Articles

Family Governance: Making It Work for Your Family

July 1, 2024
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Key Takeaways:

  • What are the Challenges of Wealth Transition?

  • Why is Family Governance Important?

  • What are Custom Approaches to Family Governance?

  • What are Examples of Family Governance Evolution?

Effective Family Governance for Wealth Preservation

Families with significant wealth face numerous challenges, particularly when transitioning wealth to the next generation and managing various wealth-related matters. Key issues include establishing trusts for newborns, training young adults for leadership within the family or business, and educating younger generations on stewardship, charitable giving, and financial responsibility.

A common adage among the ultra-high-net-worth community is “shirtsleeves to shirtsleeves in three generations.” This saying, attributed to philanthropist Andrew Carnegie, refers to the cycle where wealth built by one generation is often lost by the third. The estimation is that 90 percent of wealthy families may lose their wealth by the third generation. Furthermore, poor planning around wealth transfer, estate, and gift taxes can accelerate this process, causing wealth to dissipate in just two generations. Therefore, proper preparation, planning, and communication are crucial to preserving wealth.

The Importance of Family Governance

While financial planning, investing, and wealth strategy are essential for wealth preservation and tax management, family governance offers a framework to address shared and differing values, financial transparency, and strategic wealth planning across generations. It’s a structured system that wealthy families use to manage their shared assets, establish clear communication, and ensure financial responsibility across generations. Without a proper family governance framework, families can face conflicts, mismanagement of resources, and a rapid depletion of wealth.

Family governance also helps align the values and goals of different family members, promoting unity and a cohesive vision for the future. By implementing family governance, families can create transparent processes for decision-making, maintain financial stability, and educate younger generations on stewardship and philanthropy. Ultimately, effective family governance is designed to ensure the preservation of wealth and legacy, fostering long-term financial health and family harmony.

When to Focus on Family Governance

Having worked with ultra-high-net-worth families for over a decade, I’ve seen that “family governance” can mean different things to different families. No standard definition or ideal application exists, as each family is unique, and wealth can be “old” or “new.” As family assets grow in value and complexity, and as life events such as births, deaths, marriages, and divorces occur, the need for governance and oversight becomes more apparent. Typically, families recognize this need as the second or third generation reaches adulthood.

family governance grandparents playing with kids

How Families Carry Out Family Governance

Many families use different strategies to implement family governance. One great way to start is with a mission statement. This statement summarizes the shared values, vision, and purpose of the family’s wealth. For example, it may reflect the core values and vision of the wealth creators, aiming to pass these principles to future generations.

While a mission statement is not strictly required, it provides a clear starting point for aligning the family’s goals. Families should focus on what they want to achieve through family governance rather than perfecting the mission statement. By starting with a mission statement, families can create a unified approach to wealth management. This can contribute to transparency, effective communication, and the preservation of their legacy.

1. Driven by Philanthropy

For example, a first-generation wealth creator in his 60s established a family foundation supporting specific local causes. He involved three of his four adult children in discussing the foundation’s goals. All other topics – related to estate planning, trusts, wealth transfer, etc. were off the table. One initial, in-person meeting was held, and several one-on-one phone calls.  Initially, the effort was minimal, but the wealth creator was able to communicate what was important to him. This set a positive dynamic within the family, eventually leading to discussions on other topics.

2. Operating Company Update Focus

In another case, a privately held $2 billion family-owned company is managed by one of three second-generation members. The other two receive distributions and proportional ownership shares but are not involved in management. The siblings review the company’s financials at quarterly meetings, but each family line determines their children’s financial management education and stewardship. One of the three siblings takes advantage of training through their advisory firm. The others do not because they have younger children who are not yet ready for more education and preparation.

3. Investment, Trust, and Foundation Focus

Likewise, a divorced first-generation wealth creator meets bi-annually with his four children and in-laws, excluding grandchildren at a neutral location. They discuss family trusts and legacy, investment allocations, and their donor-advised fund. They also rotate charitable allocation responsibilities among family lines.

4. Old Wealth

Heirs of an early 20th-century industrialist (five lines of cousins) meet bi-annually for a family reunion in the town where the wealth originated. Some family members attend consistently, while others do not. Over the weekend, they review family history and legacy, catch up with each other, and participate in a family picnic. While their only connection is the small pockets of inherited wealth and the original family homestead, some members remain involved in several family foundations.

5. Single Family Office

Lastly, a multi-billion-dollar family with four generations holds an annual family meeting for members over 18. The structured meeting, held over a weekend with a firm agenda, focuses on legacy, trusts, charitable giving, investments, and educating younger generations on wealth oversight and stewardship.

Customizing Family Governance

Each family’s approach to governance is unique, with no standard formula. An experienced financial advisor can help develop goals, objectives, and a format that aligns with a family’s unique style and needs. Effective family governance is designed to facilitate wealth preservation and promote responsible stewardship across generations.

Author:
Nancy McColgan | Managing Director of Verdence/FAMILY

Frequently Asked Questions (FAQs):

What is Family Governance?

Family governance refers to the system of rules, practices, and processes a family uses to manage wealth and business interests. It provides a framework for decision-making, addresses shared and differing values, and ensures transparency across generations. Effective family governance helps to maintain family unity, preserve wealth, and prepare future generations for leadership and stewardship responsibilities.

How can ultra-high net worth (UHNW) families preserve their wealth across generations?

Ultra-high net worth (UHNW) families can preserve their wealth by implementing robust financial planning, effective communication, education on stewardship, and customized governance structures that address the unique needs and values of the family.

What are effective strategies for transitioning wealth to the next generation?

Effective strategies include establishing trusts, providing financial education, creating structured governance systems, and fostering a sense of stewardship and responsibility among younger family members.

How do wealthy families educate their children about financial responsibility?

Wealthy families educate their children through structured financial literacy programs, hands-on involvement in family governance, philanthropy activities, and by instilling values of stewardship and responsibility from an early age.

What are common pitfalls that lead to the loss of family wealth?

Common pitfalls include poor planning around wealth transfer, lack of financial education, inadequate communication, and failure to establish effective governance and oversight structures.

How do family mission statements contribute to wealth preservation?

Family mission statements help align the family’s values and vision, providing a clear framework for decision-making and ensuring that wealth is managed and utilized in a way that supports long-term goals and legacy preservation.

Disclaimer: © 2024 Authored by Megan Horneman, Chief Investment Officer, Verdence Capital Advisors, LLC

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