By Stacy Haislip, Managing Director and Portfolio Manager
“Wealth does not pass three generations.” – Chinese Proverb
If a Chinese Proverb exists to describe a situation, it usually means two things: 1) the problem has been around a very long time; and 2) over a millennium or two, no one has developed an easy solution. In other words, what the proverb describes has stood the test of time.
A more modern, Western version of this proverb is: “Shirtsleeves to Shirtsleeves in three generations.”
The so-called “Three Generation Rule” states: The first generation builds the wealth, the second generation aims to preserve it, and the third generation squanders it with mismanagement and excessive spending.
The solution is not as straightforward as the problem. But there should be urgency in finding one amidst the largest wealth transfer in history.
Over the next 15-20 years, over $84 trillion is expected to be transferred to younger generations, according to research firm Cerulli Associates. Cerulli finds that children of high net worth and ultra-high net worth households are already inheriting, collectively, over $500 billion each year and will likely inherit more than $1 trillion annually as early as 2032.
That is a lot of money going to a lot of people. But what is most important about that annual $500 billion to $1 trillion transfer is whether the next generation can manage it. Inheriting money is easy. Squandering it is easy, too.
Preparation is the most important part. Families need to address generational wealth transfer long before it is expected to happen. Estate planning is easy. The harder part is getting the next generation ready to manage wealth, which is an ongoing process.
The following are strategies that families should consider to best position wealth inheritors to make it last:
Encourage and engage with NextGen regularly
Some common questions many families have include:
- How do I ensure my legacy survives?
- How can I ensure my children will manage wealth responsibly?
- How can my children understand what they will inherit?
The answer is to include the next generation in planning early and often.
Annual family financial meetings can facilitate discussions across generations and provide a foundation for financial priorities and allow everyone to share their unique concerns and questions. Include the kids and grandkids (where appropriate) in these discussions with agendas tailored for their accumulated knowledge needs.
These discussions should help them understand the family’s values and what is expected of them as they grow and mature. They are intended to prepare younger generations to take on greater responsibilities as it relates to family investments and asset planning. It can also reveal the areas where children may need better understanding of their eventual responsibilities.
A few real-world examples of next generation planning:
- A number of our clients have teenage children keen to learn about financial markets. Establishing a custodial investment account for minors is an excellent way to educate them on building wealth and investing, without overwhelming them. Let them invest and make mistakes with small amounts of money.
- A client established an LLC to purchase investment property for their adult child. The child took full responsibility for managing the property. It was a valuable tool to gauge the readiness of the young adult’s financial maturity.
Further, TAG often hosts educational Zoom forums on topics that are relevant to different members of a client’s family. For example, we held a webinar with a family business consultant who frequently deals with wealth transfer and succession issues. He discussed raising children of wealth and how to instill the values of stewardship in them. The views on the webinar were helpful to families and emphasized that stewardship should begin early, but also that it is never too late to begin.
Use a neutral moderator
Multiple generations at the same table likely means that there will be a variety of opinions. Money is an emotional topic and may trigger strong reactions for family members should there be discord for how to invest, spend, gift, etc.
Outside voices are extremely valuable. There is a lifetime of baggage at that table. A professional advisor can serve as a neutral moderator, putting that baggage aside to focus on what is most important – ensuring that all voices are heard, properly documented, and that sensitive topics are handled with care to prevent escalation. A teenage son that will not listen to his father might listen to the same ideas coming from a non-family member.
Framing conversations around shared goals before turning to specific financial and investment planning may help promote group cohesion.
For example, a family might realize they all prioritize investments with certain Environmental, Social, Governance (ESG) characteristics, such as renewable energy or companies with diverse corporate boards. In that case, establishing common ground can be a starting point for developing strategies for achieving those goals. Some of those strategies include investment accounts with pre-defined policies for exclusion/inclusion or donor-advised funds or family foundations that allow the family to work together to invest and advocate for charitable causes that matter the most to the family.
View the process as holistic
Families should look at generational wealth transfer as a shift that goes well beyond a financial one. Transferring wealth is more than moving money from one generation to the next. It is also about transferring a set of values. Families engaging in the process should view it that way.
For example, charitable giving is at the core of a family’s values. It is not just a matter of utilizing gifting to lower a tax bill. Younger generations should understand where the family has been giving and what opportunities there are for the children to give. This can allow the next generation to show that they understand the family’s values, but to also show their individualism.
We had a daughter (early 30’s) of a client who wished to establish her own philanthropic track record. TAG helped her set up a donor-advised fund where we could collaborate and tailor her investments to suit her needs and, at the same time, establish a charitable giving plan aligned with her values and goals.
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The above is by no means a comprehensive framework, but rather, a starting point to get the conversation started between family members. An advisor’s job is to help facilitate and moderate where we can, while acting as a fiduciary for the family in question.
Families should make sure the investment advice they are getting is objective, unbiased, personalized, and focused on all stakeholders of the family. The family office should have the multigenerational family in mind at each step of the decision-making process. The family should rely on their advisors to facilitate next generation planning and hold their advisors accountable by regularly addressing those needs and concerns.
We are at a multigenerational inflection point where the function of the family office has evolved from exclusively financial advice to something much more holistic and significant. Families should expect that we function as an extension of themselves – encouraging communication across generations, understanding the family’s multi-generational goals, serving as a moderating force, and helping to stay the course over the long term to avoid the traditional fate of the third generation.