Many wealthy families neglect estate planning for their tangible assets, and in doing so risk their legacy, says Matthew Erskine of Erskine & Company.

Many wealthy families neglect estate planning for their tangible assets, and in doing so risk their legacy, says Matthew Erskine, principal of The Erskine Company.

Erskine cites a recent report from Rothstein Kass which found that most high net worth individuals had experienced significant changes since they last updated their estate plan (view here).

“You should see what single-family offices don’t do for their client’s tangible assets,” he says.

His firm provides strategies for unique assets like artwork collections, family businesses and family compounds. His family has been in the attorney business for many generations, particularly in the trust and estate area, and he chose to specialize in illiquid assets – or assets where the ties are both emotional and financial, as he describes them. In these cases, the estate and financial strategies used for purely financial assets “usually don’t work very well,” he says.

This is for various reasons, but one that plays a key part is that in estate planning you might look to place control of the assets outside of the family so as not to incur a gift or estate tax. This means a trustee takes control while the family retains the benefits from the assets. However, with emotionally valuable assets families don’t feel comfortable with this situation for many reasons.

“There are almost as many reasons as there are people who own assets,” says Erskine. “It might be fears over mishandling, often with a family business.”

Due to this, families often “hold on tightly” to these assets. In the case of a business, for example, many feel “a moral obligation to run it” – and may often seek wider community benefits than the pure profit motive that a buyer might pursue, tying in with the value of stewardship. In other cases, “there are times when people just don’t want to take the picture out of their living room.”

In a year when the “fiscal cliff” looms and barely a day goes by without a call to take advantage of the Tax Relief Act in the financial press, Erskine’s starting point with clients is surprising: “One of the things I do first off is tell clients: ignore the issues of taxes, focus on what you need and want.”

This is not to say taxes won’t be considered, but simply that they’re a bad starting point.

The problem of doing things on a tax basis, he says, is that if plans are just about taxes - and don’t really articulate what the clients want for their legacy assets – they usually won’t be implemented properly.

“What I usually start an advisory relationship with a client off with is ‘know thyself’ – you really have an understanding of what you have and what it is you want to do… next, you need to learn a lot about yourself, how you could do things, because your personality is reflected in the objects you surround yourself with.”

Secondly, clients need to be able to anticipate things – to look ahead at some of the potential pitfalls.

“The third thing is you have to be mentally prepared to make difficult decisions,” he says. “If you don’t make this decision, the state will through the laws of intestacy…And the state won’t do what you want, it will to what it wants.”

If clients understand these points and are prepared for the hard questions they must face, only then does Erskine feel confident that a legacy plan for their unique assets will be implemented effectively.

Client engagement

If this sounds like a lot of work on the part of the client - while advisors’ jobs are of course to make their clients’ lives easier - it’s because Erskine is adamantly of the belief that for wealth planning to be effective clients must be engaged in the process. While he does not expect them to be experts of course, he wants them to understand it as much as is possible.

This is perhaps why he never advises clients to “bend themselves into pretzels trying to cram themselves into a tax strategy.” He says such strategies are often not understood by the end user, and are premised on the fact laws don’t change.

“Elaborate tax strategies are a house of cards: so long as nothing changes you might come out all right. But if you change, your goals change, or the world around you changes, it all falls apart,” he says. “Always ask: What happens when the clever scheme all falls apart? What’s the back-up if the laws change?”

Some might argue that a tax strategy doesn’t have to be understood by a client to deliver that client with the biggest saving, but Erskine says this viewpoint of estate planning is “arrogant and self-defeating” and doesn’t give the client his or her due respect.

“One of the reasons the whole subprime mortgage thing blew up is because no-one sat down with the investment banker and said: I want you to explain what this investment is.”

It’s unreasonable to expect that investors will always demand they understand everything, he says, and also unreasonable to expect practitioners will always explain everything of their own accord. But there must be a middle ground and ultimately if a client does not understand the concept behind a document then he asserts that it’s the fault of the professional, not the client. 

Illiquid assets: neglected

When it comes to legacy assets in particular, one of the biggest threats to the way these are passed down over generations is neglect. “They do not teach you about art in law school, or business school, so nobody’s really focused on this area and they assume someone else is taking care of it.”

As a dramatic example, Erskine recently had a conversation with the president of a large single-family office run on behalf of a family who are big art collectors. Even in such a case as this – where the assets are hugely valuable – he said “basically nothing” had been done to organize and plan for the future. Given what’s at stake, that’s a pretty incredible state of affairs. Simple things like establishing provenance, educating heirs on where pictures were bought and for how much, and working out what tax benefits from leveraging were possible, had not even been established, he says.

What’s more, getting back to absolute basics, if owners’ intentions for their unique assets aren’t articulated, awkward situations can arise. An example is where one member of a family sells an asset that another member had intended to leave for many generations within the family – in the case of a business – or to a museum/gallery in the case of artwork. He cites the case of Brooke Astor and her son’s sale of Childe Hassam’s “Flags on Park Avenue.” 

And the thing is with a unique asset “once it’s gone, it’s gone forever,” unlike financial loss. “You can’t get lost tangible assets or a failed family business back by suing,” he says. These are not fungible goods, which is why their sale can wake such emotions.

“I have seen people who have sold family assets who have been reviled ever since – not only by the family but by the community” in the case of a business, he says.

So, as with all estate planning, conversations are the necessary beginning to success when it comes to illiquid assets. And, advises Erskine, it’s a good idea to have one-on-one discussions with family members to establish their opinions, as well a group conversation to get buy-in. When it comes to the next generation, they also need to consider their roles: do they want to act as stewards of these special assets and if so how best to train them in that role?

“I also tell clients there are times when you need to be able to have an outside moderating force, where you sit down and say you’ve got two or three families depending on the same asset – sometimes it’s as formal as putting a legacy asset into an entity and appointing an arbiter.”

With shared property, it might be necessary to establish rules over usage and running costs, and how these relate to one another.

It might also involve creating buy-sell agreements – which he says while common in family businesses aren’t often used in other assets, such as family compounds, where they might be applicable. This can avoid assets having to be sold in the case of divorces, for example. While subjects such as divorce, death and disability can seem distasteful, he says, “often the outcome of not discussing what happens afterwards is more distasteful still.”