Archive for: Whitepapers

Life Insurance’s Role in Family Office Strategic Planning

Authored by Jay Goldberg and edited by Marc J. Sharpe

Family offices serve as an intergenerational hub for family legacy, comprehensive and effective wealth management, as well as estate and business transition. Life insurance can play an important role in the strategic planning for successful families, although feelings towards such insurance, in many cases, is best described as a love/hate relationship. Almost two thirds of high-net-worth individuals and families have expressed a distrust of the insurance industry, while, in direct contrast, three quarters of them acknowledge that life insurance plays a role in their strategic planning[1]. This whitepaper will explore the value of life insurance as part of a robust estate and/or business plan and its role within the big picture perspective of family office legacy planning.

Despite the insistence of some overzealous agents, life insurance is not the panacea for all financial ills. It does, however, provide a solution for specific risks facing successful families; and when utilized and structured correctly, can help instill a sense of tranquility during turbulent times. Both simple and complex solutions can be tailored for the family office, but it is important to elevate the discussion beyond simply product towards risk exposures, risk management, and only then, optimal product solutions.

The purpose of this paper is to highlight some of the planning issues facing family offices where life insurance may be a viable solution; as well as sophisticated techniques utilized by family offices to structure coverage. As noted, the discussion of product selection is secondary to identifying the problem and developing strategies required to resolve specific issues.

Liquidity Needs

Liquidity at key moments for the family, the business, and the family office is essential, and if life policies are correctly owned and executed, they become immensely valuable in mitigating the dangers around illiquidity.

• Survivorship- Whether the family office is embedded in a business or operating as a stand-alone entity, the majority of assets are often invested in illiquid holdings. It would seem counter-intuitive that these wealthy families would need insurance coverage for survivorship, yet, in many cases, the patriarch’s or matriarch’s passing can cause a significant disruption as family members grieve and their family office begins the arduous probate process. Many families find that maintaining a policy on key family members can bring a sense of calm to an otherwise tumultuous period. The dollar amount of coverage can be nominal when compared to their overall wealth, but the liquidity provided can allow family members and the family office to take a deep breath and make optimal decisions. To avoid inclusion inside of one’s estate, the policy should be trust-owned, and a spousal trust, children’s trust, or other legacy trust are all viable options for ownership.
• Estate Taxes- The most prevalent usage of life insurance by high-net-worth families and their family offices is to provide liquidity for their heirs to pay projected estate taxes. It is only one of several legacy planning issues but the one with the most immediate financial implications. A 40% tax on assets inside of one’s estate can cause a significant liquidity crisis, particularly since the tax is due within nine months of the date of death and due in cash. Illiquid assets can create a challenge when the need for liquidation is relatively immediate and trust-owned life insurance becomes a valuable risk management tool in these instances. One of the many responsibilities of a family office is to coordinate a comprehensive effort to effectively shift as many assets as possible outside of the family’s estate. This is done to minimize the effects of estate taxes as well as for asset protection purposes. The reality, however, is that it is difficult to eliminate all estate tax liability, but implementing an effective estate plan can reduce and better define the projected amount of tax due. Life insurance can then be utilized to provide the needed liquidity to avoid a forced sale of assets.

Estate Planning

Outside of the need for estate liquidity, there are other legacy planning issues where life insurance can be a viable solution. For example, family offices often find themselves struggling to find answers to succession and inheritance planning that allow heirs to live self-determined lives while maintaining family harmony. There are several other areas, in addition to estate tax liquidity, where well-structured life insurance can be utilized to solve planning issues facing successful families.

• Estate equalization– one of the more difficult decisions that successful families and family offices face is how to effectively deal with the “fair” distribution of their estate. The difficulty lies in the fact that, in some cases, there needs to be a differentiation between “fair and equal.” This determination, however, is easier said than done and life insurance can play an integral role in solving a number of these needs.
• Second marriages– estate planning for blended families can be a delicate and complicated process, particularly if one spouse entered the marriage with significantly more wealth and sustained earnings. Whether both spouses had children prior to this marriage or not, determining an agreed upon estate plan can be a challenge. Life insurance is an answer to this dilemma, allowing potentially separate property assets to remain within one family line while insuring an inheritance for the other.
• Business holdings– a challenge facing business owners is planning for children in or out of a family business. Children working in the business may not agree with a plan that includes sharing both revenue and value equally with their siblings. Once again, life insurance, structured to help equalize the estate, is an attractive solution. If all children already own stakes in the business, a buy-sell plan between family members is critical planning for a family office. In this case, regardless of terms of valuation metrics, insurance can provide the necessary liquidity to execute this plan.
• Farms/Ranches– a challenge for family offices is planning for the family farm or ranch. In many cases, this asset represents a significant holding, but like the family business, not all heirs necessarily participate equally. As with the other estate equalization needs, insurance can be the solution to help maintain family harmony. In addition, if the family wants to maintain the farm/ranch as a legacy asset, the family office might consider funding a Family Trust with enough life insurance to both purchase and fund the future maintenance of the ranch. By implementing this strategy, they can create a multi-generational legacy asset, outside the reach of estate taxes, which has the ability to sustain itself for years of family use.

Charitable Planning

Family offices are charged with the effective use of charitable planning to meet the needs and goals of the families they serve. In most cases, the donation of existing assets is the most fulfilling method since it meets the family’s altruistic goals while providing a current tax benefit for them. There are several uses for life insurance, however, that can be helpful within a family’s estate plan.

• Direct Gift– many families and their family offices find that using life insurance to meet a testamentary pledge may be an efficient way to fund their desired gift. This is especially true for families with substantial illiquid investment holdings. The family office may find that the payment of premiums today is more cost-effective than the liquidation of assets upon death.
• The Zero Tax Estate– the charitably inclined family may decide that the most attractive means to reduce estate taxes is to leave their assets which remain inside their estate to charity. Many times, this involves a family foundation or donor advised fund. After all, there are only three potential beneficiaries for accumulated wealth; their family, charitable institutions, or Uncle Sam; and few choose to benefit the latter. Life insurance can play a significant role for the family office by replacing the donated wealth with tax-free benefits for the heirs. For some families, this allows the flexibility to give all their estate to charity and ensure that their heirs receive an equivalent benefit via insurance. It can be utilized by family offices to reduce the complexity of what can become quite complicated estate planning and enable families with the ability to make large charitable gifts during their lifetime.

Business Planning

Planning for the succession of business assets, whether that be an operating business or more passive investment entities such as LLCs and FLPs, can be more challenging than traditional estate planning. For non-related business partners, strategies are typically more straightforward, though still with a degree of complexity but absent the softer issues of family dynamics. When the succession plan includes children in and out of the family business, family offices are tasked with the more complicated responsibility of managing the goals and aspirations of all heirs. Once the original wealth creators have passed, it may become apparent that not all heirs have the same level of interest in the family business or necessarily care to be co-invested with their siblings. As Mark Twain said: “You never really know someone until you share an inheritance with them” and the succession of business assets can be a major catalyst for family disharmony. Life insurance, structured in conjunction with well-drafted legal agreements, is an effective solution to help fund a comprehensive succession plan and maintain family harmony.

• Buy-Sell- creating effective buy-sell plans is a requisite not only for an operating business but for the more passive entities formed to hold and protect investments for family members. Family offices not only have to ensure that continuity strategies are in place for these entities, but for the family office itself. Not only must comprehensive plans be developed, but they must be flexible enough to conform to the complex tax issues related to these asset sales. In addition, they must be reviewed periodically to ensure they meet the needs of all owners and contain default language acceptable to all parties, should the periodic document review be overlooked. Life insurance is the most viable option when it comes to funding these plans, but it still requires several decisions ranging from policy type, ownership structure, and tax -effective funding to ensure they comply with the overall tax strategy. Company ownership of the policy can cause an increase to the overall valuation of the business (based upon a recent IRS ruling[2] necessitating a degree of creativity in how these policies are owned.

• Term vs. Perm- many buy-sell plans are funded with term life insurance, yet that may not be the best option in most cases. Term insurance has a significant advantage when it comes to being cost effective, but the reality is that over 90% of term policies never pay their death benefit. Typically, if the owners live beyond 65-70 years old, the term policy has expired. They then find themselves without a funding mechanism when it is most needed.

• Permanent Life- though a more costly option than term, family offices should consider utilizing permanent life insurance in business succession planning when economically viable. In addition to having the funds available for the life of the insured parties, there are other uses that may advantage family members and business partners alike.

• Bonus out the policy- One of the attractive features of permanent life insurance is the fact that it will be in-force when most needed. If a business partner, family member, or key person decides to retire for whatever reason, the policy is an attractive benefit that can be bonused to them for a variety of uses. This is a valuable instrument that can be utilized as a company benefit for retaining key personnel.

• Cash value- depending on product chosen, funding structure, and guarantees, many permanent insurance policies build cash value in addition to offering a death benefit. Policies can be designed to offer maximum cash value at the optimal window (projected time of retirement or business transition), which allows for substantial flexibility in the use of the policy.

• Retirement income- a popular strategy is to utilize the cash value of a life insurance policy for retirement income. This is achieved through tax-free loans from the policy and can help the retiring party with supplemental cash flow (tax-free).

• Disability/Long-term care- depending upon riders associated with the policy, a permanent life insurance policy can help solve for needs regarding both disability and long-term-care.

• Estate planning- whether individually or business owned, the policy can be gifted or sold to a trust to provide liquidity for surviving family members for both estate and/or potential income taxes.

• Business asset- for businesses that have capital requirements to meet loan covenants, adding a high cash value rider to a permanent life insurance policy helps maintain the policy’s cash value, making it a valuable asset for the business’s balance sheet.

• Pension Plans- family offices looking to shelter income for high-earning family members may consider the more “modern” versions of pension plans, such as hybrid cash balance plans. Depending on a participant’s age, pre-tax contributions can range to almost $400k a year and there is no age limit for starting a plan. Coupling this substantial contribution with a portion dedicated to funding permanent life insurance within the plan, can truly supercharge the overall benefit. With proper structuring, the policy can be removed (via sale) once premiums are paid, providing substantial flexibility for its uses. Pension plans can be a tax advantaged method to fund life insurance with pre-tax dollars.

Tax-free Investment/Income

For many years, the consensus has been to defer income tax as long as possible through qualified plans and other specialized tax-advantaged investment strategies. The reality being faced by family offices and wealthy individuals today, is that tax rates may be higher in the years ahead, making deferral not quite as attractive. Despite how it may feel, today we are truly in the golden age of taxation with the lowest tax rates seen in the U.S. since the 1930’s. This is across the full spectrum of tax including income tax, estate tax (along with the highest exemption in history), corporate tax, and capital gains tax. With deficits growing and government spending continuing to increase, it is hard to imagine that tax rates will remain indefinitely at such historically low levels. This is a valid reason for family offices to consider life insurance from an investment perspective as well as a source of income since both the death benefit and policy distributions (using loans) are generally tax-free.

• Internal rates of returns for an insurance policy’s death benefit, based upon the insured’s actuarial age, typically range from 5%-7%, depending upon policy construction and chosen product. Inventive methods of policy funding may increase these rates of return even higher. The taxable equivalent return for traditional investments may have to exceed 9%-10% to match the return generated by a permanent life insurance policy. In addition, some family offices are looking at interest rate sensitive products such as Whole Life or Universal Life, as a hedge to their equity exposure without directly investing in fixed income instruments. Life insurance, which can provide a secure, tax-free rate of return, is increasingly viewed as an investment class, as opposed to simply a risk management tool, by wealthy families and their family offices.
• Tax-free distributions from a life insurance policy can be an important part of a family’s financial plan. This source of tax-free income, based upon policies with favorable loan provisions, will become even more valuable should we encounter a higher income tax rate environment. Structuring a policy for cash accumulation and eventual income distributions is an art form in itself and product selection is an important component. Historically, Whole Life policies have not been the best option for this strategy due to higher loan costs and lack of flexibility, while Universal Life policies tend to be better suited to meeting income/distribution goals. For family offices looking to generate tax-free income, a well-structured insurance policy may provide both a near-term death benefit and future income for the families they serve.

Policy Funding

For the typical family with a need for life insurance coverage, funding their policies is typically simpler, becoming more a function of desired benefit, product selection, underwriting status, and desired length of premium payments. For family offices, however, much larger policies are typically required to execute estate and business planning strategies and funding mechanisms become significantly more complicated. In addition to the costs of premiums and illustrated payment structure, there are tax consequences, both income and estate, as well as contribution limitations that must be carefully considered.

• Premium structure- once the desired amount of coverage is identified, the next “solve for” is to determine the most efficient method of funding the policy. As noted, for most conventional coverage, there are rarely significant tax consequences, even if the policy is to be trust-owned. By including children, and grandchildren as beneficiaries, along with a current annual exclusion of $18,000 per person ($36,000 per couple), most families can avoid gift tax and fund relatively substantial premium payments. However, this is not always the case for many and certainly a challenge for family offices looking to procure significant amounts of benefit for the families they serve.

• Traditional premium structure- for most policies, premiums are typically structured in what is termed a “shorter pay” manner (typically 10, 15, or 20 years) or payments for life. As a rule of thumb, the shorter the payment period, the higher the IRR at the insured’s actuarial age. Cash flow restrictions, in many cases, dictate the desired choice of years for policy funding.

• Skip design- some family offices may find that there are advantages to front loading a policy to take advantage of a current excess of cash available. In this case, future premiums can many times be “skipped” for a number of years, ranging from as few as 3-4 years up to 25+ years of no premium payments. Though an attractive strategy to many with improved IRRs through the insured’s actuarial age, the downside is substantial premium costs later in life. Living beyond that point in time greatly reduces the return profile of this strategy.

• Income and pension design- for families looking to generate maximum income from their insurance policy or fund life insurance within a pension plan, most utilize a shorter premium payment period of between 5-7 years. For incomes strategies, this allows for substantial premium contributions to the policy to quickly accumulate tax-deferred. For use of permanent insurance within a pension plan, the shorter premium period facilitates the repositioning (via sale or distribution) of the policy from the plan once all premiums are paid.

• Private split dollar- this planning technique is attractive to family offices and their clients by allowing payment of annual premiums on trust owned policies without incurring gift tax consequences by making large gifts that would exceed the client’s lifetime exemption. The loans made to trust have income tax implications and are usually treated as either a collateral assignment (economic benefit calculated upon the cost of term insurance) or a loan regime (typically an interest rate tied to the long-term AFR rate). In addition to traditional split dollar, there are private switch dollar plans (switching between the economic benefit and loan regime upon a triggering event) and intergenerational split dollar plans (grandparents funding policies on children’s lives for the benefit of grandchildren). Split dollar planning is an important tool for family offices looking to acquire life insurance but not utilizes additional estate tax exemption or generate gift taxes. They should be aware, however, that private split dollar plans require diligent administration and compliance to ensure their efficacy. This includes proper legal agreements that outline the responsibilities of all involved parties on issues including premium payment responsibilities, death benefit allocation, and the sharing of policy cash value.

• Premium finance- for the past decade plus, interest rates have been historically low making the financing of insurance policies through third party loans attractive to family offices and the families they represent. Provided that an arbitrage exists between loan rates and the policy’s rate of return, this is a strategy that has the potential to substantially increase IRRs based on the age-old strategy of utilizing leverage. Though there are plenty of well structured, financed policies with accompanying credit facilities, the use of premium finance, sold many times as “free life insurance,” has also had its share of pitfalls. The reality is that if a plan is well-structured, with realistic assumptions for both interest rates and market returns, as well as a viable exit strategy to retire the loan, premium finance of life insurance is a good strategy for family offices to consider. The current rate environment, with interest rates more “normalized” than over the past decade, presents an opportunity to illustrate realistic assumptions with the opportunity for upside should rates decrease in the future. As with all life insurance tied to either fixed income or market returns, the moving parts, both returns and costs, are based upon assumptions. The use of financing brings another variable to that equation. Current trends utilized by family offices include the restructuring (rescue) of previously issued policies as well as the blending of Whole Life into product selection to add return stability.

Private Placement Life Insurance (PPLI)

High net worth families are attracted to the potential benefits of private placement life insurance, and this strategy has grown rapidly over the past decade due to substantial interest from both family offices and investment advisors alike. PPLI is a niche life insurance product that offers high-net-worth investors an opportunity to combine the benefits of life insurance with tailored investment opportunities in a tax advantaged manner. Though it still functions as a life insurance policy, it allows the policyholder to allocate a portion of the premium payments to a wide range of investment options, including hedge funds, private equity, real estate, and other alternative investments. Being a life insurance policy, the cash value grows tax-deferred, allowing the accumulation of wealth without incurring annual income taxes on their investment gains. This is valuable for investments in tax inefficient strategies such as hedge funds and other alternatives which generate substantial short-term capital gains. Other benefits include the tax-free death benefit passing to beneficiaries, making it a valuable tool to help mitigate potential estate tax liabilities, as well as the asset protection provided for insurance related products. While this strategy can provide certain tax advantages, it is a complex financial tool and not without potential drawbacks. Some of the “cons” of PPLI are the costs associated with the strategy, which includes management fees, insurance charges and administrative expenses. In addition, family offices need to be aware of the liquidity constraints related to this strategy and potential legislative risks. Along these lines, it is important to note that the Senate released a report in February 2024 specifically targeting private placement life insurance. Though no regulatory changes were enacted, the strategy is on the government’s radar and proposals to curb the use of this strategy may be forthcoming. Family offices should rely on competent legal and tax advice (not necessarily from an insurance agent or investment advisor) before engaging in this strategy.

In conclusion, there are four core risk pillars for the family office – strategic risks, commercial risks, financial risks, and personal risks. Life insurance should be seen as a risk management solution for these families, which are often immensely complex in their business and investment holdings, as well as their family dynamics. Family offices are increasingly focused on helping families achieve overall financial wellness by analyzing clients’ lifestyle and financial goals – both personal and professional – and then using tools such as insurance to develop a holistic financial strategy that puts them on a path to achieving those objectives. As noted earlier, it is key for family offices to not simply talk product, but to understand the role of life insurance in the strategies utilized to meet their clients’ objectives. Life insurance is not a panacea for all financial ills but, as I hope we have illustrated, can be an integral component of a comprehensive plan, transferring wealth in a tax-efficient, protected manner and as a funding mechanism for estate and business planning strategies.

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Jay Goldberg is Founder and CEO of Integris Legacy Solutions, a life insurance consulting practice focused on bringing transparency to the design and structuring of life insurance as well as the often-overlooked need for ongoing policy review. Prior to forming Integris, Jay was a Founding Partner of Mosaic Advisors, a consulting group providing comprehensive tax, financial, and business planning advice to UHNW business owners and their families. His experience of reviewing policies for firm clients lead to the conclusion that there was too much opaqueness in the life insurance industry and that few clients truly understood the workings of the insurance products they owned. Jay formed Integris with a commitment to in-depth design and review of life insurance policies along with an emphasis on educating and empowering clients so that they can make informed decisions regarding their insurance needs. Contact: jay@integrislegacy.com

Marc J. Sharpe is the founder and Chairman of TFOA, an organization formed in 2007 to provide a forum for education and networking and to serve as a resource for single family office principals and professionals to share ideas and best practices, pool buying power, leverage talent and conduct due diligence. Mr. Sharpe also teaches an MBA class on “The Entrepreneurial Family Office” as an Adjunct Professor at SMU Cox School of Business. Contact: marc@tfoatx.com

The Family Office Association (“TFOA”) is a global peer network that serves as the world’s leading single family office community. Our group is for education, networking, selective co-investment, and a resource for single family offices to share ideas, deal flow and best practices. Members are not actively marketing products or services to other members and no contact information or email lists will ever be shared. Since our founding in 2007, TFOA has led the global single family office community by delivering world-class educational content, unique networking opportunities, and exceptional thought leadership to our highly curated network of the world’s largest and wealthiest families: www.tfoatx.com

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Disclosures

The Family Office Association (“TFOA”) is a peer network of single family offices. Our community is intended to provide members with educational information and a forum in which to exchange information of mutual interest. TFOA does not participate in the offer, sale or distribution of any securities nor does it provide investment advice. Further, TFOA does not provide tax, legal or financial advice. Materials distributed by TFOA are provided for informational purposes only and shall not be construed to be a recommendation to buy or sell securities or a recommendation to retain the services of any investment adviser or other professional adviser. The identification or listing of products, services, links, or other information does not constitute or imply any warranty, endorsement, guaranty, sponsorship, affiliation, or recommendation by TFOA. Any investment decisions you may make based on any information provided by TFOA is your sole responsibility. The TFOA logo and all related product and service names, designs, and slogans are the trademarks or service marks of The Family Office Association. All other product and service marks on materials provided by TFOA are the trademarks of their respective owners. All of the intellectual property rights of TFOA or its contributors remain the property of TFOA or such contributor, as the case may be, such rights may be protected by United States and international laws and none of such rights are transferred to you as a result of such material appearing on the TFOA web site. The information presented by TFOA has been obtained by TFOA from sources it believes are reliable. However, TFOA does not guarantee the accuracy or completeness of any such information. All such information has been prepared and provided solely for general informational purposes and is not intended as user specific advice.

 

[1] Swiss Life Global Solutions – “Risk and the Family Office: How Life Insurance Can Help” (May 18, 2022)

[2] Thomas Connelly v. United States, U.S Court of Appeals (June 2023)

 

Single Family Offices

The modern concept and understanding of family offices was developed in the 19th century. In 1838, the family of J.P. Morgan founded the House of Morgan, which managed the families’ assets and in 1882, the Rockefellers founded their family office, which prevailed until today. Family offices started gaining significant popularity in the 1980’s; and since 2005, as the ranks of the super-rich have grown to record proportions, family offices have also swelled proportionately.

A single family office (“SFO”) provides information, education, opportunities for networking, idea sharing, and pooling of buying power, to affluent families, and prepare the next generation for their wealth. Importantly, an SFO is a private company that manages investments and trusts for a single family. The company’s financial capital is the family’s own wealth, often accumulated over many family generations. Traditional family offices provide personal services such as managing household staff and making travel arrangements. Other services typically handled by the traditional family office include property management, day-to-day accounting and payroll activities, and management of legal affairs. Family offices often provide family management services, which includes family governance, financial and investment education, philanthropy coordination, and succession planning.

The SFO’s are run by trusted professionals with a fiduciary responsibility to a single family. The professionals running these family offices have broadly defined roles, covering multiple areas and multiple skill sets. The offices tend to be staffed with talented individuals who can span accounting, legal, operational, and investment management activities, among others. Defining the service proposition is not straightforward and a common phrase used by industry insiders is: “When you have seen one single family office, you’ve seen one single family office”

The wealth management industry like to classify family offices based on size of assets under management. Some believe the monetary threshold before a single family office (SFO) makes sense is at least $200 million in total assets. A better question to ask is: “Are my family’s financial and non-financial interests best served by our existing (or additional) outsourced advisors?” If the answer is “no” then a single family office might be the solution…

Some SFOs are substantial wealth management institutions, with large teams of experienced professional overseeing fully diversified portfolios, including hedge funds, private equity, oil & gas interests, direct investments, real estate, commodities, and other alternative investments, as well as accounting, asset management, legal, security, and other functions. Other SFOs are more lightly staffed, with a variety of activities outsourced. Almost all SFOs share the following features:

• Dedicated focus on the specific needs and requirements of the family
• Alignment with the family’s legacy, vision and values
• Privacy and confidentiality is strictly maintained
• Investment time line typically spans multiple generations
• Overseas a complex mix of investment and personal assets
• Purchasing leverage, fee minimization and cost savings
• Avoids many of the conflicts inherent in the wealth-management industry
• Strong coordination between investment, business, philanthropic and personal services

All global families, regardless of geography, industry, ethnic make-up, dynamics and individual objectives, share certain common imperatives to operate effectively:

• Retaining top management talent
• Sustaining growth and profitability
• Optimizing capital structure
• Adapting to evolving risk profile
• Developing a coherent family agenda
• Mapping tax, legal and regulatory priorities
• Evaluating strategic relationships
• Embedding family vision and values in the SFO culture

SFO success depends in large part on how effectively the family reevaluates and reexamines its goals and objectives, especially as family leadership changes.

Depending on the needs of the family, and the size and complexity of the assets under management, the services provided by the SFO can vary widely. They may coordinate and oversee various types of investment-related services, management of complex assets, accounting, tax planning and compliance, asset protection and risk management, as well as family services. Here are the most common elements that each category may include:

Investment Management Services

• Design and implementation of asset allocation
• Development of an investment policy statement (ISP)
• Aggregation and reporting of investment performance
• Sourcing and due diligence for investment opportunities

Management of Complex Assets

• Mineral and O&G interests
• Collections and sports teams
• Socially-responsible investments
• Family bank and intra-family loans
• Residential and commercial real estate

Accounting, Tax Planning and Compliance

• Trust implementation and administration
• Accounting and tax filings, and tax planning
• Administration of private family trust company
• Identification and engagement of outsourced providers
• Development and coordination of estate plans for all family members

Asset Protection and Risk Management

• Insurance policies
• Medical management
• Reputation management
• Personal security services
• Hiring and background checking
• Management of household and family office staff

Family Services

• Organization of family retreats
• Philanthropy and charitable activities
• Next generation education and engagement
• Family mission, constitution and governance
• Personal and property security systems and procedures
• Concierge services (e.g. travel, private aviation, personal shopping)

Reliable data is hard to find, but according to Forbes’ latest billionaires list, which analyzes all assets an individual can hold, there were over 2,000 individuals from across the world with personal 10-figure fortunes. They control an estimated $10 trillion. In the U.S. alone, Forbes estimates there’s over 450 American billionaires. In addition, there are currently more than 5,000 U.S. households worth $100 million or more. China is second with more than 1,000 ultra-rich households.

Estimates of the number of SFOs around the world is much harder to find but is likely currently around 3,000. This doesn’t include quasi-family offices: small private family investment companies of limited scale, or family offices embedded within family-owned and – managed businesses. Given the number of ultra-high net worth individuals, why are there so few SFOs? Part of the reason is lack of awareness and education regarding the benefits of an SFO, fear of potential cost and complexity of set-up and management, challenges in hiring capable staff, and lack of professional guidance. All these factors make families reluctant to create their own SFO.

But families that forego an SFO, whether by conscious decision or lack of awareness, face significant challenges. These families often have fragmented and uncoordinated relationships with multiple private banks, wealth managers and other business, investment and personal service providers. The family pays high fees for this disorganized array of overlapping services. Worse, those fees likely are not fully disclosed, so the family can’t quantify or compare them, or effectively negotiate with the service providers. Furthermore, many of the institutions they work with have built-in conflicts of interest: brokers and other client-facing staff often receive higher commissions for selling the institution’s own investment products, giving them an incentive to push these products rather than choose the product that best suits the client’s needs and circumstances. Families also rarely have the staff or the expertise to vet investment advisors or individual investment opportunities, thereby heightening the chances they may inadvertently enter into a subpar investment, or worse, a Ponzi scheme or other fraud.

Wealthy families are increasingly demanding independent, thoughtful and tailored advice. Instead of buying opaque financial products from third party financial advisors – often incented to meet artificially mandated sales quotas – SFOs provide an objective filter through which everything can be carefully screened to meet the complex business and personal needs of the families.  Now more than ever, wealthy families need to coordinate their business, investment and personal relationships, centralize management and oversight, implement appropriate due diligence and risk management procedures, and manage their family affairs more effectively. For a family of significant wealth, an appropriately structured and well-run SFO is likely the answer.

Starting a SFO

Creating an SFO to fit your family’s specific needs and circumstances requires considerable thought and preparation. Families considering forming an SFO should put together a motivated group of family leaders and trusted advisors to lead the planning effort, with input from outside specialists as necessary. The following, while not totally comprehensive, serves as a helpful checklist to get started:

Mission Statement

Families planning an SFO should take time at the outset to consider the purpose of the SFO and its role within the family. A critical early task in setting up an SFO is defining the mission of the family office. Developing a concise, focused mission statement to guide the work of the SFO will help to avoid “mission creep” in future years. The founders should avoid drafting a mission statement that is vague and short on specifics. A consultant can help a family mold its vision and values into a practical and useful tool to guide the work of the SFO for generations to come.

Needs and Objectives

There are three critical questions to be addressed early in the planning and development phase of creating your family office:

1. Who are the clients?

Defining which individuals and entities will be served by the SFO is a critical activity. A comprehensive list should include all individuals and entities to be served, including family branches, investment entities, businesses, trusts, trust companies and foundations. The design of the SFO will need to consider each client’s unique needs and requirements.

2. What assets will be managed?

Once the clients have been identified, a list of all the assets the SFO will be responsible for managing is needed. This will include marketable securities, hedge funds, MLPs, direct investments, oil & gas leases, operating businesses, residential real estate, commercial real estate, farms, collections, aircraft, yachts, horses, sports teams, etc. The SFO will need to hire or outsource the specific expertise needed to oversee and manage the assets

3. What services are needed?

Families with extensive investments, or with liquid capital to be invested, will need investment management services, including an investment policy statement and asset allocation plan, manager due diligence, and investment reporting. All SFO clients will need comprehensive and accurate performance reporting, accounting, and tax-return preparation. Coordination of risk management – such as insurance, security and reputation management – will also be needed. Development and coordination of estate and tax planning, possibly including management of a private family trust company, is another obvious need for multi-generational families, but can be equally critical for a first-generation entrepreneur who wishes to perpetuate the family’s long term legacy. Other possible services include property management and staffing, bill payment and concierge services.

The adage of “shirt sleeves to shirt sleeves in three generations” is well known. It has been documented throughout the world, across numerous countries and cultures. It is one of the driving reasons why many families of wealth recognize the need for proper family governance and family wealth-planning strategies during the lifetime of the family wealth creator. However, even after implementing a family governance system during the design phase of an SFO, families must constantly refine and reevaluate their values, vision and mission as their SFO adapts to the changing needs of the family and the global environment.

Business Plan & Budget

Once the clients, assets and needs have been identified, a business plan can be developed that outlines the services to be provided, a short- and long-term timeline, employee and outsourced talent required, service partners required (for example, custodians, tax counsel, security services) and technology needs.

A key objective in developing a business plan should be determining the budget. SFOs are not inexpensive to operate. However, when compared with the expense of managing the family’s assets via an outsourced or third-party solution – taking into consideration all costs, fees and expenses – the expense of an SFO will likely be lower. Certainly, because the SFO will be custom-tailored to the family’s needs, the return on that expenditure will be much higher.

Typically, SFO budgets are defined as a percentage of assets under management. SFO operating costs vary widely. with smaller SFOs, or those managing complex assets, costing more to operate than larger SFOs, or those managing a simpler portfolio, because there are fewer economies of scale to exploit. The budget of an SFO managing an extensive portfolio of alternative investments and commodities for three generations of family members, all of whom also share a passion for modern art and house their collections in multiple homes around the world, will necessarily be larger, both as an absolute number and as a percentage of assets under management, than the budget of an SFO managing a portfolio of publicly-traded securities for a single family unit. The budget will drive the creation of benchmarks to set expectations for SFO performance.

An SFO serving the needs of a multi-generational family must consider how the costs will be allocated and charged to individual clients of the SFO. Future conflict between family office clients or between the family and the office can be avoided if the method of allocating expenses, determining the expected contributions by each client, and collecting fees is made explicit from the outset.

Leadership and Staffing

The plan should identify the expertise required to meet the specific needs of the SFO’s clients, given the specific assets to be managed and the available budget. The plan should also specify whether such expertise will be provided internally or outsourced. Once staffing needs are determined, the issues of location, office space needs, technology, security, administrative support etc. can be addressed.

Finding the right talent is generally the most challenging aspect of setting up an SFO. Ideally the CEO candidate should be identified first (if this task has not already been completed). Because the CEO of an SFO must work closely with the family, the office staff and with a wide array of outside service providers, the CEO must have excellent organizational, management and “people” skills. Choosing a CEO purely because of his or her technical expertise in investing, or in accounting, or in tax planning, is generally a mistake. Often, families will give this important position to a trusted advisor or the controller of their operating business who has been loyal for many years. This can also be a mistake if the trusted advisor or controller is not scalable into the CEO role.  Because the CEO carries out a high-level executive function and serves as the family’s face to the outside world, candidates should have proven experience leading, managing and communicating successfully in a wide variety of complex situations. It is a critical role to fill, since once identified and hired, the SFO CEO will take on the role of carrying out the build-out of the SFO in accordance with the plan.

SFOs often hire investment team members with extensive prior experience at private banks, investment houses and hedge funds. Such talent is highly sought after; candidates often demand investment rights or bonus compensation based on investment performance. The SFO should take care in structuring such arrangements, particularly considering the Dodd-Frank Act’s requirement that family offices comply with RIA registration requirements unless they fit a very narrow exemption. SFOs, both new and established, should seek advice of experienced counsel when bringing on new investment team members or adding new benefits such as carried interest.

All staff members, at every level, should go through a background check and sign non-compete, non-solicitation and non-disclosure agreements. Whether the SFO is large or small, it should have an employee policy manual. The manual should be reviewed and updated at least annually by knowledgeable counsel.

The SFO should be overseen by a board of directors, which will meet regularly and be responsible for setting strategy and overseeing the CEO. Most families control the board of their SFOs, to ensure strategy is in line with the family’s wishes. Many SFOs are following the lead of private businesses and bringing independent advisors onto the board to provide outside perspective and expertise.

Contingency Plan

Planning for the SFO should include development of a contingency plan that outlines procedures to be followed in the event of a natural disaster, extreme volatility in the financial markets, theft, or technology breach or failure. At the most basic level, the contingency plan should include provisions for ensuring the safety and security of the family, its critical information and tangible assets, safety of the SFO staff, off-site backup of all information, and a plan for re-establishing critical office activities off-site as quickly as possible.

SFO Governance

Governance is an important issue for any professionally run SFO. Indeed, an SFO that is intended to serve a family for generations is well advised to develop and implement an effective and appropriate governance structure that can significantly enhance the long term success of the office.

At its core, governance is simply a set of procedures that define how an SFO will make decisions. For governance to be effective, the owners, overseers (board of directors or advisors) and executive management must be informed, understand their respective roles and responsibilities, and run the SFO accordingly.

Typically, a successful individual will create an SFO following a liquidity event of some sort. The founder will design the SFO to suit his or her needs and interests. As with any business run by a controlling owner, there isn’t a great need for formal governance at this stage, because the owner is fully informed, understands the goals and objectives of the SFO, and may even handle some of the critical roles of the office. Unless the controlling owner has a formal governance mindset, they’ll generally run the SFO with minimal overhead or formal structure, making many decisions ‘ad hoc’. The controlling owner will often rely on external advisors or a key staff member who knows what is needed and can implement the controller owner’s wishes.

This kind of organic, first-generation governance can work quite effectively, at least in the early years of a family office’s life. The SFO runs smoothly, makes investments, and accomplishes tasks. However, when the SFO comes to be managed for the benefit of a wider group – typically, upon the controlling owner’s death, when the assets pass to descendants or trusts for their benefit – the absence of established, governance policies can create a vacuum. Without the founder around, suddenly no one really knows who’s in charge, what needs to be done, who’s responsible for doing it, or how that performance will be measured or compensated. If the next generation hasn’t been prepared for their new roles, there may be a struggle for dominance, or the opposite: fearing conflict, family members may simply abdicate. The SFO may slowly collapse, or a non-family member may come to fill the vacuum, for good or for ill.

Successful SFOs have strong governance policies to ensure the organization operates in accordance with the family’s long term mission and values over multiple generations. These governance structures must be robust yet flexible enough to withstand family conflict, generational transitions, and disruptive changes in the investment environment, whether anticipated or unanticipated. The following are key elements of a good governance structure:

1. The family has clearly articulated its mission, values and vision for the future, and the strategic plan of the SFO is built around this core.
2. The SFO’s strategic plan goes beyond investing and includes education of family members, to promote effective stewardship over the long term.
3. The owners have appointed a board of directors to provide perspective, access to specialized experience/skills, and to set strategy and investment policy. The board includes individuals who are not members of the family, members of the management team, or external service providers to the SFO.
4. The powers, rights and responsibilities of owners, board and management are clearly spelled out and followed.
5. Management is free to implement the SFO’s strategy, without daily interference from the family or the owners.
6. There are regular owners’ and board meetings, with written agendas and complete minutes. Information necessary for effective decision-making is distributed well in advance of voting, and there is adequate time for discussion.
7. SFO performance reports are clear, comprehensive and timely, so that decision-making can be based on accurate and complete information.

An SFO can do much to align its operations with the family’s interests, particularly in times of generational change. Some SFOs find that family office meetings become a venue for family members to air family grievances. The SFO can encourage and support the development of a Family Council to provide a forum for discussions of family issues separate and apart from the SFO. SFOs can play a key role in promoting family education, modeling best practices, training next generation family members, and fostering an attitude of stewardship.

SFOs are typically designed to serve multiple generations of a family, but an SFO is not eternal. Over the past decade, there have been well-publicized stories of substantial SFOs that crumbled under the conflicting demands and high costs of serving tens or hundreds of family members, each with comparatively modest holdings. Other SFOs, recognizing that they could no longer achieve the family’s mission and vision, or that the mission and vision had changed in such a way that the SFO’s activities were no longer cost-effective, have undertaken carefully orchestrated dissolutions. Families should recognize that dissolving an SFO is inevitably a complex, expensive and time-consuming process, and seek the advice of peer families or professional consultants who have navigated this experience successfully.

SFO Infrastructure

The structure of your SFO will depend on the jurisdiction(s) in which it will operate and the types of investments the family owns or intends to own…

Many SFOs in the USA are structured as limited partnerships or limited liability companies, and are organized similarly to hedge fund management companies (i.e. the SFO entity does not own any of the assets it manages; rather, it is a service entity that provides services to the SFO’s clients on a contract basis). It is highly recommended you engage with experienced securities counsel who have worked with other family offices regarding the potential impact of SEC rules on their structure and operations.

Dodd Frank and SEC RIA Registration

Under the Dodd-Frank Wall Street Reform and Consumer Protection Act, an organized effort was undertaken by single family offices nationwide that successfully convinced Congress to exempt SFO’s meeting certain criteria from the definition of investment adviser under the Investment Advisers Act of 1940 (previously, such family offices were deemed to be investment advisers and relied on the “less than 15 clients” rule to avoid registration under the Act, a rule that was eliminated under Dodd-Frank). The Securities and Exchange Commission (SEC) promulgated the final “family office rules” on June 22, 2011. An SFO that does not fit within the definition of a “family office” or qualify for an exemption as a bank trust company must register with the SEC. While some family offices have opted affirmatively to register with the SEC, others are greatly burdened by the increased administrative burden and loss of privacy that registration imposes.

Any individual or entity providing “investment advice” must register as a Registered Investment Advisor (RIA) unless an exemption is available. Registration can be costly and entails detailed disclosures that families typically are reluctant to make. An RIA must maintain and preserve specified books and records and make them available to Commission examiners for inspection. An RIA must also implement substantive compliance programs, prepare and file reports with the SEC, and provide detailed written disclosures to their clients (known as ADVs). Every RIA is subject to SEC audit. Failure to register may subject an advisor to criminal and civil sanctions and penalties. SFOs may avoid registration by:

1. Structuring ownership and operations to fit within the “family office” exemption to RIA registration;
2. Outsourcing investment responsibility to one or more third party RIAs; or
3. Establishing a Private Trust Company (PTC).

Private Trust Company

With a Private Trust Company (“PTC”), a family-created entity, rather than a third party, serves as trustee of the family’s trusts. Private Trust Companies are sometimes recommended by advisors as a mechanism to avoid RIA registration, but PTCs may also offer substantial additional benefits for the SFO:

1. Greater privacy and confidentiality;
2. Common administrative and decision-making policies for all trusts;
3. More knowledgeable and focused fiduciary oversight for family businesses, alternative investments, start-ups, real estate, and other non-public investments held in trust;
4. Better understanding and knowledge of family circumstances and needs of beneficiaries.
5. Greater participation and input by the family than would be possible if an outside, third party served as trustee;

SFOs seeking to establish a PTC primarily to avoid RIA registration are advised to consult knowledgeable securities counsel with experience advising family offices.

Structuring Investments

The various investments managed by an SFO are typically held in individual limited liability entities, to reduce the risk that losses and liabilities from one investment will affect another. For example, if the SFO holds commercial real estate, each parcel of real property is best held in a separate entity. If a passer-by slips on the sidewalk in front of one building, incurs a severe head injury and sues for medical expenses and lifetime maintenance, any liability in excess of the SFO’s casualty coverage will be limited to the assets of the entity that owns that building, thereby protecting assets held in other entities.

SFOs are increasingly utilizing sophisticated holding structures such as tracking partnerships. A tracking partnership permits family office clients to hold different partnership assets in different percentages, with performance results tracking accordingly. By way of example, assume the tracking partnership has four separate classes of interests: Class B (bond portfolio), Class S (indexed stock portfolio), Class A (alternatives portfolio) and Class R (REIT portfolio).

• Partner 1, an individual seeking a broadly diversified portfolio, might hold a 10% interest in Class B, a 10% interest in Class S, a 20% interest in Class A and a 15% interest in Class R.
• Partner 2, a trust intended to fund education expenses for Partner 1’s 10 grandchildren, might hold 40% of Class B and only 5% of each of the other classes.
• Partners 3, 4, and 5 would hold the balance of the interests in each Class, each in accordance with their individual investment goals.

A tracking partnership gives partners the investment flexibility they would have if they formed several partnerships but permits them to trade between classes from time to time without recognizing gain or loss for tax purposes. Such partnerships offer considerable flexibility, custom-tailoring of client portfolios, and a consistent governance model for SFO clients. However, they also bring with them complex tax, accounting and reporting issues, and so need to be designed with the help of knowledgeable legal and accounting counsel and managed with care.

Carried Interests

A carried interest is a share of profits from a partnership or LLC that is paid to a participant who did not provide any capital to the venture. A carried interest may provide a tax-efficient mechanism to fund family office expenses and may be used to structure incentive compensation opportunities for SFO staff. Particularly considering Dodd Frank and the SEC’s family office exemption, staff participation in SFO investments should be reviewed to ensure that they do not unintentionally trigger RIA registration requirements. SFOs are strongly advised to seek guidance from tax and accounting advisors before putting in place any carried interest structure or incentive compensation plan for SFO staff.

Insurance

A critical task for any SFO will be monitoring and managing risk for the family. Property and casualty, liability, health, and life insurance typically will be overseen and coordinated by SFO staff through relationships with an insurance firm that has experience working with SFOs and a comprehensive offering of insurance products. Certain assets, such as private jets and other aircraft, require unique holding structures, insurance coverage and regulatory compliance.

As the SFO grows and its clients and investments change over time, it is a good idea for the family and CEO to undertake a structural audit from time to time, to make sure that the SFO structure is optimal for its purpose. The audit may uncover opportunities for eliminating or reorganizing holding entities within the structure, thereby reducing reporting, accounting and compliance expenses for the SFO.

Business-Owning Families

Many business-owning families create a family office within the business administrative group. The company’s accounting team handles personal tax filings and financial record-keeping, while administrative staff keep track of insurance, record-keeping and bill-paying. The benefits of an embedded SFO are obvious: the family can leverage an existing resource, so the family office appears to be extremely cost-effective.

However, there are serious drawbacks to setting up your SFO in this way. First and foremost, the focus of a family office (i.e. wealth preservation) will be very different from the focus of the operating business (i.e. wealth creation). A dual staff will often struggle to manage the varied responsibilities and objectives, and skills that are critical in the business may not necessarily translate into the family office realm. For example, partnership accounting and reporting for trusts and complex investment structures is very different to corporate accounting, and staff may lack the time, training and technology to handle both jobs well. The legal structure and governance of an SFO will also be quite different than those of the business, and mistakes may occur when business practices are automatically carried over to the family office. Lastly, priorities may be unclear, such that if an emergency occurs in both the business and family office, at the same time, there may be significant conflict or a lack of sufficient resources to tackle both. Risks of gaps in reporting and compliance increase exponentially when the same staff are responsible for both the business and the family office.

Families with operating businesses are recommended to seriously explore developing a separate family office to handle their personal investments and manage their non-business assets. Having a separate office provides for greater privacy and confidentiality and allows for hiring staff with the specific skillsets required by the family office. A dedicated family office staff, not subject to the hiring practices of the corporation, will facilitate the development of an SFO-specific organization chart, with separate responsibilities, compensation, and work practices. This will also allow for a longer-range focus for the family’s personal strategic planning, as distinct from that of the operating business.

Building the family office apart from the business also increases opportunities for involvement of family members who don’t participate in the business. By expanding family involvement, the SFO can become a force for strengthening family cohesion. Some families are using their SFOs to create entrepreneurial venture funds, investing in promising new businesses and technologies, and thereby increasing the odds of growing rather than simply preserving the family’s capital.

SFO Technology

Many SFOs fail to invest in the robust technology infrastructure needed to optimize their capabilities, either due to a lack of execution or a lack of awareness around available solutions. Below are the six key technology needs for SFOs, along with a roadmap for the five key activities required for meeting those needs…

Key Technology Needs for SFOs

1. General Ledger Accounting: A double-entry accounting system, with workflow and accounting controls, integrated with investment and financial reporting, permits the SFO team to track the inflows and outflows of the family office and related entities.
2. Financial Administration: The accounting package should provide for management and payment of all expenses and accounts receivable and payable, ideally, with integration and auto-posting to the general ledger. Automation, along with the appropriate controls (verification and approval workflows), is critical to manage the volume and complexity of transactions that most SFOs face.
3. Consolidated Reporting: The accounting package must be capable of providing family members with an aggregated view of their balance sheet, income and cash flows across multiple custodians and financial relationships. The package should also enable robust ad hoc reporting (including risk metrics and performance analytics) on each family member’s comprehensive net-worth picture.
4. Secure Document Portal: A document vault permits encrypted/secure connectivity and communication among SFO staff, family members and interested parties, along with electronic storage of all family documents (family history, legal agreements, wills, statements, etc.).
5. Investment Analytics: An SFO with any degree of in-house CIO function will require portfolio management and trading systems, as well as market data and manager research and due diligence databases.
6. Infrastructure and Security: Many SFOs self-host their data and technology solutions (i.e. they have acquired and managed their own IT equipment, software and processes). However, outsourced providers now offer cloud-based virtual hosting services in highly secure (SAS 70 Level II and ongoing security audit testing certification) and cost-effective hosting environments (with disaster-recovery support). SFOs should consider the cost/benefit and ongoing flexibility of the latest hosting options. SFOs also must consider their IT staff and organization: whether full time IT employees are needed or whether IT support can be adequately outsourced.

How to Meet Technology Needs

SFOs must take a strategic approach to designing, selecting, executing and maintaining their IT systems and resources. Given IT is a mission-critical function for every family office, and the task of developing a strategic plan for IT investment is complex, most SFOs engage a consulting group with specific experience designing IT solutions for SFOs.

1. Design: Whether upgrading an existing technology infrastructure or starting from scratch, an SFO needs to begin by assessing its technology needs and requirements, taking into consideration all family members, businesses, investment entities, office staff, and external service providers that must be supported. SFOs are increasingly adopting institutional-like requirements around their IT in terms of mobile and real-time online accessibility, tools for trading, analytics and research. In particular, SFOs are seeking greater visibility into all their direct and manager fund investments, real-time evaluation of the level of risk (through standard deviation, VaR, etc.) and look-throughs on asset class, holding and geographic exposure across investments. They also require monitoring of counterparty relationships and clarity about their global asset allocation at the entity, family, and individual levels. The strategic-planning process will include documenting, confirming and prioritizing needs and requirements, as well as developing due-diligence criteria for vetting potential solution providers. For example, the due-diligence criteria will likely include insource vs. outsource, buy vs. build, firm size and tenure, security standards, and reference checks. Ultimately, the process will lead to a request for proposal (RFP) and evaluation of service providers who meet the criteria.
2. Selection: SFOs have a myriad of options concerning the technology approaches they can take due to the ever-increasing number of vendor solutions to meet the needs of SFOs. Some SFOs opt to leverage and integrate a number of disparate stand-alone vendors. For example, they may use a general ledger from a provider such as Intuit, QuickBooks or Microsoft, coupled with a reporting package such as SAP Crystal Reports, firms such as the Google, Amazon or Rackspace for Cloud hosting, financial administration from the bill pay capabilities of their banking relationship, etc. Others leverage a single provider to meet the majority, if not all, of their needs (examples include: Wealth Touch, Archway Technology Partners, and RockIT). Families with more limited current and forecasted needs, who believe they can ably execute and maintain their technology themselves, typically take the former approach. Those who need a more robust and scalable solution are increasingly partnering with single-source providers. There are obviously pros and cons to both approaches. SFOs should also be aware that a number of financial institutions have begun developing in-house capabilities or partnering with leading family office technology providers that offer families and SFOs IT solutions and related services such as access to market data and tools to manage risk, analytics and trading. Their technologies may be integrated into the family office’s investment management and banking systems or on an à la carte basis. These options may be cost-effective for SFOs as they’re typically subsidized or simply included for no additional charge as part of the overall service.
3. Assessment: When considering multiple-solution approaches and providers, it’s important to compile detailed cost data in the evaluation process and benchmark the cost projections against peers. When evaluating options, SFOs should select the solution(s) that provide flexibility and scalability for ongoing growth, require limited investment in maintenance and enhancements, and above all, ensure the privacy and security of the data and documents of the family. One of the key objectives and outcomes of the process should be to achieve collective buy-in across the SFO staff and family members who will use the IT system.
4. Execution: This phase often creates the greatest challenge for SFOs, making ease-of-implementation a key priority in the selection process. Sufficient resources, including money, time, focus and attention, must be allocated to implementing the chosen solution. Some SFOs have the technical expertise to evaluate and select an in-house integrated solution leveraging multiple software providers, but most find it overly burdensome to implement, configure and customize, integrate and test the chosen solution. Other SFOs taking the in-house multi-solution approach will engage the software provider’s professional-services team or an external IT consultant to implement the chosen IT solution. Using an outside team for implementation can speed up the upfront implementation, but in the maintenance phase it can become very costly over time. Those SFOs that opt to outsource their technology needs via a financial institution or third-party partner will often be able to get up and running more quickly than those that choose a more customized or in-house approach. SFOs with relatively uncomplicated reporting needs that they outsource to an external provider may be able to use modular options, or they may choose to take advantage of the provider’s configuration and customization abilities (at additional cost).
5. Maintenance: IT costs for SFOs vary widely depending on their needs, the number of entities, global reach, assets under management, type of assets and liabilities, and the approach they take to the IT environment. The total IT budget will typically include the following:

 

1. Hardware costs.
2. Hosting and data management.
3. Consulting support throughout the process.
4. Professional services configuration and customization of solutions.
5. Software license fees and annual maintenance costs (typically a percentage of license fees).
6. Outsourced operations fees (typically annual fees based on the complexity of services such as aggregated reporting or financial administration: e.g. number of entities, number of transactions, etc.).

The large majority of SFOs have moderate IT requirements. They can choose a basic general ledger and manually create reports via Excel, while maintaining a small or part-time IT staff. These SFOs typically have annual costs in the $50,000-$150,000 range. However, SFOs that have significant IT requirements often leverage one of the leading family office services-outsource providers (Wealth Touch, Archway Technologies, or RockIT for example), in addition to IT staff and other IT software and infrastructure. They might see total costs of $3 million to $ 4 million+, driven largely by the complexity of their balance sheets (the number of entities, alternative investments, transaction and bill payment flow, etc.), customization needs and geographic dispersion.

On average, based on industry research, anecdotal interviews and surveys, SFOs can expect to maintain an annual IT cost base (software, operational outsourcing, hardware and hosting fees, and IT staff) of 10-15 bps of their assets under management.

For budgeting purposes, SFOs must consider ongoing upgrades (software and infrastructure), research and development costs, evolving requirements of the office and family members, the pace of change in technology capabilities, and the complexities of IT security and data management. Given these considerations, many SFOs that previously chose to handle IT in-house are increasingly looking to outsource their core IT needs to third-party providers, while maintaining a small IT staff to attend to less complex office and individual family member needs (e.g. property and personal use vehicle connectivity, security, mobile device management, etc.).

SFO Risk Management

While most SFOs are founded to provide investment and concierge services for the family, perhaps the most important role of the SFO is to monitor and manage risk. With all investments and related activities managed by a single team, the SFO is in a better position than any individual family member, advisor, or external service provider to measure risk systematically and ensure SFO assets are protected. While a comprehensive risk-analysis discussion is beyond the scope of this whitepaper, a well-run SFO should be, at least, focused on the following risks a family may face:

Reporting Risk

SFOs tend to manage many, complex private entities within a broad portfolio of private and public investments, all of which report their individual performance at different times and in different formats. As a result, generating timely, accurate and comprehensive investment performance reports is one of the most difficult challenges for most SFOs. When a family considers creating an SFO, it should plan to allocate a significant portion of the annual budget to consolidated investment performance reporting-related expenses. At the very least, a consolidated P&L and balance sheet should be generated and available to the team responsible for managing and oversight of the family office. SFOs that under invest in developing their reporting capability often find themselves trying to make decisions with inaccurate, outdated information.

Accounting and Tax Reporting

Most SFOs manage tax reporting and estimated payments for family members, who will have local, state and federal tax filing obligations and may need to file in multiple jurisdictions. With complex holding structures, incorporating multiple pass-through entities and grantor trusts, the task of complying with tax reporting obligations can become very difficult. The risk is significant: failure to file accurate tax reports and make timely payments can subject the client to audit, interest and penalties. In addition to working with in-house and outside tax counsel, to ensure timely filing and payments, the SFO will need to stay ahead of tax law changes and new filing requirements.

Estate Planning

Most SFOs play an important role in helping families put in place effective tax planning, and ensuring the plan is properly implemented. As with accounting and tax reporting, the prevalence of complex investment and wealth holding structures can lead to highly complex estate planning structures. The SFO will generally be responsible for coordinating with counsel on the development of estate- and gift-planning strategies and updating the plan as circumstances and assets change. SFO clients often include one or more multigenerational trusts created by prior generation family members, and the SFO is typically responsible for handling much of the administrative work for existing and new trusts, including maintaining accurate books and records, producing detailed accounts, and handling tax reporting and compliance. If the trustee of the trusts is a Private Trust Company (PTC), the SFO will typically manage administrative and investment functions for the PTC.

Investment Risk

In addition to direct investments in equities, fixed income and other securities, SFOs typically invest a substantial portion of the family’s wealth in mutual funds, hedge funds and private equity funds, in an effort to diversify the portfolio and boost alpha-related returns. Fund investments deserve careful due diligence before capital is committed and regular oversight reviews for as long as the investment is in place. Investing in funds can bring a variety of risks that need to be monitored by the SFO and its advisory team:

1. Funds may exhibit “style creep” as managers venture into new markets to enhance returns.
2. Successful funds may become too large to function optimally in a given market, hurting returns.
3. Funds can be a way to diversify a SFO portfolio or provide expertise in a specific area of interest. However, this diversification benefit can backfire when multiple fund managers are investing in the same security or sector. It can be difficult to monitor such concentrations due to lack of transparency at the fund level.
4. Offshore funds may offer even less transparency than U.S. funds, and may create expensive tax reporting obligations.
5. Particularly in times of extreme market volatility, redemption limitations or “gates” can impair the SFO’s ability to generate liquidity.
6. The potential for fraud exists in any investment. Fund structures provide a level of opacity that makes them particularly susceptible. As a number of well know frauds have illustrated, regulatory oversight of funds is extremely limited.

Asset Protection and Reputation Management

A major creditor claim – whether from a divorcing spouse, an injury occurring on family property, or consequences of a car accident – can be a significant threat to a wealthy family. How a given asset is titled, held and insured can be critical to managing such threats successfully. The SFO generally will be responsible for managing asset protection strategies and for implementing multiple strategies (such as limited liability holding structures, insurance, indemnification agreements) where circumstances warrant a layered approach. SFOs for celebrities and prominent families should develop detailed risk-management plans that lay out procedures for family and staff to follow in the event of an incident or emergency. Such plans are particularly important for families that travel abroad frequently or maintain a high public profile. With the rising use social networking sites by family members, many SFOs are also developing reputation-management protocols to reduce the risk of identity theft, kidnapping, extortion or harassment of family members.

Background Checking & Monitoring

One of the biggest risks to a wealthy family is a theft or other crime perpetrated by a member of the family’s inner circle of staff, advisors and service providers. Most SFOs undertake detailed background checks of potential hires, and many do extensive vetting of advisors and service providers as well. Appropriate monitoring of the SFOs staff and external advisors should be an ongoing activity, not simply a one time event at the time of hire.

SFO Personell

The people that comprise the team who oversee and manage the SFO will be the most critical factor in the ultimate success of the family office. While staff can be hired and fired, having a stable and high functioning team is desirable, if not essential. There’s an old adage in the family office world that an SFO is either the best place in the world or the worst place in the world to work, and it all depends on the family and how they treat the people that work for them. If you want great talent, who will stay with you over the long term, you should expect to treat them well and pay them competitively. There may be a trade-off, in terms of a better life style at a family office versus corporate America and Wall Street, but great talent will only stay if they are treated well and compensated fairly.

Given the importance of talent, the family should strongly consider interviewing and selectively working with one or multiple recruitment professionals that have experience with staffing senior SFO positions. With any position, there needs to be a clearly defined mandate and job description, a process for hiring and a due diligence investigation conducted for all potential hires. An employee handbook outlining protocols and procedures drafted by an employment attorney is recommended. In addition, the attorney needs to draft non-disclosure and privacy documents for all interviewees and further documentation, including employment agreements, for all hires.

The family office should also engage a compensation, specialist experienced in SFOs, to assist in designing a compensation and benefits plan to attract, retain and motivate the most qualified candidates. A compensation specialist can design a compensation package that includes short and long-term incentive bonuses, carried interest opportunities, co-investment opportunities, qualified retirement plan offerings, insurance, and deferred compensation (409A) / phantom stock “golden handcuff” strategies. The right mix aligns interests, encourages long-term employment and productive relationships.

It is recommended to hire carefully and prudently to ensure the right personnel. Many families hire only the employees that are absolutely required initially, while outsourcing other functions. Over time, additional employees are hired to replace outsourced services in a phased approach. It is common for the first hire at a newly formed SFO to be a trusted relationship who has worked for many years with the family. Typically, this will be the Controller in the family business, who can manage the accounts and execute administrative tasks, or the external CPA or Tax advisor, who’s familiar with the family dynamics, assets and planning. While expedient in the short term, this can lead to problems later in the life of the SFO when more senior and experienced talent, with a broader set of skills, is needed to manage complexity of a larger team. Any high quality CEO or President will want to know the team they have working for them is both loyal and capable. Where possible, it is better to hire the most senior position first and allow them to have some input into the hiring process as the SFO team is built out.

The most common SFO positions are outlined below:

Chief Executive Officer (CEO)

The Chief Executive Officer (CEO) should be a highly experienced professional, with a broad set of skills and experience, who can lead the SFO. Trustworthiness, leadership, communication and the unwavering ability to execute the family plan are essential. This is a role for an “Expert Generalist”. Using a sports analogy, the CEO is the “quarterback” who needs to maximize and coordinate the efforts of all the “players”.

There is no set formula and the SFO and its personnel must be customized per a family’s needs. Usually, the CEO is an experienced business professional with a broad knowledge in finance, accounting, technology, and other technical areas; however, the CEO does not have to be a true expert in every technical aspect of the SFO. There are times when a very strong financial, accounting or legal background is preferable to business and leadership savvy. The right CEO for an SFO that runs multiple operating businesses will likely not be the right CEO for an SFO that invests primarily in public markets.

The CEO needs to carry out the mission and coordinate effectively all aspects of the SFO in a synchronized effort in fulfilling the family’s mission and vision. The CEO needs to be engaged in all aspects of the SFO yet understand the importance of delegating (with oversight and accountability). The CEO needs to communicate on an on-going basis with the family and focus on the SFO’s mission. This position answers directly to the family leaders and SFO board/committee. For a CEO to be effective, he or she must have the ability to engage multiple family members and generations. Education and motivation of the younger generation will critical to the long-term success of the family and the SFO. An understanding of family dynamics and the ability to facilitate critical family discussions effectively is important.

There is a very broad range when it comes to SFO CEO compensation. Based on limited market data and anecdotal research, the CEO in a small SFO commands $300,000 – $600,000 and in a larger SFO (or small SFOs with more dynamic requirements and/or family members that see the value in a great aspirational candidate regardless of cost) can cost anywhere from $500,000 – $3,000,000, inclusive of base salary, short-long term incentive bonuses, deferred compensation and, possibly, co-investing opportunities. SFOs are competing with global institutions and must have compensation plans that attract, retain and motivate the best talent.

Chief Investment Officer (CIO)

After the CIO, the next most senior position in an SFO is usually the Chief Investment Officer (CIO). Broadly this role falls into two camps: direct investors, and allocators to managers.

Although less common than allocators, many larger families and entrepreneurial families see the value in being direct investors. This commonly means hiring a CIO with significant direct investment expertise. There are many advantages to being a direct investor, such as controlling the investment cash flows, reducing investment-related expenses, and timing exits to ensure favorable capitals gains tax treatment. For SFOs that seek to be direct investors, the CIO needs a strong grounding in direct deals and a great network for unique deal sourcing.

More commonly, SFOs are allocators. In this scenario the CIO needs to be first and foremost excellent at planning, organizing, sourcing (money managers and business opportunities), due diligence, monitoring, validating and reporting on all investment activities. The CIO of an allocator SFO needs to source best-in-class money managers who carry out the actual investing of a particular allocation, such as cash management, bonds, equities, real estate and commodities. In addition to (or instead of) traditional long-only managers, alternatives managers may be selected for a given allocation to add shorting, leverage and derivative strategies. Some allocator SFOs provide deferred compensation in the form of incentive allocations, though such incentives are less common than for direct investor SFOs.

Direct investor CIO base salaries can range from $250,000 to $500,000. However, factoring in annual cash bonus and deferred compensation from incentive allocations in deals sourced by the CIO can bring total compensation for a top direct investor CIO to several million dollars or more. Purely Allocator CIO base salaries also range from $250,000 – $500,000 with bonuses ranging from $200,000 to $600,000. Both CIO types are often presented with the opportunity to co-invest alongside the family as part of a deferred compensation plan. Many SFOs require the CIO to co-invest, seeking full commitment into the investment and aligned interest.

Both the direct investor and allocator models will generally require the SFO to hire junior analyst(s) to source and evaluate opportunities. Total costs can vary and include some of the same structure of salary, bonus, deferred compensation and co-investment opportunity as in the CIO position. Salary levels + bonus typically total between $150,000 – $300,000 per analyst.

Chief Financial Officer (CFO)

For families with substantial business interests and/or significant personal, trust and partnership accounting requirements, the CFO is an essential addition to the SFO. Traditionally, the candidate would have a strong combination of business and personal accounting background, preferably from the Big Four, as well as CFO experience in a successful private company.

The CFO position within an SFO differs from a traditional CFO position in other companies in that this position is also responsible for the personal tax issues and returns of the family members (including family trusts and partnerships). The CFO should be experienced in complex multi-generational estate planning and needs to coordinate efforts with family legal council (whether in-house or outsourced). In certain areas of extreme tax specialty on these issues, the CFO will outsource to appropriate accounting council and coordinate efforts. The CFO will also need to coordinate with the CIO on tax strategies for the family involving their investment portfolio. SFOs created by financial figures frequently prefer CFO type “CEOs” so that the investing aspect remains the domain of the family principal; in such cases cash flow, business management / accounting, personal accounting, partnership and LLP interest as well as estate planning are paramount talents for this position.

A well run SFO will need frequent access to updated cash flow reports, family income and expense statements, as well as financial statements (i.e. P&L and balance sheet). The CFO needs to perform this function and maximize utilization of the applicable infrastructure and technology systems at their disposal in preparing documents and reporting. If there is no CFO, then the CEO may take on this function directly or manage and compile the data from internal sources (CIO, bookkeeper, accountant, etc.) or outsourced providers. Although sometimes sourced to bookkeeping and/or an executive assistant, the CFO may also handle bill paying for the SFO as well as the family. Lastly, the CFO will commonly assist in evaluating business and real estate opportunities for the family, managing lines of credit, business and family loans, as well as cash distributions to family members.

CFO base salary frequently ranges from $175,000 – $250,000. Salary, combined with short-long term bonuses, deferred compensation and (although less common) may include co-investing opportunities, combined compensation frequently will range between $300,000 – $550,000.

Chief Legal Officer (CLO)

Families with highly complex and/or multiple business interests can benefit greatly from hiring an in-house legal professional. The Chief Legal Officer (CLO) can evaluate business, real estate and complex investment opportunities from a different perspective than the other senior executives of the SFO and can negotiate business transactions and perform closings. The CLO may be hired for both business and personal needs, or have a focus on the personal family needs, organizing and monitoring family trusts and partnerships, as well as trust & estates issues. Families of significant wealth often need multiple specialized experts in business, patents, litigation, marriage law/pre-nuptials, trust & estates, etc. A well-diversified and connected CLO can manage these areas through internal staff and outsourced relationships and coordinate all efforts. CLO base salaries frequently range from $175,000 – $250,000. Salary, combined with short-long term bonuses, deferred compensation and (although less common) may include co-investing opportunities, combined compensation frequently will vary between $300,000 – $550,000.

Director of Philanthropy

Most commonly, the family’s philanthropic initiatives are directed through a separate entity, such as a family foundation(s), as opposed to directed by the family SFO. However, some families do elect to create a Director of Philanthropy position.

Most families of significant wealth desire to improve their ability to identify and verify philanthropic opportunities for causes that are in alignment with their family values, investment focus, and personal passions. More often, the decision is based on passion and engagement, and less so by financial motivations. It is recommended to create separate entities for the SFO and the family foundation(s). Until a family’s philanthropic mission and giving level is sufficiently expansive to warrant hiring a full-time director, typically an engaged family member assumes the responsibility for the role. The family member or director selected to undertake this endeavor needs to understand how philanthropic endeavors fit within the family mission statement and business plan. Focusing active family members and engaging younger generations in their passions is critical to this role. Philanthropic giving goes deeper than tax benefits and helps to teach the younger family members about compassion, giving and choices.

The Director of Philanthropy, along with a specific philanthropic advisory committee, sources and vets philanthropic opportunities aligned with the family mission statement and business plan. If the family seeks outside contributions, fundraising experience is preferred, with both traditional and online expertise. Executive management experience at a foundation or other charitable experience would be recommended. How the family should donate money to various organizations involves legal and tax implications. This is best left to experienced in-house or outsourced legal and tax professionals. Family foundations, charitable remainder trusts, and charitable lead trusts are all viable options. The Director of Philanthropy should assist in managing the process and distributions to charity (no matter the vehicle), as well as following through to gauge and measure the results. If going outside the family to fill the position, salary can range from $150,000 – $200,000.

Director of Information Technology

Large SFOs frequently hire a Director of Information Technology (IT). This position is vastly underrated and should be considered in all SFOs. This position advises and coordinates the technical infrastructure of the SFO. Many SFOs have critical computer needs and highly specialized software requirements that all need to be supported and upgraded on an ongoing basis. This position should positively impact family connectivity and communications as well as costs and control of the SFO. This position can range from $150,000 – $200,000, depending on the complexity of the technology infrastructure required.

Family Office Manager

The Family Office Manager is a unifying position that focuses on the SFO running as efficiently and effectively as possible. This position can involve HR functions (managing directly or in coordination with an outsourced firm). The Family Office Manager frequently is the conduit for the family and in-house staff and assists with coordinating outsourced professionals. The Family Office Manager is commonly less defined by a traditional role than other positions. The position requires a person of diverse talents who learns quickly, is highly organized, and initiates solutions. In smaller SFOs, the Office Manager will coordinate business and personal services for the family, in conjunction with the executive assistant. This position can range from $150,000 – $200,000.

Executive Assistant

Families can have one or multiple executive assistants depending on the size and number of employees of an SFO. Frequently, there is an executive assistant to the key family leader(s) and another executive assistant assigned to key SFO personnel. The responsibilities of this position, particularly at the personal level, can vary widely. An executive assistant may act as the primary person coordinating household management and personal household staffing needs. They may manage multiple personal matters such as medical information, insurance, family vehicles, child care, and collectibles. They may be the primary conduit to the family leader for personal appointments, calendar management and children’s needs. Personal service and impeccable organizational skills are the hallmarks of this qualified professional. Being infallible under pressure and proactive in the identifying and meeting needs of the family or key SFO personnel. The executive assistant is excellent at communication (written and verbal) and proficient in technology. This position can range from $100,000 – $150,000.

Bookkeeper

This position often supports the CFO, or in smaller SFOs without a CFO, may take on additional responsibilities. Managing payroll (or coordinating with an outsourced firm), handling receivables, paying business and personal family bills, coordinating medical and insurance claims, processing and coordinating mail (this may also be handled by an executive assistant) are just some of the traditional responsibilities of this position. This position can range from $100,000 – $150,000.

Family Security Director

Many families are concerned about security and see a need to hire a Security Director to manage and mitigate family residence, business, cyber and outside activity risks. If not a direct employee of the SFO, the security director can be an outsourced specialist. The Family Security Director is responsible for the security measures within the SFO, including offices, technology security and family safety. This position can range from $150,000 – $200,000.

SFO ADVISORS

Most SFOs draw on the expertise of a variety of outside advisors, including lawyers, accountants, bankers, insurance providers, investment advisors, philanthropic consultants and information technology specialists, among others. Seeking advice when needed, contracting for services, and coordinating the efforts of these specialists is a major responsibility of the SFO.

A well-run SFO will have a clear process for selecting and vetting advisors. While many members of the SFO team will have experience working with various service providers, it is important for the team to have clear procedures for selecting advisors to avoid conflicts of interest or playing favorites. Many SFOs establish budgets for advisor-related expenditures on an annual or more frequent basis, thereby prioritizing needs and giving SFO staff clear parameters for defining the scope of each project with advisory team members. Performance of existing advisors should be reviewed frequently to ensure the services they provide are of high quality and appropriate to the problems the SFO faces. Important questions to ask on a regular basis include:

1. Is family privacy and confidentiality respected?
2. Are fees appropriate to the work accomplished?
3. Are the advisor’s services relevant, comprehensive and delivered on a timely basis?
4. Does the advisor alert SFO staff to newly arising or unexpected issues or opportunities?
5. Does the advisor coordinate with other service providers working on the same issues?

While many SFOs seek to develop in-house expertise in certain areas, many SFO activities can be outsourced, which may offer the family greater access to expertise at lower cost. An extreme example of this trend is the virtual SFO, an entity without an office or even dedicated staff of its own; rather, SFO services are provided by a group of advisors on a contract basis, quarterbacked by one of those advisors. The advantages of having an in-house, dedicated team to manage the SFO are clear:

1. The team’s focus will be undivided; its skills will be matched to the needs and requirements of the family, and the SFO’s specific assets rather than those of each team member’s own general client base;
2. The family’s privacy and confidentiality will be maintained, and the expertise will be on-call and available whenever needed. Highly confidential and mission-critical services should be the first priority when determining which activities will be handled in-house.
3. Generally speaking, in-house professionals will tend to be more focused on and responsive to the family’s needs, and their work will be under the sole control of the family.

Having said that, the advantages of outsourcing SFO services are also significant:

1. Lower cost, exposure to a broader range of advice and the perspective and experience gained from serving multiple similarly situated families;
2. Economies of scale and access to higher-level expertise, particularly in areas where the SFO’s investments or needs don’t justify the expense of a full-time individual or bespoke service.
3. Highly complex services requiring substantial capital investment and delivered in rapidly changing environments and circumstances should be the first priority when determining which activities will be outsourced.
4. Generally speaking, outsourced service providers tend to have better access to a wider range of information, and are subject to the discipline and best practices of the wider marketplace.

ADAPTING TO CHANGE

As families grow and circumstances change, the SFO will also need to change and adapt. Anecdotal evidence suggests the ratio between the assets managed and the number of family members served is an important predictor for the long-term success of an SFO. The larger the value of the assets, and the smaller the number of clients, the more efficient and cost-effective the SFO will be. This is not to say that there aren’t successful family offices for very large clans, but as the number of family members grows, SFOs must strengthen management and governance and manage service creep to remain viable. It can be particularly difficult for a SFO serving a large family to remain cost-effective when family members have widely varying personal assets and net worth. In such circumstances, unless a single family member is willing to bear the expense for the entire office on behalf of the rest of the family, spreading the cost of the SFO’s services through pricing mechanisms can be extremely difficult and, if not done fairly, and with full transparency, can generate conflict and dissension.

Strategies that SFOs have employed to deal with changing circumstances include:

1. Dissolving, to permit clients to create their own, smaller SFOs or join a multi family office (MFO).
2. Reducing the number of clients served (“pruning the tree”) to permit focus on a subset of clients with common needs.
3. Narrowing the services provided by the SFO (for example, focusing only on investments and requiring family members to contract outside the SFO for accounting, tax reporting, bill paying etc.).
4. Bringing in outside clients, thereby becoming an MFO.

Families who opt to dissolve their SFOs, or significantly reduce the number of clients, should prepare for a time-consuming process. Closing an SFO or redeeming a client out of interlocking and complex investment holding structures is a multi-step process, even if every investment is liquid and notice periods are short. When the investments include hedge funds with long notice periods and gates, extensive commitments to private equity funds, natural resources, and real estate, generating the necessary liquidity can take years. For redemptions of SFO investments, as with redemptions of interests in any privately held, illiquid entity, the challenge will lie in valuing and redeeming the client’s interests in the SFO’s funds. Such interests will be subject to discounts from capital account value – often quite substantial discounts – and the process of determining redemption value can be a flashpoint for conflict among family members. The redemption process will be most successful when the process for requesting redemptions and determining redemption values is set forth in writing and agreed to by all the clients of the SFO at the outset.

Recognizing that family members will periodically need access to liquidity, and that unplanned-for redemptions and dissolutions can be extremely difficult and time-consuming to navigate, many SFOs have created family banks. A family bank offers SFO clients the opportunity to borrow against their interests in SFO investments or to take partial redemptions. Family banks have several advantages: they provide clients with access to liquidity at affordable rates and reduce clients’ need or desire for redemptions. They also make liquidity available to all clients on the same terms, unlike handling requests for liquidity on an ad hoc basis, with certain family members potentially getting preferential treatment.

Conclusions

For families with substantial financial resources, an SFO provides the ultimate in control, privacy and customization for optimizing the family’s wealth, legacy and resources. The prevalence of conflict-ridden investment advice from third party service providers make it imperative for high net worth families to consider creating an SFO to control the family’s destiny and build upon a legacy of sustainability. The SFO should be viewed as a way for the family to build a talented, skilled and experienced team to manage its wealth in all its forms.

An effective SFO is a highly valuable asset that preserves and creates wealth for the family. As with any business, it requires a clear mission, a fully thought-through business plan and an understanding of the resources available internally and on an outsourced basis in the SFO marketplace. The ability to create a custom SFO has never been easier. An entire eco-system of SFO organizations and consultants has developed to service families of wealth in establishing and running their SFO. New technology, selective outsourcing, and a vast pool of talented individuals is available in the marketplace to create and run an SFO more efficiently and effectively than ever before.

Generations from now, after business interests have been liquidated and/or greatly dispersed and individual investments have been eclipsed, the SFO stands as the family’s unifying entity, signaling a healthy and productive path for those that follow. The family SFO embodies the legacy of the values established and nurtured by the family for the world to see and for generations to come.

 

About the Author

Marc J. Sharpe is the founder and chairman of The Texas Family Office Association, an organization formed in 2007 to provide a forum for education and networking and to serve as a resource for single family office principals and professionals to share ideas and best practices, pool buying power, leverage talent and conduct due diligence. Mr. Sharpe’s career in the investment and asset management industry spans more than 25 years. He has held positions in investment banking for Goldman Sachs Group Inc., and Wasserstein Perella & Co. Inc., in addition to founding a venture capital incubator in the UK and working on strategic initiatives for Dell Inc. He subsequently took a position as portfolio manager and research director for a full-service family office serving a select group of ultra-high net worth families. After successfully navigating through the 2008 market crash with a positive net return, Mr. Sharpe joined an international private equity firm specializing in control investments with assets valued at $1 billion. He was also a managing director for a boutique investment advisory firm providing alternative asset strategies to ultra-high net worth families and registered investment advisors. Marc is also the founder of IVY EB-5, responsible for building strategic partnerships and investment opportunities throughout the world. Marc holds an M.A. from Cambridge University, a M.Sc. from Oxford University and an MBA from Harvard Business School. Mr. Sharpe is active in the Houston community and serves on the Board of the Holocaust Museum Houston, the HBS Houston Angels, and sits on the Investment Committee for two Houston based foundations.

 

References

Raphael Amit, Wharton School, University of Pennsylvania; Wharton Global Family Alliance: Single Family Offices: Private Wealth Management in the Family Context 2018.

Bernd Scherer, The Journal of Wealth Management Spring 2018, 20 (4) 29-32.

Bloomberg, The future of Family Offices 2017

Rishi Yadav, CapGemini Wealth Management 2012:The Global State of Family Offices

Ang, Andrew, National Bureau of Economic Research, Asset owners and delegated managers, 2012

Chen, Joseph, Hong, Harrison and Kubik, Joseph D., Outsourcing mutual fund management, 2010

Credit Suisse and Thunderbird School of Global Management, Family Governance White Paper: How Leading Families Manage the Challenges of Wealth, 2012

Credit Suisse and University of St. Gallen, Entrepreneurial Families White Paper, 2012

Credit Suisse Research Institute, Family Business Survey, Credit Suisse, 2012

Daniell, M. H., and Hamilton, S. S., Family legacy and leadership: Preserving true family wealth in challenging times. Singapore: John Wiley & Sons (Asia) Pte. Ltd., 2010

Family Office Exchange, Managing Family Capital generated by the Family Business, 2014

Family Office Exchange, A Look Inside the Small Family Office, 2010

Family Office Exchange, Building a Family Enterprise Plan to Deal with Future Uncertainty, 2012

Family Office Exchange, Protecting the Future: Managing Family Wealth Separately From the Family Business, 2008

Family Office Exchange, Recasting the Central Role of the Family Office as Risk Manager: The New Imperative as Family Risk Manager, 2006

Family Office Exchange, Rethinking Investment Management, Anticipated Changes to Investment Risk Management Practices in a New Era of Due Diligence, 2009

Family Office Exchange, Securing the Future: Managing Threats and Opportunities Through Effective Risk Planning, 2009

Frazzini, Andrea and Pedersen, Lasse Heje, Betting against beta, NYU Stern School of Business, 2010

Knight Frank, The Wealth Report, 2015

GenSpring Family Offices, Sustaining the Family Enterprise, 2012

Leleux, Benoit and Schwass, Joachim, IMD, Family offices and risk investments, 2006

Professional Wealth Management, Growing the family business, March 2012

Robles, Angelo J., Founder & CEO, Family Office Association, Creating an SFO for Wealth Creation and Family Legacy Sustainability, Family Office Association, 2009

Rosplock, K., The complete family office handbook: A guide for affluent families and the advisers who serve them, John Wiley & Sons, 2014

Sieger, P. and Zellweger, T., Entrepreneurial families: From a family enterprise to an entrepreneurial family, Credit Suisse AG, 2013

UBS, Campden Wealth, Growing Toward Maturity: Family Offices in Asia-Pacific Come of Age, UBS and Campden Wealth Asian Family Office Survey 2012

UBS, Campden Wealth, Back to business — Family Offices adapt to the new normal, UBS and Campden Wealth European Family Office Survey 2012

UBS, Campden Wealth, The Global Family Office Report 2014

VP Group, University of St. Gallen, Family Offices in Asia — The Evolution of the Asian Family Office Market, 2008

Wharton Global Family Alliance, Single family offices: private wealth management in the family context, 2007

Wharton Global Family Alliance, Benchmarking the SFO, 2009

World Economic Forum, Future of long-term investing, 2011

World Economic Forum, Impact Investing: A Primer for Family Offices, 2014

Zellweger, T., and Kammerlander, N., Family, wealth, and governance: an agency account, Entrepreneurship Theory and Practice, 2015

 

Disclaimer

The Family Office Association (TFOA) is an affinity group dedicated primarily to the interests of Single Family Offices. TFOA is intended to provide members with educational information and a forum in which to exchange information of mutual interest. TFOA does not participate in the offer, sale or distribution of any securities nor does it provide investment advice. Further, TFOA does not provide tax, legal or financial advice.

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Marc J. Sharpe

The people that comprise the team who oversee and manage the SFO will be the most critical factor in the ultimate success of the family office. While staff can be hired and fired, having a stable and high functioning team is desirable, if not essential.  There’s an old adage in the family office world that “an SFO is either the best place in the world or the worst place in the world to work, and it all depends on the family and how they treat the people that work for them”. If you want great talent, who will stay with you over the long term, you should expect to treat them well and pay them competitively. There may be a trade-off, in terms of a better lifestyle at a family office versus corporate America and Wall Street, but great talent will only stay if they are treated well and compensated fairly.

Given the importance of talent, the family should strongly consider interviewing and selectively working with one or multiple recruitment professionals that have experience with staffing senior SFO positions.  With any position, there needs to be a clearly defined mandate and job description, a process for hiring and a due diligence investigation conducted for all potential hires. An employee handbook outlining protocols and procedures drafted by an employment attorney is recommended in addition, the attorney needs to draft non-disclosure and privacy documents for all interviewees and further documentation, including employment agreements, for all hires.

The family office should also engage a compensation, specialist experienced in SFOs, to assist in de­signing a compensation and benefits plan to attract, retain and motivate the most qualified candidates. A compensation specialist can design a compensation package that includes short and long-term incentive bonuses, carried interest opportunities, co-investment opportunities, qualified retirement plan offerings, insurance, and deferred compensation (409A) / phantom stock ‘golden handcuff’ strategies.   The right mix aligns interests, encourages long-term employment and productive relationships.

It is recommended to hire carefully and prudently to ensure the right personnel. Many families hire only the employees that are absolutely required initially, while outsourcing other functions.

Over time, additional employees are hired to replace outsourced services in a phased approach. It is common for the first hire at a newly formed SFO to be a trusted relationship who has worked for many years with the family. Typically, this will be the Controller in the family business, who can manage the accounts and execute administrative tasks, or the external CPA or Tax advisor, who’s familiar with the family dynamics, assets, and planning. While expedient in the short term, this can lead to problems later in the life of the SFO when more senior and experienced talent, with a broader set of skills, is needed to manage complexity of a larger team. Any high-quality CEO or President will want to know the team they have working for them is both loyal and capable. Where possible, it is better to hire the most senior position first and allow them to have some input into the hiring process as the SFO team is built out.

The most common SFO positions are outlined below:

Chief Executive Officer (CEO)

The Chief Executive Officer (CEO) should be a highly experienced professional, with a broad set of skills and experience, who can lead the SFO. Trustworthiness, leadership, communication, and the unwavering ability to execute the family plan are essential.  This is a role for an ‘Expert Generalist’. Using a sports analogy, the CEO is the ‘quarterback’ who needs to maximize and coordinate the efforts of all the ‘players’.

There is no set formula and the SFO and its personnel must be customized per a family’s needs. Usually, the CEO is an experienced business professional with a broad knowledge in finance, accounting, technology, and other technical areas; however, the CEO does not have to be a true expert in every technical aspect of the SFO. There are times when a very strong financial, accounting, or legal background is preferable to business and leadership savvy. The right CEO for an SFO that runs multiple operating businesses will likely not be the right CEO for an SFO that runs multiple operating businesses will likely not be the right CEO for an SFO that invests primarily in public markets.

The CEO needs to carry out the mission and effectively coordinate all aspects of the SFO in a synchronized effort in fulfilling the family’s mission and vision. The CEO needs to be engaged in all aspects of the SFO yet understand the importance of delegating (with oversight and accountability). The CEO needs to communicate on an on-going basis with the family and focus on the SFO’s mission.  This position answers directly to the family leaders and SFO board/committee. For a CEO to be effective, he or she must have the ability to engage multiple family members and generations. Education and motivation of the younger generation will be critical to the long-term success of the family and the SFO. An understanding of family dynamics and the ability to facilitate critical family discussions effectively is important.

There is a very broad range when it comes to SFO CEO compensation. Based on limited market data and anecdotal research, the CEO in a small SFO commands $300,000 – $600,000 and in a larger SFO (or small SFOs with more dynamic requirements and/or family members that see the value in a great aspirational candidate regardless of cost) can cost anywhere from $500,000 – $3,000,000, inclusive of base salary, short-long term incentive bonuses, deferred compensation and, possibly, co-investing opportunities. SFOs are competing with global institutions and must have compensation plans that attract, retain, and motivate the best talent.

Chief Investment Officer (CIO)

After the CEO, the next most senior position in an SFO is usually the Chief Investment Officer (CIO).  Broadly this role falls into two camps: direct investors, and allocators to managers.

Although less common than allocators, many larger families and entrepreneurial families see the value in being direct investors.  This commonly means hiring a CIO with significant direct investment expertise. There are many advantages to being a direct investor, such as controlling the investment cash flows, reducing investment-related expenses, and timing exits to ensure favorable capitals gains tax treatment. For SFOs that seek to be direct investors, the CIO needs a strong grounding in direct deals and a great network for unique deal sourcing.

More commonly, SFOs are allocators. In this scenario the CIO needs to be first and foremost excellent   at planning, organizing, sourcing (money managers and business opportunities), due diligence, monitoring, validating, and reporting on all investment activities. The CIO of an allocator SFO needs to source best-in-class money managers who carry out the actual investing of a particular allocation, such as cash management, bonds, equities, real estate, and commodities. In addition to (or instead of) traditional long-only managers, alternatives managers may be selected for a given allocation to add shorting, leverage, and derivative strategies. Some allocator SFOs provide deferred compensation in the form of incentive allocations, though such incentives are less common than for direct investor SFOs.

Direct investor CIO base salaries can range from $250,000 – $500,000. However, factoring in annual cash bonus and deferred compensation from incentive allocations in deals sourced by the CIO can bring total compensation for a top direct investor CIO to several million dollars or more. Purely Allocator CIO base salaries also range from $250,000 – $500,000 with bonuses ranging from $200,000 – $600,000. Both CIO types are often presented with the opportunity to co-invest alongside the family as part of a deferred compensation plan.  Many SFOs require the CIO to co-invest, seeking full commitment into the investment and aligned interest.

Both the direct investor and allocator models will generally require the SFO to hire junior analyst(s) to source and evaluate opportunities. Total costs can vary and include some of the same structure of salary, bonus, deferred compensation, and co­-investment opportunity as in the CIO position. Salary levels + bonus typically total between $150,000 – $300,000 per analyst.

Chief Financial Officer (CFO)

For families with substantial business interests and/or significant personal, trust and partnership accounting requirements, the CFO is an essential addition to the SFO. Traditionally, the candidate would have a strong combination of business and personal accounting background, preferably from the Big Four, as well as CFO experience in a successful private company.

The CFO position within an SFO differs from a traditional CFO position in other companies in that this position is also responsible for the personal tax issues and returns of the family members (including family trusts and partnerships). The CFO should be experienced in complex multi-generational estate planning and needs to coordinate efforts with family legal counsel (whether in-house or outsourced). In certain areas of extreme tax specialty on these issues, the CFO will outsource to appropriate accounting council and coordinate efforts. The CFO will also need to coordinate with the CIO on tax strategies for the family involving their investment portfolio. SFOs created by financial figures frequently prefer CFO type ‘CEOs’ so that the investing aspect remains the domain of the family principal; in such cases cash flow, business management / accounting, personal accounting, partnership, and LLP interest as well as estate planning are paramount talents for this position.

A well run SFO will need frequent access to updated cash flow reports, family income and expense statements, as well as financial statements (i.e. P&L and balance sheet). The CFO needs to perform this function and maximize utilization of the applicable infrastructure and technology systems at their disposal in preparing documents and reporting. If there is no CFO, then the CEO may take on this function directly or manage and compile the data from internal sources (CIO, bookkeeper, accountant, etc.) or outsourced providers. Although sometimes sourced to bookkeeping and/or an executive assistant, the CFO may also handle bill paying for the SFO as well as the family. Lastly, the CFO will commonly assist in evaluating business and real estate opportunities for the family, managing lines of credit, business, and family loans, as well as cash distributions to family members.

CFO base salary frequently ranges from $175,000 – $250,000. Salary, combined with short-long term bonuses, deferred compensation and (although less common) may include co-investing opportunities, combined compensation frequently will range between $300,000 – $550,000.

Chief Legal Officer (CLO)

Families with highly complex and/or multiple business interests can benefit greatly from hiring an in-house legal professional. The Chief Legal Officer (CLO) can evaluate business, real estate, and complex investment opportunities from a different perspective than the other senior executives of the SFO and can negotiate business transactions and perform closings.   The CLO may be hired for both business and   personal needs, or have a focus on the personal family needs, organizing and monitoring family trusts and   partnerships, as well as trust & estates issues. Families of significant wealth often need multiple specialized experts in business, patents, litigation, marriage law/pre-nuptials, trust & estates, etc.  A well-diversified and connected CLO can manage these areas through internal staff and outsourced relationships and coordinate all efforts. CLO base salaries frequently range from $175,000 – $250,000. Salary, combined with short-long term bonuses, deferred compensation and (although less common) may include co-investing opportunities, combined compensation frequently will vary between $300,000 – $550,000.

Director of Philanthropy

Most commonly, the family’s philanthropic initiatives are directed through a separate entity, such as a family foundation(s), as opposed to directed by the family SFO. However, some families do elect to create a Director of Philanthropy position.

Most families of significant wealth desire to improve their ability to identify and verify philanthropic opportunities for causes that are in alignment with their family values, investment focus, and personal passions. More often, the decision is based on passion and engagement, and less so by financial motivations.  It is recommended to create separate entities for the SFO and the family foundation(s).  Until a family’s philanthropic mission and giving level is sufficiently expansive to warrant hiring a full-time director, typically an engaged family member assumes the responsibility for the role. The family member or director selected to undertake this endeavor needs to understand how philanthropic endeavors fit within the family mission statement and business plan.  Focusing active family members and engaging younger generations in their passions is critical to this role. Philanthropic giving goes deeper than tax benefits and helps to teach the younger family members about compassion, giving and choices.

The Director of Philanthropy, along with a specific philanthropic advisory committee, sources and vets philanthropic opportunities aligned with the family mission statement and business plan.  If the family seeks outside contributions, fundraising experience is preferred, with both traditional and online expertise. Executive management experience at a foundation or other charitable experience would be recommended. How the family should donate money to various organizations involves legal and tax implications. This is best left to experienced in-house or outsourced legal and tax professionals. Family foundations, charitable remainder trusts, and charitable lead trusts are all viable options.  The Director of Philanthropy should assist in managing the process and distributions to charity (no matter the vehicle), as well as following through to gauge and measure the results.  If going outside the family to fill the position,

salary can range from $150,000 – $200,000.

Director of Information Technology

Large SFOs frequently hire a Director of Information Technology (IT). This position is vastly underrated and should be considered in all SFOs. This position advises and coordinates the technical infrastructure of the SFO. Many SFOs have critical computer needs and highly specialized software requirements that all need to be supported and upgraded on an ongoing basis. This position should positively impact family connectivity and communications as well as costs and control of the SFO. This position can range from $150,000 – $200,000, depending on the complexity of the technology infrastructure required.

Family Office Manager

The Family Office Manager is a unifying position that focuses on the SFO running as efficiently and effectively as possible. This position can involve HR functions (managing directly or in coordination with an outsourced firm). The Family Office Manager frequently is the conduit for the family and in-house staff and assists with coordinating outsourced professionals. The Family Office Manager is commonly less defined by a traditional role than other positions. The position requires a person of diverse talents who learns quickly, is highly organized, and initiates solutions.  In smaller SFOs, the Office Manager will coordinate business and personal services for the family, in conjunction with the executive assistant. This position can range from $150,000 – $200,000.

Executive Assistant

Families can have one or multiple executive assistants depending on the size and number of employees of an SFO. Frequently, there is an executive assistant to the key family leader(s) and another executive assistant assigned to key SFO personnel. The responsibilities of this position, particularly at the personal level, can vary widely.  An executive assistant may act as the primary person coordinating household management and personal household staffing needs.  They may manage multiple personal matters such as medical information, insurance, family vehicles, childcare, and collectibles. They may be the primary conduit to the family leader for personal appointments, calendar management and children’s needs.

Personal service and impeccable organizational skills are the hallmarks of this qualified professional. Being infallible under pressure and proactive in the identifying and meeting needs of the family or key SFO personnel. The executive assistant is excellent at communication (written and verbal) and proficient in technology. This position can range from $100,000 – $150,000.

Bookkeeper

This position often supports the CFO, or in smaller SFOs without a CFO, may take on additional responsibilities. Managing payroll (or coordinating with an outsourced firm), handling receivables, paying business and personal family bills, coordinating medical and insurance claims, processing and coordinating mail (this may also be handled by an executive assistant) are just some of the traditional responsibilities of this position. This position can range from $100,000 – $150,000.

Family Security Director

Many families are concerned about security and see a need to hire a Security Director to manage and mitigate family residence, business, cyber and outside activity risks. If not a direct employee of the SFO, the security director can be an outsourced specialist. The Family Security Director is responsible for the security measures within the SFO, including offices, technology security and family safety. This position can range from $150,000 – $200,000.

 

TFOA is an affinity group dedicated primarily to the interests of Single Family Offices. TFOA is intended to provide members with educational information and a forum in which to exchange information of mutual interest. TFOA does not participate in the offer, sale or distribution of any securities nor does it provide investment advice. Further, TFOA does not provide tax, legal or financial advice. Materials distributed by TFOA are provided for informational purposes only and shall not be construed to be a recommendation to buy or sell securities or a recommendation to retain the services of any investment adviser or other professional adviser. The identification or listing of products, services, links, or other information does not constitute or imply any warranty, endorsement, guaranty, sponsorship, affiliation, or recommendation by TFOA. Any investment decisions you may make based on any information provided by TFOA is your sole responsibility. The TFOA logo and all related product and service names, designs, and slogans are the trademarks or service marks of Texas SFO Association, LLC. All other product and service marks on materials provided by TFOA are the trademarks of their respective owners. All of the intellectual property rights of TFOA or its contributors remain the property of TFOA or such contributor, as the case may be, such rights may be protected by United States and international laws and none of such rights are transferred to you as a result of such material appearing on the TFOA web site. The information presented by TFOA has been obtained by TFOA from sources it believes are reliable. However, TFOA does not guarantee the accuracy or completeness of any such information. All such information has been prepared and provided solely for general informational purposes and is not intended as user specific advice.

by Marc J. Sharpe

Many SFOs fail to invest in the robust technology infrastructure needed to optimize their capabilities, either due to a lack of execution or a lack of awareness around available solutions.  Below are the six key technology needs for SFOs, along with a roadmap for the five key activities required for meeting those needs…

Key Technology Needs for SFOs

1. General Ledger Accounting: A double-entry accounting system, with workflow and accounting controls, integrated with investment and financial reporting, permits the SFO team to track the inflows and outflows of the family office and related entities.
2. Financial Administration: The accounting package should provide for management and payment of all expenses and accounts receivable and pay­able, ideally, with integration and auto-posting to the general ledger. Automation, along with the appropriate controls (verification and approval workflows), is critical to manage the volume and complexity of transactions that most SFOs face.
3. Consolidated Reporting: The accounting package must be capable of providing family members with an aggregated view of their balance sheet, income and cash flows across multiple custodians and financial relationships. The package should also enable robust ad hoc reporting (including risk metrics and performance analytics) on each family member’s comprehensive net-worth picture.
4. Secure Document Portal: A document vault permits encrypted/secure connectivity and communication among SFO staff, family members and interested parties, along with electronic storage of all family documents (family history, legal agreements, wills, statements, etc.).
5. Investment Analytics: An SFO with any degree of in-house CIO function will require portfolio management and trading systems, as well as market data and manager research and due diligence databases.
6. Infrastructure and Security: Many SFOs self-host their data and technology solutions (i.e. they have acquired and managed their own IT equipment, software, and processes). However, outsourced providers now offer cloud-based virtual hosting services in highly secure (SAS 70 Level II and ongoing security audit testing certification) and cost-effective hosting environments (with disaster-recovery support). SFOs should consider the cost/benefit and ongoing flexibility of the latest hosting options. SFOs also must consider their IT staff and organization: whether full time IT employees are needed or whether IT support can be adequately outsourced.

How to Meet Technology Needs

SFOs must take a strategic approach to designing, selecting, executing, and maintaining their IT systems and resources.  Given IT is a mission­ critical function for every family office, and the task of developing a strategic plan for IT investment is complex, most SFOs engage a consulting group with specific experience designing IT solutions for SFOs.

1. Design: Whether upgrading an existing technology infrastructure or starting from scratch, an SFO needs to begin by assessing its technology needs and requirements, taking into consideration all family members, businesses, investment entities, office staff, and external service providers that must be supported. SFOs are increasingly adopting institutional-like requirements around their IT in terms of mobile and real-time online accessibility, tools for trading, analytics, and research. In particular, SFOs are seeking greater visibility into all their direct and   manager fund investments, real-time evaluation of the level of risk (through standard deviation, VaR, etc.) and look throughs on asset class, holding and geographic exposure across investments. They also require monitoring of counterparty relationships and clarity about their global asset allocation at the entity, family, and individual levels.  The strategic-planning process will include documenting, confirming and prioritizing needs and requirements, as well as developing due diligence criteria for vetting potential solution providers. For example, the due diligence criteria will likely include insource vs. outsource, buy vs. build, firm size and    tenure, security   standards, and   reference checks. Ultimately, the process will lead to a request for proposal (RFP) and evaluation of service providers who meet the criteria.
2. Selection: SFOs have a myriad of options concerning the technology approaches they can take due to the ever-increasing number of vendor solutions to meet the needs of SFOs. Some SFOs opt to leverage and integrate a number of disparate stand-alone vendors. For example, they may use a general ledger from a provider such as Intuit, QuickBooks or Microsoft coupled with a reporting package such as SAP Crystal Reports, firms such as the Google, Amazon or Rackspace for Cloud hosting, financial administration from the bill pay capabilities of their banking relationship, etc. Others leverage a single provider to meet the majority, if not all, of their needs (examples include: Wealth Touch, Archway Technology Partners, and RockiT).  Families with more limited current and forecasted needs, who believe they can ably execute and maintain their technology themselves, typically take the former approach. Those who need a more robust and scalable solution   are increasingly partnering with single­ source providers. There are obviously pros and cons to both approaches.

SFOs should also be aware that a number of financial institutions have begun developing in-house capabilities or partnering with leading family office technology providers that   offer   families and SFOs IT solutions and related services such as access to market data and tools to manage risk, analytics and trading. Their   technologies may be integrated into the family office’s investment management and banking systems or on an à Ia carte basis. These options may be cost-effective for SFOs as they’re typically subsidized or simply included for no additional charge as part of the overall service.

1. Assessment: When considering multiple­ solution approaches and providers, it’s important to compile detailed cost data in the evaluation process and benchmark the cost   projections against peers.   When evaluating options, SFOs should select the solution(s) that provide flexibility and scalability for ongoing growth, require limited investment in maintenance and enhancements, and above all, ensure the privacy and security of the data and documents of the family. One of the key objectives and   outcomes of the   process should be to achieve collective buy-in across the SFO staff and family members who will use the IT system.
2. Execution: This phase often creates the greatest challenge for SFOs, making ease-of-implementation a key priority in the selection process. Sufficient resources, including money, time, focus and attention, must be allocated to implementing the chosen solution. Some SFOs have the technical expertise to evaluate and select an in-house integrated solution leveraging multiple software providers, but most find it overly burdensome to implement, configure and customize, integrate, and test the chosen solution. Other SFOs taking the in-house multi-solution approach will engage the software provider’s professional-services team or an external IT consultant to implement the chosen IT solution.  Using an outside team for implementation can speed up the upfront implementation, but in the maintenance phase it can become very costly over time.

 

Those SFOs that opt to outsource their technology needs via a financial institution or third-party partner will often be able to get up and running more quickly than those that choose a more customized or in­ house approach. SFOs with relatively uncomplicated reporting needs that they outsource to an external provider may be able to use modular options, or they may choose to take advantage of the provider’s con­ figuration and customization abilities (at additional cost).

1. Maintenance: IT costs for SFOs vary widely de­ pending on their needs, the number of entities, global reach, assets under management, type of assets and liabilities, and the approach they take to the IT environment. The total IT budget will typically include the following:
2. Hardware costs.
3. Hosting and data management.
4. Consulting support throughout the process.
5. Professional services configuration and customization of solutions.
6. Software license fees and annual maintenance costs (typically a percentage of license fees).
7. Outsourced operations fees (typically annual fees based on the complexity of services such as aggregated reporting or financial administration: e.g. number of entities, number of transactions, etc.).

The large majority of SFOs have moderate IT requirements. They can choose a basic general ledger and manually create reports via Excel, while maintaining a small   or part-time IT staff.  These SFOs typically have annual costs in the $50,000-$150,000 range. However, SFOs that have significant IT requirements often leverage one of the leading family office services-outsource providers (Wealth Touch, Archway Technologies, or RockiT for example), in addition to IT staff and other IT software and infrastructure. They might see total costs of $3 million to

$4 million+, driven largely by the complexity of their   balance sheets (the number of entities, alternative investments, transaction, and bill payment flow, etc.), customization needs and geographic dispersion.

On average, based on industry research, anecdotal interviews, and surveys, SFOs can expect to maintain an annual IT cost base (software, operational outsourcing, hardware and hosting fees, and IT staff) of 10-15 bps of their assets under management.

For budgeting purposes, SFOs must consider ongoing upgrades (software and infrastructure), research and development costs, evolving requirements of the   office and   family members, the pace of change in technology capabilities, and the complexities of IT security and data management. Given   these   considerations, many SFOs that previously chose to handle IT in-house are increasingly looking to   outsource their   core IT needs to third-party providers, while maintaining a small IT staff to attend to less complex office and individual family member needs (e.g.  property and personal use vehicle connectivity, security, mobile device management, etc.).

 

TFOA is an affinity group dedicated primarily to the interests of Single Family Offices. TFOA is intended to provide members with educational information and a forum in which to exchange information of mutual interest. TFOA does not participate in the offer, sale or distribution of any securities nor does it provide investment advice. Further, TFOA does not provide tax, legal or financial advice. Materials distributed by TFOA are provided for informational purposes only and shall not be construed to be a recommendation to buy or sell securities or a recommendation to retain the services of any investment adviser or other professional adviser. The identification or listing of products, services, links, or other information does not constitute or imply any warranty, endorsement, guaranty, sponsorship, affiliation, or recommendation by TFOA. Any investment decisions you may make based on any information provided by TFOA is your sole responsibility. The TFOA logo and all related product and service names, designs, and slogans are the trademarks or service marks of Texas SFO Association, LLC. All other product and service marks on materials provided by TFOA are the trademarks of their respective owners. All of the intellectual property rights of TFOA or its contributors remain the property of TFOA or such contributor, as the case may be, such rights may be protected by United States and international laws and none of such rights are transferred to you as a result of such material appearing on the TFOA web site. The information presented by TFOA has been obtained by TFOA from sources it believes are reliable. However, TFOA does not guarantee the accuracy or completeness of any such information. All such information has been prepared and provided solely for general informational purposes and is not intended as user specific advice.