How to Vanquish the Odds and Preserve Family Wealth

There’s a pithy saying that galvanizes wealth management professionals and wealthy families: “From shirtsleeves to shirtsleeves in three generations.” It or its variants exist around the globe — from Canada to Scotland to China.

The English-language version paints a perfect image: the first generation rises from poverty – shirtsleeves – to build wealth. The second generation may retain or even grow the nest egg. By the third generation, that wealth has eroded or vanished. The bottom line: While founders often build incredible wealth, subsequent generations excel at losing it.

This week I’d like to bring you the sage words of my colleague Jeff Noble. Jeff has advised hundreds of business families on how they can beat the odds and preserve their wealth to the fourth generation and beyond. I wanted to get his take on beating the three-generation curse.

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We all have a different set of thoughts and feelings on the value of life and wealth. When considering a multi-generational wealth plan that will endure and be the basis of successful and sustainable wealth transition, it is critical to clarify and communicate our values. This is no idle exercise. By sharing our philosophy about wealth creation, wealth management and wealth divestiture — we can increase the chances that the wealth will truly be generational.

Here’s the challenge: The time-honoured statistics on successful wealth transition are not promising. Wealth creators are often painfully aware that at least two-thirds of the time, wealth erodes or even disappears when it gets in the hands of the next generation or the one after that.

Building a wealth philosophy

Defining principles and values and developing a belief system – a philosophy – from those principles and values with your family will significantly increase the opportunities for you and your family to beat the statistics.

As constant and reliable as the true north in navigation tradition, choosing direction and purpose for wealth will define your legacy and help your beneficiaries and their beneficiaries to be best prepared to receive and to give. Some examples:

• Don’t give away the golden eggs. The goal is to teach family how to look after the golden goose.
• Recurring wealth is like gardening. You enjoy the flowers and then nurture the plant with care and attention so you can enjoy even more prolific blooms the next season.
• Your standard of living is not equal to your cost of living. Always live within your means, not to a standard to which you may feel entitled.
• Spend, save, give. Buy the things you need. Set aside money to buy things in the future. Donate money to help people, animals and the environment.
• Leave the word a better place. Some wealthy families make a point of educating their children on this mantra: I have a personal sense of responsibility to leave the world a better place than it was when I got here.

 

The three Cs of wealth preservation

In my experience, families that successfully beat the odds at preserving and even increasing wealth through multiple generations excel at what I call the three Cs: collaboration, communication and common vision. This is what family governance is all about.

When speaking about collaboration, we speak of working with others among generations, between generations and with a group of external advisors to make the best decisions, together.

To do that, positive communication is critical. This will tie right back to family values as to how we treat each ourselves and how we treat others. Understand and learn from history, relationship dynamics, moods and personalities. Use structure and deal in facts. This will create a positive and safe environment for open, honest and productive communication.

Perhaps the most important of the three Cs is a common vision. This is your wealth-strategy true north. With this alignment of purpose, the focus is not on any individual “me.” The focus is on “us.” Adopt a future focus when managing your wealth for the long term.

Introducing a new definition of wealth

This brings me to a new definition of wealth. When we think of wealth, or capital, we naturally default to tangible items like money, stocks, bonds, real estate and the like. This is financial capital.

The other types of capital include human, intellectual, social and spiritual capital:

• Human capital is a family’s greatest wealth. It comprises all the individuals that make up the family.
• Intellectual capital is the sum of all the information that those individuals know.
• Social capital is the quality and quantity of relationships within the family’s network.
• Spiritual capital covers the deepest values that express the nature of the family.

And when you think about it, if we do not look after the human capital and all that means, the financial capital has precious little chance to endure.

Yes, each of us has a different set of thoughts and feelings on the value of life and wealth. Defining your family’s principles and values – the true north that can steer your family through the blips that will no doubt arise – is fundamental to creating alignment for the future and a common vision supported by positive communication and collaborative decision making.

Jeff Noble is a senior consultant and family enterprise advisor in the BDO Advisory Services practice. He can be reached at jnoble@bdo.ca, or by phone at 905-272-6247.

The content on this blog has been carefully prepared, but it has been written in general terms and should be seen as broad guidance only. The blog cannot be relied upon to cover specific situations and you should not act, or refrain from acting, upon the information contained therein without obtaining specific professional advice. Please contact BDO Canada LLP to discuss these matters in the context of your particular circumstances. BDO Canada LLP, its partners, employees and agents do not accept or assume any liability or duty of care for any loss arising from any action taken or not taken by anyone in reliance on the information on this blog or for any decision based on it.

Please note the blog posts are time sensitive and subject to changes in legislation.

BDO Canada LLP, a Canadian limited liability partnership, is a member of BDO International Limited, a UK company limited by guarantee, and forms part of the international BDO network of independent member firms. BDO is the brand name for the BDO network and for each of the BDO Member Firms.

What is your Wealth Advisor Thinking? One Professional Reveals Lessons Learned from her Clients

Getting professional wealth advice – or really any professional advice – can be frustrating. We are asked to open up our lives and disclose our thoughts to someone who is initially a stranger. Personally, I’d love to know what my professional advisors are thinking on a whole range of issues.

This week senior wealth advisor Carmen McHale of BDO Canada LLP takes a step from behind the desk to share her thoughts on the past five years of dispensing wealth advice. She also wanted to thank two colleagues – Indy Sebastian and Eric Wipf – for their help in reality-checking her thoughts.

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When asked to write about what I have learned from clients in the past five years, my initial thought was – everything. But that might take too long to cover. So instead I’ll focus on one area that I find fascinating: the emotional biases I first learned of in textbooks and now see in investing practice. Emotional biases arise from impulse, intuition and feelings and can result in irrational decision-making. Because they are all about how we feel and react – they are impulses, after all – they are harder to mitigate.

Knowing ourselves is something many of us take for granted, feeling that it comes naturally – but how well do most of us actually know ourselves? We may think that there is no one we know better, but the truth is, we are often blind to our deficiencies. Despite our attempts to stay impartial, our emotions sway us more than we care to admit.

Loss aversion

When a decision is made to invest, it is usually based on what we think we will gain. Although a good advisor will focus on communicating the downside risks associated with investing, it is very hard to know how we will feel about that downside until it actually happens.

When it does happen – because it will – are we going to fall prey to our emotions, or will logic prevail? If your portfolio is down 10% and your advisor is telling you to stay the course, are you going to take that advice? If an investment results in a loss, will you be able to swallow the loss as a sunk cost and sell the investment – or will you want to keep it until it bounces back? Will you want to sell an investment too soon because you are afraid your gains will turn into losses?

So what have I learned? That no two families or situations are the same, and while logical reasoning attempts to quantify risk in an investment policy statement, often when faced with a real investment loss – the experience of seeing it – revisiting the investment policy statement reveals the tolerance for losses is lower than originally thought. With honest communication about how the investment policy is there in part to reflect the tolerance for risk, advisors can help keep a client’s plans on track.

Overconfidence bias

Overconfidence bias is thinking you know more than you do about a certain topic, or thinking you have more control about an outcome than you do. I have worked in Calgary for my entire career, and often deal with professionals in the oil and gas industry – they know the industry and believe in it. This leads them to over-weigh their investments. Their current and future income is based on the price of oil; add to that a large concentration of oil and gas stocks in their portfolio and the risk is amplified.

Unfortunately, this compounded risk reared its ugly head in the last few years in Alberta, setting many oil and gas professionals’ best-laid plans off track. The markets can take down anyone, regardless of investors’ level of knowledge.

So what have I learned? To present alternative scenarios. One that over-weights investments in line with the overconfidence bias and one with a balanced portfolio. Canadians have become better versed in the extremes of markets, and whether it be the oil and gas professional or the real estate speculator I have learned to discuss the lows with clients and hope that the risk and volatility resonates.

Self-control bias

As a lover of chocolate, I am very familiar with this bias. Time after time, I buy a bag of chocolate raisins and think I can limit myself to a handful. We tend towards immediate gratification.

In an investing context, there is the inability to focus on the long-term goals – like not saving enough for retirement and only realizing when you are 55 that you are running out of time. This can lead people to take excessive risks when investing. Clients often think that the markets will solve the problem if their portfolio can just get them a 15% return.

So what have I learned? That for the most part clients really just want to know where they stand. Given a detailed action plan, they can focus on short-term goals while understanding the long-term focus. I have learned I need to be the practical voice and provide the client with the tools and knowledge to make the right decisions, and be there for them along the way.

Regret aversion

This is all about not taking action because you do not want to be wrong – you try to avert regret. When you have this emotional bias, you are more likely to do what everyone else is doing. This can cause investors to over-concentrate their investments in well-known companies. Then, if the position goes down, it is not your fault because you were simply following the herd. Regret aversion is about avoiding making true decisions and then rationalizing the poor decisions that were made.

In these situations, I try to educate clients on the various investment management options that exist in the marketplace. Most are familiar with bank representatives and investment brokers where the advisors assess your risk tolerance, time horizon and performance objectives to determine which asset classes are most suitable - but investors ultimately make the buy and sell decisions, and the advisor’s role is primarily to offer an informed opinion.

On the other hand, I am a big proponent of discretionary investing, which is a more hands-off approach for the client. In discretionary investing, advisors still collaborate with the client to assess their investment goals. But it removes the ultimate investment decisions from the client and transfers them to the advisor, who communicates the investment decisions and reports the results. Discretionary investing provides the necessary framework around investment decisions and helps to remove many of the emotional biases surrounding investment decisions.

So what have I learned? That many clients like to have a “play” portfolio – where they can invest a specified amount of money in less popular companies. Clients enjoy the opportunity to do their gambling here without having to worry about their nest egg.

Status quo bias

This is the urge to do nothing. As human beings we typically dislike change. Staying with the status quo is much easier. People feel greater regret for bad outcomes that result from a new action taken than for bad consequences that come from doing nothing.

Changes from the status quo will often involve both gains and losses, but the tendency to overemphasize the avoidance of losses – loss aversion – will favour keeping things the way they are. This leads to inaction when action may be called for.

So what have I learned? That most clients meet with me to challenge this bias, and most people when given small, quantifiable actions generally want to challenge this bias.

Lessons and the investment journey

What have I learned from clients over the years? That even the well versed in the irrationalities of the market fall prey to the reality of emotions. And of course, as humans we are creatures of nature – so even when we do know our weaknesses, we may shy away from hearing hard truths. The fear of needing to break detrimental habits built up over a lifetime, or the realization that our behaviors have prevented us from meeting our financial goals.

One of the major roles we fill as advisors is that of the voice of reason. We strive to be the objective practical eyes, guided by experience, assisting our clients in navigating these biases in the context of their overall goals. We strive to help our clients understand that these goals are not achieved by leaps and bounds but by well-considered small steps – that proverbial journey of a thousand miles.

Carmen McHale is a senior wealth advisor for BDO in Calgary. She can be reached at cmchale@bdo.ca, or by calling 403.956.0103.

The content on this blog has been carefully prepared, but it has been written in general terms and should be seen as broad guidance only. The blog cannot be relied upon to cover specific situations and you should not act, or refrain from acting, upon the information contained therein without obtaining specific professional advice. Please contact BDO Canada LLP to discuss these matters in the context of your particular circumstances. BDO Canada LLP, its partners, employees and agents do not accept or assume any liability or duty of care for any loss arising from any action taken or not taken by anyone in reliance on the information on this blog or for any decision based on it.

Please note the blog posts are time sensitive and subject to changes in legislation.

BDO Canada LLP, a Canadian limited liability partnership, is a member of BDO International Limited, a UK company limited by guarantee, and forms part of the international BDO network of independent member firms. BDO is the brand name for the BDO network and for each of the BDO Member Firms.

The T1135 Form – Yet Again! & Hiring The Blunt Bean Counter

This will be the fifth time I am writing about the T1135 Foreign Income Verification Statement since September, 2013. Today I am discussing the implementation of the April, 2015 Federal budget proposal in which the Conservatives promised to simplify the reporting requirements where your cost of foreign property is less than $250,000.

This proposal has now been implemented and a new T1135 has been released. Here is a link to the new form.

Qualifying for the Simplified Method

The basic requirement to file a T1135 form is still in place. That being, if you own specified foreign property with a cost of more than $100,000 at any time in the year, you must file the form. However, now where you own specified foreign property with an adjusted cost base of more than $100,000 and less than $250,000 throughout the year, you can file using the simplified method (or you can still use the detailed reporting method if you wish, but why you would is beyond me). Note, if your cost exceeds $250k at any time during the year, you cannot use the simplified method.

The simplified method is reported on Part A of the form. While this method is less onerous than the detailed reporting requirement, you will now be required to report the top three countries based on cost during the year under the simplified method. This determination will require some work if your broker does not provide such, or you are a do-it-yourself investor. 

Filing Online and Reassessments

It should be noted you can now file the T1135 online for 2014 and subsequent years. The CRA has also re-iterated that the period for reassessing your return is extended by three years if you have failed to report income from a specified foreign property on your return and Form T1135 was not filed, was not filed on time, or was filed inaccurately.

While the simplified reporting method is better than nothing, I would suggest that most accountants and taxpayers still don’t understand why the T1135 form is required at all, where all you are only reporting is foreign holdings held with your Canadian institution(s).

Hiring The Blunt Bean Counter

I am often asked by readers if they can engage me for various income tax, accounting and wealth management services. Although I rarely if ever, self-promote on the blog, today, I am going to make an exception. Below I’ve listed the various services my national accounting firm and I can provide to you.

Corporate Income Tax Planning

To help you minimize your corporate income taxes, we provide tax planning services including but not limited to: corporate reorganizations, estate freezes, purifications for the capital gains exemption, assistance with indirect taxes such as HST, in-bound and out-bound foreign tax planning, R&D claims, transfer pricing and valuations.

Corporate Financial Statements

To ensure all your corporate compliance needs are met, we typically provide the following services to owner-managed businesses: financial statement preparation, corporate tax return preparation, corporate and personal income tax and estate planning and personal tax return preparation for the business owner.

Estate Planning and T3 Estate Tax Returns

Many people are concerned about ensuring they minimize their taxes upon death and/or leave a legacy to their family. To assist you, we provide estate planning, which typically involves determining your estate tax liability and then trying to minimize and/or manage this liability through tax planning and will planning (with your lawyer). In addition, where you have had a family member pass away or are named executor to an estate, we can assist you in filing the required estate tax filings (which are often very complicated in the year of death, especially if the assets do not pass to a surviving spouse, due to the deemed disposition rules).

Wealth Management and Financial Planning

Most people are concerned with ensuring they have enough money for retirement. I am involved with quarterbacking my client’s wealth and retirement planning, typically starting with a financial check-up and financial plan. As financial quarterback, I try to ensure your investment advisor, lawyer, insurance agent, banker, business consultant integrate their advice into one efficient, optimum, coordinated plan, taking into account your investment, retirement, income tax and successions needs.
 
If you do not have an investment advisor or are looking for a new advisor, we recommend you meet several to find a fit from both an investment perspective and also from a personal relationship perspective.

Accountants cannot provide investment advice. We do however; work closely with several highly respected investment advisors whom we can introduce you to. The advisors typically require a minimum of $1,000,000 of investable assets (yes, I am aware, this is a large issue for people who are looking for a good investment advisor, but do not meet the minimum asset requirements). 

Personal Tax Planning

To help you reduce or minimize your personal taxes, my firm has several excellent tax people who can assist you with personal tax planning and tax return preparation. Unfortunately, because income tax season has essentially become condensed into one month (since the T3, T5013 slips do not arrive until early April at best) I now only prepare personal tax returns for my corporate or wealth clients.

If you would like to engage me or my firm for any of the above noted services, or want to discuss your specific situation and obtain a quote for services, feel free to email me at bluntbeancounter@gmail.com or click the hire The Blunt Bean Counter at the top right of the page.

This site provides general information on various tax issues and other matters. The information is not intended to constitute professional advice and may not be appropriate for a specific individual or fact situation. It is written by the author solely in their personal capacity and cannot be attributed to the accounting firm with which they are affiliated. It is not intended to constitute professional advice, and neither the author nor the firm with which the author is associated shall accept any liability in respect of any reliance on the information contained herein. Readers should always consult with their professional advisors in respect of their particular situation.