Like any family office advisor, Steve Legler has seen his share of unusual scenarios regarding enterprising families. For instance, when family members set up a family office after selling their business, they don’t always adhere to the rules.
Oftentimes, the head of the family doesn’t relinquish control of the money and instead allocates it where he or she sees fit, such as an adult child who needs a financial bailout.
“The patriarch is still very much in charge of everything,” says Legler, a family business advisor and legacy guide based in Montreal. “And accounting for every penny is not a high priority.”
What can end up happening is that the family office becomes a financial black hole, where outgoing money isn’t tracked and shortfalls become common. “All this money is sloshing around, and all of a sudden everyone realizes, ‘Where did it go?’” says Legler.
It’s the scenario no family wants to see – a free-for-all regarding money and a lack of recordkeeping and oversight. Fraud and addiction issues can also lead to missing funds.
Preventing this comes down to simple math and accountability.
“You have to balance what’s in-house and what’s going out,” says Mark Barnicutt, president, CEO and co-founder of HighView Financial Group, based in Oakville, Ont. “You have to match the revenues coming off the portfolio.”
Legler recommends tracking where the money goes regardless of the behaviours of family members. “There needs to be someone keeping track of it in a rigorous, structured way,” he says.
All this money is sloshing around, and all of a sudden everyone realizes, ‘Where did it go?
Steve Legler, family legacy guide, coach and facilitator
“It’s usually an embryonic family office which is not fully formed,” says Legler, meaning it has only recently been set up.
Here are some steps a family office should take:
- Balance the books. “Good recordkeeping is so important,” says Legler, especially among families who have less money to go around. “The bigger the [family enterprise], the less likely they are to run out of money.”
- Get leadership on board. Convincing business owners that managing the company’s finances is of utmost importance can be a tough sell, especially if they’ve become accustomed to doling out large sums to struggling family members, says Legler. But that dialogue needs to happen, especially if the business’s viability is at stake.
- Track everything you can. If the patriarch is consistently giving money away to family members or business associates, as long as the funds have been tracked, the situation can be rectified, Legler says. In one case, when the owner died, his children were able to deduct amounts given to a sibling from what that sibling would have received in their inheritance, he says. They did this by tracking what the patriarch had clandestinely been giving to the child.
- Nip addictions in the bud. A family office or family business can be drained dry in short order if a family member with drug problems or gambling addictions has access to the money, Legler says. “That’s a very expensive problem,” he says. Safeguards must be put in place to prevent unsanctioned withdrawals, he says. Counselling or rehabilitation should also be offered.
- Bring in experts. Outside help should be brought in if there’s a disconnect between what the family thinks it needs in terms of income versus what its investments are generating, Barnicutt says. “Bring in different consultants around the table,” he says. These experts can provide a reality check for the family and help rein in unnecessary spending. They can also identify where money is being lost, whether it’s because of overly expensive security, cybersecurity, infrastructure or personnel expenses.
- Keep an eye on financial statements. Legler says that although it’s rare, sometimes a person whom the family has employed for many years ends up skimming off the top. “With embezzlement it’s often a person the family has trusted all along,” he says. “They take a little, and then they take a little more,” he says. It’s why he advises family owners to scan monthly financial statements to ensure all is in order. “There needs to be someone double checking to ensure everything makes sense,” he says.
Preventing a financial black hole in a family enterprise comes down to vigilance, communication and oversight, says Barnicutt. And often, as the organization matures, along with the guidance of an expert family office, it can stop the bleeding and manage its finances effectively.
“It takes a bit of time to figure that out,” he says.
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