Increasing the Odds of Successful Wealth Transition

FEATURE | INCREASING THE ODDS OF SUCCESSFUL WEALTH TRANSITION

By Tom McCullough, CIM, CIWM, CFBA, and Mark Haynes Daniell, JD

orth America is in the early stages of Figure 1: U.S. Investable Assets Transferred by Year a massive intergenerational wealth Ntransfer with almost $1 trillion changing hands each year, and this may be $3.0 12% just the tip of the iceberg. Accenture (2012) $2.5 10% suggests that a “great transfer” from the Depression-era generation to baby boom- $2.0 8% ers is taking place now, but a second and $1.5 6%

even-larger wealth transfer from boomers $1.0 4% to their heirs will continue over the next $0.5 2% 30–40 years (see figure 1). Investable Assets ($ Trillions) $0 0%

2011E– 2016E– 2021E– 2026E– 2031E– 2036E– 2041E– 2046E– % of Total U.S. Investable Assets This all seems like good news, but many of 2015E 2020E 2025E 2030E 2035E 2040E 2045E 2050E these wealth transfers ultimately will be Investable Assets Transferred % of Total U.S Investable Assets unsuccessful and will reinforce the maxim of “shirtsleeves to shirtsleeves in three gen- Source: Accenture (2012) erations.” Experts agree that the main rea- sons for this unhappy record are lack of receive it. Countless examples (and much lit- tionally prepared his children (and future planning, lack of preparation, and poor erature) illustrate how money has created generations) to be independent, self-confi- execution. havoc in families by creating disincentive dent members of society, apart from their to work, family conflict, and anxiety. family wealth. He created robust organiza- A U.S. Trust study (2013, 38) of high-net- tional and decision-making processes in the worth families found that 72 percent of Consider the contrasting stories of the family that included family communication wealthy families do not have a comprehen- Vanderbilt and Rothschild families. In the and a solid set of shared values. His tools sive estate plan. Without planning, wealth late 1800s, multi-billionaire Cornelius included a family bank to encourage entre- can be destroyed by taxes, inflation, poor Vanderbilt employed legions of accountants preneurial activities, mentoring of the next performance, investing errors, fraud, and and lawyers to create tax-efficient estate generation, annual family reunions where overspending, not to mention the natural plans for his wealth. But he did not prepare shared values were taught, explicit expecta- dilution of family wealth as the number of his children to receive the massive fortune. tions for family participation in group activi- generations grows. This series of challenges Instead, he left a history of family bitterness ties, and active charitable engagement within has become more acute in recent years with (he left 90 percent of his fortune to one son the community. The family continues to the increase in complexity, speed, and and 10 percent to his wife and other chil- thrive to this day (Zeeb and Zeeb 2009). globalization in both capital markets and dren), overspending, and poor self-esteem. family life. At the family reunion in 1973, no million- So what are the important lessons for a fam- aires remained. ily that is managing wealth and contemplat- The need for preparation and planning ing an intergenerational wealth transfer? extends beyond financial, tax, and investment Banking magnate Sir Nathan Rothschild took Families that incorporate three components strategies. It extends to preparing the heirs— a different and more successful path. He into their planning—understanding and the recipients of intergenerational wealth ensured the requisite tax, estate, and invest- passing on family culture, developing and transfer—to ensure they are well-equipped to ment planning was in place, but he also inten- communicating family goals, and intention-

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ally preparing the next generation—will “stewards” and see wealth as something to with the highest possible probability of suc- increase the odds of meeting their goals and be tended for future generations. A family cess and the least amount of risk. Most ensuring a successful transfer. that aspires to be stewards is likely to take a investors, prodded by the media and finan- longer-term perspective on the manage- cial industry, still focus on the elusive search Understanding and Passing On ment and transition of wealth. for the highest current return or try to beat Family Culture a particular well-publicized benchmark. Wealth always has meant more than just There is no right or wrong, but it is essen- money. In fact, the word wealth is derived tial for families to have a conversation Clear goals and good wealth management/ from the Old and Middle English words about their philosophies of wealth as they transition plans are critical and will con- wela and weal—more akin to the concept of begin to think about the legacy of their tribute immeasurably to the success and welfare and well-being than to finance. It is wealth. A distribution and wealth-transfer satisfaction of the family. Clarifying finan- important that heirs understand this broader policy itself can play a major role in shap- cial goals helps to determine clear priori- picture of family wealth to be well-prepared ing the family’s culture, values, and work ties. It also helps make choices and allocate as beneficiaries and potential leaders. ethic. Failure to clarify the family’s views resources to specific priorities. A clear about stewardship versus proprietorship, as sense of goals also helps families stay on The first principle of wealth transition is well as the other contextual issues, may lead track and not be blown off course by the understanding where a family has come to misunderstandings, disappointments, inevitable winds of the economy, markets, from, where it wants to go, and how it wants and poor decisions. It also will detract from and family issues. to get there. This includes the family history, the ability to raise the next generation the origins of the wealth, cultural values of responsibly with wealth. A helpful approach to goals-based wealth the family, and patterns of governance and management is the lifetime and legacy personal relationships, as well as a vision for Of course multiple profiles, family groups, approach. It categorizes families’ objectives the future. Families rarely pause to think and objectives exist within any one family. (and the assets required to meet those about what their wealth means or can Even if the money is managed as one pool, goals) into two broad categories: lifetime accomplish for them. Only by understand- different investor profiles will be imbedded and legacy. ing the context and the vision can a realistic in that single pool, not to mention a wide and practical plan be developed and carried range of needs, experience, sophistication, Lifetime needs are those that will need to out, particularly for a shared pool of assets. and risk tolerance. Some kind of central be funded during the lifetime of the own- group, such as a family office or board of ers. Typically, they also will be the highest For instance, some families may have par- trustees, normally would be required to priority and more near-term goals and can ticular religious, cultural, or philanthropic coordinate the management of the capital include maintaining current lifestyle, keep- values that should guide their wealth plan- and the achievement of the group and indi- ing an emergency reserve, funding chil- ning. Clear family values can establish how vidual family goals. dren’s activities, and the like. A pres- the family will act on the way to their long- ent-value calculation of net lifetime term goals. Developing and Communicating expenditures will generate an estimated Family Goals amount of capital that will be required to Some families are relatively straightforward The second principle is setting goals for the fund them. This is an inexact science and cooperative whereas other families family and its wealth. An effective family because of the difficulty of forecasting have a history of complexity and difficulty. wealth-planning process starts with the end expected cash flows, but it does provide These relational aspects may drive whether in mind. It states clearly the objectives of the some guidance for the family on the order assets are held in common and how gover- family and sets out to achieve those goals of magnitude of capital required. nance is conducted. UNDERSTANDING AND PRESERVING Still other families may be very globally dispersed and will need to incorporate a FAMILY CULTURE variety of regulations, legal systems, lan- Family history: Telling stories of past generations can help ensure that family history is known by all guages, and currencies, not to mention cul- beneficiaries and provides a way of linking family members together. tures and communication styles. Family values: Engaging in a family-values discussion exercise can help ensure common reference points Families may think about the next generation and principles on which decisions can be made for the common good of the family. differently. Some will see the next genera- Culture of stewardship: The continued ability to maintain and grow assets over time will be dependent on tion as “owners” or “inheritors” of wealth beneficiaries understanding that they are managing assets for future generations, just as past generations and accept that the wealth is for their per- did for them. sonal use. Other families view children as

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Once the lifetime objectives have been pro- Of course, effective execution is critical. erations of more than 2,000 beneficiaries at vided for, the balance of the capital is avail- Families must make reasonable assessments almost $50,000 each. (For simplicity, this able for other purposes and to meet needs of expected returns on assets to fund liabili- assumes 1.8 children per beneficiary, 0-per- arising after the wealth owners’ lifetime. ties, but a sound integrated wealth approach cent rate of return, and depletion of capital.) Legacy goals typically include funding chil- comprises many other components. They dren, future generations, and charities, the include good tax and estate planning, wise The increasingly global nature of both the key destinations of the expected wealth investment policy, asset allocation, man- family’s goals (i.e., the multiple locations of transfer. Assets designated for legacy pur- ager selection, and careful risk manage- family members and their varying eco- poses typically have very long-term hori- ment of a whole range of dangers facing nomic and cost-of-living outlooks) and the zons and can be invested with a higher risk most wealthy families such as loss of capi- family assets (i.e., global investments, tax profile and the potential for higher returns. tal, inflation, volatility, overspending, rates, and currencies) makes an already divorce, legal challenges, tax increases, daunting challenge even more demanding. As the wealth management and transition regime changes, and financial mismanage- Trusted, expert advisors can play an plan is developed, cost estimates of all the ment. This planning also may include the important role in helping families manage goals will be needed to see if they all in fact hope or even expectation that wealth will these challenges and the critical handoff are financially achievable given the family’s continue to be regenerated by recurring from one generation to the next. asset base, investment capability, spending entrepreneurial activities. plans, and distribution objectives. Preparing the Next Generation Families with legacy wealth must make a The third principle is preparing and sup- The lifetime and legacy construct translates fundamental decision about how much of porting the next generation for the wealth nicely into a family balance sheet that com- their money will go to the next generation transfer. Families can prepare the next gen- bines the liabilities (goals) and the assets and how much will go to future generations. erations in at least three ways—education, required to fund those goals. Table 1 shows As table 2 shows, current legacy capital of engagement, and experience. a sample family balance sheet for a wealthy $100 million can fund one generation of family. four children at $25 million each, or 10 gen- Intentional education and development of financial literacy is a key component of suc- Table 1: Sample Family Balance Sheet for a Wealthy Family cessful wealth transitions. This can range from dinner-table conversations about the Assets ($ Min) Goals and Commitments ($ Min) value of money and the importance of bud- Homes $10 Lifetime allocation $25 geting to formal educational programs. The Investments $20 Children $20 goal is to help the next generation, and Business $70 Next generation $30 those that follow, to be able to gain the Philanthropy $15 skills, confidence, and independence they Total Legacy allocation $65 need to become functioning members of society and to be able to manage whatever Total goals/commitments $90 wealth they ultimately may earn or inherit. Surplus $10

Total Assets $100 Total G&C/Surplus $100 Thoughtful preparation and execution of a Source: Northwood Family Office (2013) plan that sets out the timing, context, and

Table 2: Sample Number of Descendants and Distribution per Beneficiary Birth Year of Number of Number of Living Number of Lifetime Financial Children of the Beneficiaries Born Beneficiaries from Previous Cumulative Distribution per Generations Generation into the Generation Generations (over 18) Beneficiaries Beneficiary 1 0 0 0 0 $100,000,000 2 1971 4 4 4 $25,000,000 3 2001 8 8 12 $8,333,333 4 2031 16 12 28 $3,579,429 5 2061 32 24 60 $1,666,667 10 2211 1,024 768 2,044 $48,924 15 2361 32,768 24,576 65,532 $1,526 20 2511 1,048,576 786,432 2,097,148 $48 Source: Northwood Family Office (2013)

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messages sent is critical. Long before informing intended heirs about the magni- QUESTIONS FOR FAMILIES tude of the family’s wealth and their shares TO ASK THEMSELVES in that wealth, a phased program of communication should be introduced. It will Who are we as a family? involve talking and listening on both sides, • What is the history and culture of the family? and a discussion of the general benefits and • How does that affect family relationships, goals, and decision-making processes? burdens of wealth and the family’s specific • What is the family’s vision for the future? How does the family ensure that the vision is realistic, achievable, values and policies. It will review the long- and aligned with the family ethos? term family plan, the governance or deci- • How do the current values and governance systems help or hinder the wealth management and transi- sion-making structure, and the financial tion process for the family? skills and culture of responsibility and • Is there strong alignment among family members? Is this necessary or even possible? stewardship that will allow the wealth to continue. A family office or other thought- What are our goals and how will we accomplish them? ful integrated advisor can help families • What are the family goals? develop this plan and help them diligently • What is the balance between lifetime spending and legacy objectives? communicate it and execute it. • How much capital will be allocated to children vs. future generations? How many generations should be funded and by what amount? In families with legacy wealth, a tailored • How much certainty does the family want that each set of goals will be met? family financial education program also • Can all of the goals be afforded given current and expected assets and liabilities? Is there a gap between will need to inform and prepare family liabilities and assets? How will the gap be addressed? Will goals have to be prioritized or deferred? members with the information they require • Should the assets be kept in one pool or divided by subfamily or individuals? • How is the family balance sheet likely to change over time? to fulfill their wealth management respon- sibilities. This can range from a high-level understanding of issues and options to a How do we prepare the next generation? detailed understanding of the macro-econ- • What skills does the family need to develop within the younger generations? omy and every asset class, manager, and • How much should the family invest in educational activities relative to investment management functions? product in the family portfolio. • How can the family engage the next generation in the work of building and sustaining family wealth and relationships? A number of courses, books, and articles • What family structures are most appropriate? are available on the various elements of • What are the costs of disengagement? wealth management. Family Wealth • Who is responsible for the success of the generational wealth transfer? Management (Daniell and McCullough 2013) may serve as a good overview of the emotional ownership and a substantive the role is intertwined with a broader fam- key aspects of family wealth management connection with an operating business may ily responsibility. and transition planning. Educational needs have its own challenges, but forging a moti- will vary over time, and an annual check on vational or even inspirational engagement A proactive financial education program evolving needs and progress in responding with a portfolio of funds and trading and effective engagement in the family to those needs should be part of the family’s accounts is even more difficult. wealth management process will be valu- planning activities. able but no substitute for real-life experi- Family leaders who are well-tuned to the ence. Allowing younger family members to Another key aspect of beneficiary prepara- attitudes and interests of the younger mem- work with an advisor to manage their own tion is engagement of the next generation. bers can help make the activities more money, to participate actively in family Engagement is the degree to which individ- engaging. Investment activities can become meetings, to join an investment committee, uals choose to spend time, invest effort, and more visibly a part of a shared family activ- and to direct some philanthropic funds all feel a sense of ownership in the manage- ity (e.g., sitting on an investment commit- can contribute to good experience in family ment of family wealth. It is hard for many tee), can be more fun (e.g., dividing the wealth management. These activities and to imagine that managing substantial fam- portfolio into two, with two teams compet- experiences should be encouraged. ily wealth, with all its benefits and advan- ing for best results), or can become more tages, can be seen as a burden rather than relevant and meaningful (e.g., allowing Failure is also an important part of experi- an opportunity. Yet for some, fund analysis, beneficiaries to choose charitable projects ence. The more-difficult experiences help tax planning, investment selection, and risk for the family to fund). Some families us to learn, to grow as individuals, and to management are areas of little expertise choose to make involvement and engage- develop the skills and instincts necessary and daunting complexity. Creating shared ment a precondition for distributions, and for survival and prosperity.

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Far too often great wealth deprives individ- understand family values and culture, to risk management, and strategy. He earned uals of the experiences they need to grow clearly determine and quantify family a JD from Harvard Law School, BA and into mature and independent adults; wealth goals, and to prepare the next generation to MA degrees from Oxford University, a BA all too often overprotects individuals from be good beneficiaries and leaders. In so from Amherst College, a CEP from Institut the real and the meaningful. Maturity can doing, they will increase the odds of suc- d’Etudes Politiques de Paris, and a DEF from come late, if ever, to individuals and genera- cess in a priceless, challenging pursuit. Sorbonne-Universite de Paris IV. Contact him tions never facing a tough performance at [email protected]. review, never striving to obtain a desired Tom McCullough, CIM, CIWM, CFBA, is job, never testing skills in a real meritocracy, chairman and chief executive officer of References Northwood Family Office in Toronto, Canada. Accenture. 2012. The “Greater” Wealth Transfer. http:// and not exposed to situations in which they www.accenture.com/SiteCollectionDocuments/ need to manage without the outcome- He is an adjunct professor at the Rotman PDF/Accenture-CM-AWAMS-Wealth-Transfer-Final- School of Management at the University of June2012-Web-Version.pdf. controlling presence of financial wealth. Daniell, Mark Haynes, and Tom McCullough. 2013. Family Toronto and co-author, with Mark Daniell, of Wealth Management: 7 Imperatives for Successful Family Wealth Management: 7 Imperatives for Investing in the New World Order. Singapore: John As one wealthy individual told us: “I don’t Wiley & Sons Singapore Pte. Ltd. want my children to know that there is a Successful Investing in the New World Order. U.S. Trust. 2013. Insights on Wealth and Worth. http:// He earned an MBA from the Schulich School www.ustrust.com/publish/content/application/pdf/ big, comfortable safety net below them at GWMOL/UST-Key-Findings-Report-Insights-on- all times. That can make them reckless and of Business at York University. Contact him at Wealth-and-Worth-2013.pdf. [email protected]. Zeeb, Rodney, and Ryan Zeeb. 2009. Guidelines lack seriousness about what they need to for Effective Family Governance. In Daniell, Mark learn and how they need to prepare for life.” Haynes, and Tom McCullough. 2013. Family Wealth Mark Haynes Daniell, JD, is founder and Management: 7 Imperatives for Successful Investing in the New World Order. Singapore: John Wiley & Sons The high rate of failure in maintaining and chairman of Raffles Family Wealth Trust, a Singapore Pte. Ltd. transferring wealth across generations may Singapore-based strategic advisory boutique be the fault of a massive underinvestment focused on strategy for wealthy families in one of the most critical areas for the and their investments and businesses. He enhancement of family wealth: the provi- is author of eight books on family wealth, sion of effective education, engagement, and experience for inheriting generations. Family leaders and would-be stewards of family wealth might ask themselves two simple questions:

• Over the past year, how many hours have you spent structuring and managing family financial wealth? • And how many hours have you spent preparing the recipients to be good owners of wealth?

As in so many aspects of family wealth management, the successful transfer of wealth across generations is a balance of family and financial principles. Addressing both in an integrated fashion is obviously Are You LinkedIn? the best way forward. NETWORK WITH YOUR PEERS THROUGH IMCA’S GROUP. It is critical to both prepare the heirs for the money and prepare the money for the heirs. One without the other is likely to Join online at www.linkedin.com/e/gis/1620107 result in frustration and certainly will not • Business and Social Networking • Discussions • Jobs accomplish the family’s goals. Families • News and Article Updates • LinkedIn member directory wishing to ensure that both family and funds survive and prosper over many gen- ® erations will do well to pay close attention IMCA to both. They will want to invest the time to

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