The challenge of passing wealth across generations, or why monetary gifts should come with a Financial Planner attached.
It has been reported that the UK has recently passed the USA in terms of the percentage of first-generation wealth – that is, the current generation made the money that they are now seeking to invest or to preserve. This has usually – but not always – been achieved by building and selling a business.
If the capital sum available is a reasonably modest amount, then the money tends to have one clear purpose, which is to sustain the now retired business person and their family through the rest of their life. In short, it's there to be spent. After all, £1 million in a cash or near-cash asset is in reality only around £10,000 pa gross income in today's economic environment.
But what if it’s more than a modest amount (and when did a £1 million become a ‘modest’ amount?) What if it is actually a substantial amount of money? What if it is clear there will be something to pass on to the next generation?
Passing it on
Historically this has happened via will, trusts and a traditional inheritance process. However, it has often been the case that, until final probate was granted, the adult children were unaware of just how much their parents managed to squirrel away.
For some, it comes as a shock to discover the size of the legacy they are inheriting. And this shock can often turn into guilt, with the children wishing that their parents had spent more on themselves instead of keeping it to pass onto the next generation.
In our experience one of two things often happens:
The guilt becomes an excuse for procrastination. The recipient buries their head in the sand when it comes to making decisions about what to do with the gift because they do not think of it as theirs.
Or, it can be a case of ‘easy come, easy go’ and the money is frittered away with surprising ease and alarming speed, with little to show for the years their parents saved and worked to build up the legacy.
So what can we do about this?
To start with the obvious, if it is possible to comfortably gift monies away during the first generation’s lifetime then this may help to moderate the psychological impact of a large inheritance, as well as prepare the next generation for what they need to do to use and preserve their legacy.
This can include gifts which are aimed at simply starting the savings habit in children and grandchildren. An example of this could be to gift them only sufficient monies to use up their annual pension and ISA allowances each year.
Or it may be a gift which has the power to change lives. For instance, the impact on the donor of gifting £200,000 from cash savings of £2 million is pretty low. But the impact on the recipient can be profound. For example, helping them to pay off a mortgage at one of the most expensive times of their lives as they are bringing up their own children.
Most importantly the parents or grandparents are around to enjoy seeing the pleasure that the gift has brought.
Just one thing…
Clearly, instilling values in childhood is vital but, that aside, we are seeing an increasing trend towards gifts having a certain condition attached, such as agreeing to take good quality independent financial planning advice as part of the transfer process.
The gift is still theirs, but – and it’s a big ‘but’ – the agreement is that the trusted family adviser spends time with the child or recipient, helping them to understand the world of finance. The fees for this are usually paid by the donor, but not always. After all, engaging, and paying, your own advisor is part of the learning process.
This can involve everything and anything from budget planning to arranging their affairs to pay off debt and taking their first steps in investing for the future.
It necessitates the children building an ongoing relationship with the adviser so they have someone else to go to for advice and guidance.
This can be reassuring to all generations.
It helps the donor to know that someone independent from them is taking care of their children’s financial health and they may be relied upon if their children find themselves having to navigate a difficult path during times of ill health, divorce or financial woes.
But what about trusts?
In some instances it could be that the use of a trust is a more suitable vehicle for such gifts, particularly if it is felt that children need additional protection. It’s important to be flexible here, though.
One important piece of practical advice is to keep an eye on both the level and direction of the gifts made during the parents’ lifetime.
We understand that parents wish to be scrupulously fair to their children. However, the real-life experience for many is that the most suitable time to gift monies to one of their children is not necessarily the most suitable time to gift monies to their siblings.
There is no more explosive mixture in the world than the mix of family, money and death. It truly has the potential to rip families apart if not handled carefully.
Keeping a record of the gifts made during the lifetime of the parents will help to ensure that the final tally up of the estate is as fair as it can be. Having the trusted family adviser as the independent source of this record – we do this for our clients, for example - can help to dissipate some of the potential problems in this area.
From the heart
I am conscious that I have not talked about tax efficiency, AIM portfolios or any of the more technical stuff in this article. Rather, I have tried to touch on some of the less comfortable issues, some of the emotional and human factors which can accompany the financial aspects of gifting.
Gifts are frequently spoken of in cold numbers. For example - how much can you give without compromising your lifestyle? or how much inheritance tax might this save you?
But at the heart of every gift is the love of one person for another. We think we should let this guide our decisions and actions, not the tax or the cold numbers.