Over the next 50 years, as much as $50 trillion in wealth will transfer from one generation to the next, according to a study by the Institute for Preparing Heirs. At the same time, studies have shown that more than 95% of inheritors are likely to change their financial advisors upon receiving their inheritances.
The institute, an educational organization, does not speculate on the transition in advisors, but this trend may suggest that sometime before receiving their inheritances, the clients’ children detached from their parents’ wealth management principles. This is a serious issue, as it posits polarizing perspectives on the proper preservation of wealth.
Many financial advisors are skilled experts when it comes to offering advice on the generational transfer of wealth, via such instruments as trusts and the establishment of limited liability companies. But they may not provide the same degree of specialized guidance when it comes to the generational transfer of knowledge—measures to preserve prosperity and increase wealth, as well as the risks potentially thwarting these goals.
While many young people are earnest in their quest to make a mark on the world, unless they are properly educated about the myriad exposures to their inherited wealth, they may inadvertently deplete it.
Jim Kane, president of personal insurance at the large Chicago-based insurance brokerage HUB International Ltd., works with many high-net-worth families in his role as a risk advisor. He wonders if part of the problem with the high turnover in financial advisors is because parents have shielded their children from both the means of their prosperity and the threats to it. The subject is taboo. As Jim put it, “The vast majority of families haven’t told their kids about their financial situations because they don’t want them to feel privileged. Then the kids grow up, go to college and start their careers with their own views on what is right.”
While many parents often point out the value of a diligent work ethic, discussions of wealth generation are rare. Equally atypical are conversations about wealth preservation. Jim says the general lack of knowledge about personal liability risks and whether or not they can be transferred is surprising. “I had a discussion about insurance recently with someone who inherited the family business,” he recalled. “It was our first meeting, and the young fellow said he was looking to buy an insurance policy in case the invested assets of the business failed to provide a significant return. I told him there was no such thing. He looked at me like I didn’t know what I was talking about.”
The Age 26 Limit
No one is criticizing high-net-worth parents, their children or their advisors for not adequately discussing wealth preservation. Indeed, most families fall into the same trap, regardless of their financial status. Yet the risks and financial consequences for all families are the same, although the degrees may differ.
Here’s a case in point. All children, once they reach the age of 26, no longer meet the policy definition of a “household member,” and thus are not automatically covered by their parents’ policy. They can, however, be added to their parents’ personal lines policy, or they can buy their own renters and liability coverage.
Young people face a similar age limit for health insurance—children no longer qualify for COBRA (Consolidated Omnibus Budget Reconciliation Act) coverage once they turn 26.
Most high-net-worth parents have purchased a personal excess or umbrella liability insurance policy with coverage extending to their children—until the age of 26. At this age, however, a child might be on his or her own now and completely in the dark about the need for personal excess insurance, or even property insurance to protect his or electronics, furnishing, clothing and other possessions.
Making matters dire is that they truly need this coverage. Younger people are at greater risk of being at the costly end of an expensive personal liability lawsuit because of their lifestyles—they tend to drive more, blog more, use social media more, text more and be less careful in what they do, say or write from the standpoint of defamation, slander and libel.
It can be a challenge, however, to convince young adults that they are at risk. “I counseled this young man of 29 that he needed personal excess insurance at very high limits of financial protection,” Jim said. “He was living in a mansion on a beautiful 10-acre, tree-lined property that his father permitted him to live in. Since he didn’t own the property, he adamantly insisted he did not have an exposure warranting umbrella liability insurance.”
Jim informed him that he certainly did have an exposure, and a large one at that. They then took a tour of the property, when the young man proudly showed off his collection of motorcycles—eight dirt bikes that his friends rode when they came over for parties. “I shook my head and said, `You’ve got to be kidding me,’” Jim recalled.
Education is the answer, of course, and the earlier a child learns, the better. Many families have discovered the wisdom of collaborating with their family offices and financial advisors to create fun games where their children learn about the generation and the preservation of wealth. Jim knows of several clients who do just that, effectively teaching the essentials of finance and risk management to children as young as five.
There is another benefit to this timely education—children perceive the financial advisors as working on their behalf, toward their economic well-being. When they become adults, they might be more apt to retain them.