Private Banking 2021
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Prudent succession planning can help families avoid the pitfalls of wealth falling through the gaps of future generations. Photo: Getty

Succession planners work with families to avoid the dreaded ‘three-generation rule’ and ensure hard-earned wealth is preserved

  • Cultures across the globe are filled with folklore on how wealth diminishes from a parent to child and then grandchild – but it all comes down to prudent planning and investing
  • Two generations of Chinese families have built up sizeable wealth and now face the task of ensuring the next generation do not undo their hard work
John Cremer

This article was part of a special supplement on private banking which was published in the South China Morning Post print edition on October 20, 2021.

In their glossy marketing literature, private banks tactfully avoid any direct mention of the “three-generation rule”, but awareness of it can nevertheless be found between the lines.

It is, of course, nothing new, but rather a nugget of folk wisdom long passed on in cautionary tales told in family homes and clan gatherings all around the world.

Scots clustered close to a warming fire on dark winter evenings have been warned that “the father buys, the son builds, and the grandchild begs”. Young Chinese have heard from schoolteacher, patriarch or village elder that wealth does not pass three generations. And while Japan’s “rice paddies to rice paddies” and America’s “shirtsleeves to shirtsleeves” conjure up differing images for the same notional period, the essential message is identical: take the necessary steps to ensure hard-won wealth isn’t carelessly squandered.

For the private banking community, that imperative has translated in recent years into an increased focus on succession planning. It has been driven in the first instance by good financial sense, but also reflects the circumstances of a distinct historical turning point.

That is because, over two generations, roughly since the 1970s, many successful families in Hong Kong and mainland China have built up considerable wealth. Often from humble beginnings, they have worked hard, taken a generally cautious approach to savings and investment, and been able to benefit from escalating property prices and a mostly booming economy.

Since the 1970s, many Hong Kong and China families have built up considerable wealth, often from humble beginnings. Photo: Shutterstock

Now, though, decisions must be taken on how and when to transfer those assets to the third generation in a way that skirts the long-known pitfalls, avoids too much contentious debate, and preserves accumulated wealth without being over-restrictive.

“Succession planning has always been important,” says Fan Choi, head of wealth planning, North Asia, for Union Bancaire Privee (UBP). “But in recent years it has become more urgent as wealth owners come to realise that life is full of uncertainties with the geopolitical situation, the pandemic and lockdowns. In essence, it is all about personal risk management.”

At root, the process can be thought of as simply involving a series of business decisions. However, things are rarely straightforward, because even in the most harmonious families, different priorities, values and preferences are almost guaranteed to come to the surface.

“Balancing the dynamics of the different family members and beneficiaries often causes the most difficulty,” Choi says. “The most important thing, therefore, is to agree on a mission and goal, for example preserving wealth and ensuring the continuity of a family-owned business. That ultimately determines the success of the operation of chosen structures, the style of governance, and the extent of external involvement.”

One typical scenario familiar to professional advisers sees the older generation, whose years of toil earned the money in the first place, reluctant to relinquish control or listen to alternative viewpoints. In contrast, representatives of the third generation tend to be worldly, tech-savvy, full of plans and ideas, and perhaps just a little too entitled after an upbringing and early career cushioned by wealth, education and easy access.

Such depictions may lack nuance, but they do indicate the sort of terrain the private banker must navigate and why some of the more thorny issues arise. So, an early priority is to establish good lines of communication and tune into the sensitivities before diving into the technicalities of trusts, tax jurisdictions and the timing of asset transfers.

Fan Choi, managing director, head of wealth planning North Asia of Union Bancaire Privee. Photo: SCMP

That is seldom as easy as it should be, mainly because many parents just find it difficult to discuss what will happen after they are gone. To get around this obstacle, it often helps to adopt a set of informal rules within the family to increase transparency and encourage discussion of awkward topics, which ultimately cannot be avoided.

The suggested rules include taking advantage of “teachable moments” to introduce the next generation to what they can expect – and what will be expected of them. It makes good sense to give younger members of the family an early say in some of the ongoing decisions. In this way, they come to appreciate the complexities, while also gaining an understanding of key responsibilities and core values.

And due consideration should be given to appointing a neutral, third-party trustee. Such a person can ensure each voice is heard, oversee correct process and proper decision making, and act as mediator if things start to get contentious or overemotional.

“There is no one-size-fits-all legal structure that is right for every family,” Choi says. “In each case, you have to look at the scope and complexity of the operations, the personal wishes of individual wealth owners, the expectations of successors, and even family culture and background.”

Therefore, a well-thought-out plan must take account of the current location of assets plus the nationality and country of residence of family members. This is to determine if any practical constraints exist regarding inheritance or foreign ownership of trusts or foundations, and what implications that may have.

There are also the legal, regulatory and tax issues linked to a preferred choice of jurisdiction. Certain options obviously allow for greater flexibility and tax optimisation. But with this goes the possibility that rules in more favourable jurisdictions may now be subject to change.

Trust and integrity are crucial to ensuring wealth is passed down with high-net-worth families able to make a major impact on the world through investing. Photo: CWH

And, in today’s digital world, while technology can give readier access to global investment opportunities and virtual assets, questions are also multiplying about confidentiality, cross-border disclosure and reporting requirements.

“For us, it is always important to listen, keep an open mind and be objective,” Choi says. “Sometimes, it is appropriate to do a reality check with the client, perhaps even challenge them on their succession plan to ensure all the issues have been addressed. Our relationship managers are not afraid of being devil’s advocate.”

Peter Tung, head of private banking for Greater China at DBS Hong Kong, adds that trust and integrity are foundational to the whole process. Once that basis is established with a client, it becomes easier to discuss sensitive matters and develop specific themes.

“High-net-worth families understand that through investing they can have a tremendous impact on the world,” Tung says. “We provide them with informed investment choices and connect them with local social enterprises for opportunities to create and magnify social impact, while at the same time fostering their philanthropic legacy.”