose, the amount, and the new balance (the journal and ledger detail is in the next lesson).
3. Do not touch it. The firm's operating account is short $2,000 that week. Borrowing $2,000 from the trust account would be conversion, even if the firm "pays it back Friday."
4. Closing. At closing the $15,000 is applied to the buyer's side of the closing statement. If the firm holds the money, it sends the funds to the closing company and gets a signed, dated receipt.
5. Now suppose the deal dies. The buyer and seller both sign an instruction to return $15,000 to the buyer. The firm returns it, then records the payout. If only the buyer asks and the seller objects, the $15,000 stays put.

Cost of the shortcut: one $2,000 "loan" can mean a fine of up to $2,500 per offense and a suspension or revocation, on top of paying back every dollar.