Transferring wealth to the next generation

You have spent your lifetime building up your wealth. It surely was a bumpy ride but you’ve made it. The next question is: How do you transfer it to the next generation?

Wealthy individuals and families increasingly own a diverse range of assets, often located in multiple jurisdictions. Without careful planning, these savings, stocks, homes etc. may be

  • managed against your wishes upon your demise;
  • at risk from creditors (including divorcing spouses) or political instability; or
  • subject to greater tax liabilities.

According to Time – Money magazine (2015), 70% of wealthy families lose their wealth by the second generation, 90% even by the third. For all of these reasons, it is recommendable to prepare your estate planning.

The key elements of estate planning

Estate planning involves planning for how your assets will be preserved, managed, and distributed after your demise. It should be regarded as an evolving process that develops as your life and family circumstances change. In the following, we have summarised the main elements that should be considered:

1) Wills
In many jurisdictions, a will is essential to ensure that your assets pass to your loved ones in a tax efficient way.  Yet the majority of people do not have a will. Avoid making this mistake, schedule an appointment with a lawyer and pay specific attention to

  • Your domicile and residence status – they will have an effect on which jurisdiction’s law will apply. Furthermore, they impact your tax statement.  
  • The location of your assets – which jurisdiction’s law will govern the succession of your assets? Typically, the succession of real estate is governed by the law of the jurisdiction in which it is situated. Your domicile and/or residence typically govern the succession of your movable assets. It is crucial to work out which succession law will apply and understand the possible consequences.
  • Your tax profile – it will have an impact on the structure of your will. In the UK, for example, gifts between spouses are exempt from inheritance tax (provided both spouses are UK domiciled or non-UK domiciled). This exemption, however, is restricted if there is a domicile mismatch.
  • Your beneficiaries’ tax profiles – if your will for example foresees that assets are held in a trust - will this have adverse tax consequences for your beneficiaries?  Furthermore, trusts are not always recognised in civil law jurisdictions such as most of Europe and South America, and Russia. In some cases, such as France, trusts are heavily penalised.
  • The number of wills required – If your main assets are spread across a limited number of jurisdictions and they apply similar succession laws with similar probate procedures, it is perfectly sensible to have one will covering your worldwide assets. However, if your assets are spread across a number of jurisdictions with different legal systems, creating several wills might be preferable.

2) Lifetime measures
In addition to setting up your will, there are additional steps that you can take to mitigate the risks described above.  These include the following:

  • Outright gifts – making outright gifts reduces the value of your estate for tax purposes in many jurisdictions. Be aware of any shadow periods where the assets are deemed to remain within your estate.  For example, if you pass away within seven years of making a gift that is not otherwise exempt in certain jurisdictions, it will be taken back into account for inheritance tax purposes. 
  • Trusts – these are a popular alternative to outright gifts as they allow your beneficiaries to benefit from your assets while protecting them from their creditors.  Trusts are conventional in the common law jurisdictions such as the UK and US, but are less understood in civil law jurisdictions.  While they can help protect assets and can be tax efficient, it is important to consider where the trust will be located. The tax profiles of the settlor and beneficiaries are equally important, particularly if they involve several jurisdictions.
  • Family investment companies – a tax efficient, corporate vehicle to hold wealth that can be passed on in different shares to the next generation in accordance with your wishes. They can be structured to allow a parent to control the company while handing out shares to other family members.  They are good alternatives to trusts and can be structured using different share classes so that dividends can be controlled.
  • Partnerships, Limited Liability Partnerships, and Family Limited Partnerships – these can be efficient alternatives to companies or trusts, particularly where they do not suit the tax profile of the individuals involved.

3) Taxes
It is crucial to understand your tax position, including your domicile and residence. The US, for example, taxes all citizens and green card holders - no matter where they live. Pay specific attention to any US connections (no matter how vague) and any double tax treaties that may assist between two countries.

4) Powers of attorney
Another efficient tool of estate planning are powers of attorney. They define that someone else has the power to make decisions on your behalf in the event you lack the capacity to do so. For instance, if you lose capacity to make decisions for yourself in the UK and do not have a Lasting Power of Attorney, your assets are frozen. An application must be made to the Court of Protection to appoint a deputy to deal with your affairs. This process can be time consuming and costly. 

Business owners in particular should also consider having separate powers of attorney to cover their businesses. Be aware of the fact that powers of attorney executed in one jurisdiction may not be valid in another. Consequently, you should consider whether more than one document is required.

“From shirtsleeves to shirtsleeves in three generations”

We all know the famous proverb. Engage in estate planning at an early stage to ensure the best possible outcome for your loved ones.

About the author

Raj Patel is a Partner in Michelmores’ Private Wealth team and is based in their London office. Michelmores is a trusted partner of Julius Baer. It advises international and UK based clients on domestic and international taxation, and is part of our open product and service platform.

If you’re interested in finding out more, please contact us.

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