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How to Future-Proof Your Family Dynasty: Part 3.

Do You Need a Family Office? Part 2.

Future-Proofing Your Family Dynasty: Part 3. Do you need a family office? Part 2. Family Office Structure - people silhouettes against sunset backdrop Introduction

In our previous article –Do you need a family office? Part 1, we explored the issue of “need” for a family office. In particular, we looked at those individuals and families who are likely to benefit most from having one.

We also commenced detailing the process of starting up and building a family office. This included discussion on the need for a Business Plan and its desired components.

Family Office Services were also addressed in some detail, including factors of consideration such as cost, trust in external managers, expectations around returns and market, legal and tax infrastructure.

The next step is to examine the intricacies of a family office legal setup and structure and associated jurisdiction criteria.

How to Future-Proof Your Family Dynasty: Part 3.

The Legal Setup and Structure and Associated Jurisdiction Criteria

As with any form of enterprise, family businesses and dynasties have a history of failures as well. The pity of it all is that, almost without exception, such failures could have been readily avoided.

You only have to watch the British TV series “Antiques Roadshow” to learn about the many family dynasties that survived for hundreds of years only to disappear in a comparative heartbeat. Why did that happen? Well, a number of factors contributed to their downfall but the main one was poor governance or a lack of it (more on that later). Which brings us to the topic of a family office legal setup and structure.

THE LEGAL SETUP

It is vital to understand how the jurisdiction can shape the business environment. Internationally active families may need to consider not only the
country in which the office will be based, but also the exact location. This is because in certain countries, such as the US and Switzerland, the
tax, legal, and judicial structures vary greatly by state (or canton). Australia has a less contentious and less complex sets of ‘rules’ variances from State to State/Territory. As such, this factor makes it relatively easy for a family business when  choosing its location.

To begin with, it is helpful to establish if the family office will:

Depending on the framework provided by the jurisdiction, other aspects should be considered to optimise the individual situation within the given legal, tax, and regulatory framework. Changing global tax laws are already a concern, according to a 2021 Credit Suisse survey of family offices: 29% of family offices cite them as a key challenge going forward.

STRUCTURE

The structure refers to the kind of entity that will house the family office and ownership, both in the present and in future generations (assuming
the office intends to support more than the first generation). If the family office is linked to a family business, clarity will be needed to determine if it will support the business, which may allow for the deduction of certain expenses against business income. As different structures are subject to different tax and regulations, it is essential for the family to understand the potential consequences of this decision.

In light of the more global orientation of families and investments today, the chosen location and structure need to be flexible yet also maintain the
benefits of a traditional, centralised family office. It is helpful for the family to gather the following information:

CRITERIA

Based on the diverse global interests of the family, the next step would be to investigate and weigh the particular benefits and drawbacks of various structures and jurisdictions. While the analysis will be unique for each family, the following items should be reviewed in each potential jurisdiction:

Special thanks to Credit Suisse and their paper - "The Way Forward for Family Offices"

Governance

After setting up a family office, the application of good governance practices is crucial to ensuring competent management of the family’s financial assets and investments. As already mentioned, it is vital to develop a long-term vision and strategy for future generations. In the initial planning phase, however, a family office should consider the practicalities of good governance.

BOARD OF DIRECTORS

As family offices usually evolve from the founders’ wish to safeguard family wealth and protect the next generation, they tend to rely on known and trusted advisers who have been working with the family for at least a few years. When the wealth is transferred to the next generation, however, there may be a need to elect a strong and active board that will take all family members, even those with conflicting interests, into account.

Although it is common for family members to serve as directors, independent non-family directors may offer experience and independent advice that will enhance, strengthen, and diversify the family office’s investments and operations. In many cases, especially in the Middle East, families are reluctant to include independent directors, or open their books to outsiders at all, because of privacy issues. Such families may choose to appoint an interim advisory board without voting rights to help strengthen the board and provide advice on specific topics. An advisory board can help the family get more comfortable with the prospect of including independent board members and in the future, create a fully functional and more diverse board.

ACCOUNTABILITY AND CONFLICT RESOLUTION

If family members take on the responsibility of governance, they also need to understand their accountability to the rest of the family. To successfully steward the family wealth, family offices need to create the process and opportunity for family members to grow and develop their skills and talent, as well as manage their affairs responsibly. As the family grows in size in later generations, they may have conflicts resulting in different perceptions of justice within the family.

In discussing the issue of “justice”, it’s important to recognise that there are several takes on what constitutes “justice”. They can include:

DISTRIBUTIVE JUSTICE

Distributive justice concerns the outcome related to allocation. It is not only about the absolute outcome, but also the ratio between family members’ input and relative output. In a family, the distribution may not necessarily be based on each member’s merit or performance but on other factors, such as the equality principle, with equal distribution to all family members, or the subjective evaluation of a few decision-makers, based on loyalty and personal relationships.

PROCEDURAL JUSTICE

Procedural justice refers to how family members feel treated during the process, resulting in a certain outcome. For instance, family members may question whether the same decision-making criteria are applied consistently to people over time. Other questions may arise, for instance:

  • Is the decision-making process free from the bias of a few family members?
  • Is accurate information used in decision-making?
  • Does the decision conform to the prevailing ethical standard?
  • Does the process consider the opinions of various family members affected by the decision?

 

INTERACTIONAL JUSTICE

Interactional justice reflects the extent to which decision-makers are sensitive to how people feel about a possibly unfavorable outcome. Do the decision-makers provide trustworthy information and a timely explanation of the decision to other family members? Does the communication
process treat family members with dignity and respect? Conflicts stemming from the allocation, process, and/or personal interactions may lead to feuds or even the discontinuation of the business(es).

Family offices can support the family by mediating potential conflicts through different services. One example would be to help draft a family constitution to establish a fair decision-making structure and protocol. Holding a family council meeting can also encourage decisions that ensure fair distribution. In addition, organised family meetings can take the opinions of all family members into account and enable an open decision-making process.

Ultimately, family offices can assist the family in developing an effective conflict management style as opposed to avoidance or the domination of a few family members in decision-making. Family offices can serve as the mediator, helping the family find a way to accommodate their differences, reach a compromise, or even use an integrative solution to navigate family conflicts.

DILEMMA BETWEEN FAMILY AND NON-FAMILY MEMBERS

Conflicts may go beyond the family and involve non-family members, depending on how the family office is staffed. A common dilemma revolves around the choice of family officer, that is – either employing a non-family member who is well-versed in financial matters or relying on a family member who might not have that particular competence but is trustworthy, and most likely shares the family interest.

Suffice to say, non-family members tend to professionalise the operation of family offices and bring in an objective view when mediating conflicts. However, such a delegation of control risks the loss of family control. In light of this dilemma between professional management and total control, families are often tasked to find a way to combine the best of both worlds. To help tackle challenges and conflicts effectively, family offices may call on boards, investment advisory committees, the personal involvement of other family members in select areas, incentive systems for non-family managers, and/or other monitoring systems.

At all times, it is imperative to remember that a true family office is there for THE FAMILY!

With this in mind, our next article will look closely at how you can strengthen the important link between the Family Office and the Family.

How FBA Can Help You

With Your Family Office Legal Setup and Governance

At Family Business Advisory (FBA), our purpose is to help family businesses succeed on a sustainable basis. As such, we provide you with access to specialist family, business and technical services with a goal being to generate opportunities for families in business.

In order to complement our own particular specialised skills, over the past several decades, we have developed a network of trusted, professional advisers in such areas as:

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Moreover, we work at all times to give you peace of mind and proactive support to help navigate any changes in the market brought about by legislative changes, geopolitical events and general market conditions – all to maximise your personal wealth and security.

These services are provided by FBA, in association with the Wealth IQ Group.

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