How to separate business wealth and family wealth
By Chirag Nanavati
India ranked sixth in terms of growth rate of ultra high net worth individuals (UHNWI) and is expected to account for 5 per cent of the world’s UHNWI population by 2025¹. This rapid addition to the UHNWI population is predominantly from entrepreneurial families who have created wealth by actively managing their own businesses.
However, for the majority, there is a sharp contrast between how they manage their business and how they manage their wealth. The anomaly is that the very entrepreneurs who have worked tirelessly to create wealth, pay little or no attention to ensuring that their wealth is protected and productive.
Globally 70 per cent of wealthy families lose their fortunes by the second generation, and an astounding 90 per cent by the third². There are numerous external and internal factors for the erosion of family wealth, including inflation, taxation, poor investment decisions, insufficient separation between business and personal wealth, no long-term multi-generational vision. In India, the most common culprit is internal – a lack of separation between business and personal wealth resulting in an absence of stewardship and long-term wealth management.
The best way to create a clear separation between business wealth and family wealth is to assign family wealth management to an entity independent of the family business. The family size, net worth and complexity of asset classes determine whether families opt to create a Single Family Office (SFO) or engage the services of a Multi Family Office (MFO). Such structures ensure that family wealth is managed like a business, with the same professional attitude, skill and expectation of returns as any business is managed.
At the outset, all family members should be involved in discussions to agree on a common set of values and goals for wealth distribution and preservation. Thereafter the actual process of wealth management should be handed over to qualified professionals, with clear targets and goals.
Preserving a fortune is no easy task. A family office as a separate business entity has several inherent advantages that enable it to fulfil this weighty mandate.
While setting up a family office, the initial process of consolidation and digitisation of data acts as an internal audit and sets a wealth baseline around which long-term goals are structured.
Family interests are at the forefront. Investment decisions are taken by family office employees, not wealth advisors and bankers. Therefore, investment products are judged based on returns, performance and appreciation, not on biased views, sales targets or commissions.
The wealth of multiple family members is pooled and managed by the family office. This gives a consolidated view of combined wealth as well as the combined exposure to different asset classes, sectors, etc. Thus, the family office is better positioned to tailor investments to manage risk.
The family office acts as a single point of contact for brokers, bankers, wealth advisors, property managers, insurers, etc. Just like any other business, a wealth management business is able to get more favourable rates through bulk investments and purchases, than family members would be able to get as individuals.
Specialists in the family office are skilled at tax management, a necessity to avoid erosion of wealth. Various structures like foundations and charitable trusts enable family wealth to be preserved or earmarked, for subsequent generations or for philanthropic efforts.
Professional management increases the likelihood of better returns and professionals can be held accountable for the results. Since a family office has a dual wealth generation and preservation mandate, the investment strategies take into account tax liability and final performance is measured net of tax.
Owners have a finger on the pulse of their business because they have easy access to up-to-date data. Wealth owners can directly access similar up-to-date information about their investments using specialised asset management technology. Technology for the family office gives a wealth owner control over their own financial data. It allows for multi-user data with individual and consolidated views, and detailed performance metrics. Simultaneously it provides the family office with sophisticated tools and analytics to improve decision making.
Setting up a technologically enabled family office as a separate business entity is a practical and effective way to perpetuate the wealth you worked so hard to create. And the cost of the family office is like the premium on a good insurance policy; it is the price you pay to protect and grow your wealth.
The writer is Managing Director of Asset Vantage
1 Knight Frank Wealth Report 2016
2 Williams Group, 2015