How the Ultra-Wealthy Manage Their Fortune

Family offices are private wealth management firms that cater to the specific needs of ultra-high-net-worth individuals and families. So, how to answer the question ‘How do family offices work?’ Unlike traditional wealth management firms that serve a broader clientele, family offices offer a comprehensive suite of services tailored to the unique circumstances of each family.

Typically it manages a family’s entire financial portfolio, including investments, taxes, estate planning, and philanthropy. They also provide a range of non-financial services, such as lifestyle management, travel arrangements, and security. This holistic approach ensures that all aspects of a family’s financial and personal well-being are addressed effectively.

Family offices usually employ a team of experts with diverse backgrounds, including investment professionals, tax advisors, estate planners, and lifestyle managers. This team works closely with the family to understand their goals, values, and risk tolerance, and then develops a customized plan to achieve their objectives.

How Do Family Offices Make Money?

Family offices generate revenue through a combination of investment management fees and performance-based incentives. They typically charge a percentage of assets under management (AUM) for their services, which can range from 0.25% to 1.5% or more, depending on the complexity of the services provided and the size of the family’s assets. In addition, some family offices also charge performance-based fees, which are tied to the performance of the investment portfolio. These fees can be a percentage of the profits generated or a benchmark-based fee that rewards the family office for outperforming a specific benchmark.

Here’s a breakdown of how family offices make money:

• Investment management fees: Family offices generate a significant portion of their revenue through investment management fees. These fees are typically charged as a percentage of assets under management (AUM), which refers to the total value of the investments that the family office manages. The AUM fee typically ranges from 0.25% to 1.5%, depending on the complexity of the services provided and the size of the family’s assets.
• Performance-based fees: In addition to AUM fees, some family offices also charge performance-based fees, which are tied to the performance of the investment portfolio. These fees can be a percentage of the profits generated or a benchmark-based fee that rewards the family office for outperforming a specific benchmark. Performance-based fees can incentivize the family office to generate strong returns for their clients, but they can also create conflicts of interest, as the family office may be tempted to take on more risk than is appropriate for the client’s risk tolerance in order to generate higher fees.
• Additional services: Family offices may also generate revenue from providing additional services to their clients, such as tax planning, estate planning, and philanthropic advisory services. These additional services can be charged on an hourly basis or as a fixed fee.

The specific revenue streams of a family office will vary depending on the family’s needs and the family office’s expertise. However, investment management fees and performance-based fees are typically the two most significant sources of revenue for family offices.

Family offices generate revenue through a combination of investment management fees and performance-based incentives

What Are the Rules for Family Offices?

The Family Office Rule sets forth three requirements that the family office must meet in order to qualify for exclusion from regulation under the Advisers Act.

Rule 1: Family Clients

The family office must only provide investment advice to “family clients.” Family clients are defined as:

• The family office’s founders and their spouses, parents, siblings, children, grandchildren, and their spouses
• The spouses of deceased family members
• Trusts that are wholly owned by family members
• Entities that are wholly owned by family members
• Other entities that are controlled by family members and whose sole purpose is to provide investment advice to family clients

Rule 2: Ownership and Control

The family office must be wholly owned by family clients and exclusively controlled by family members/family entities. This means that:

• Family clients must own 100% of the equity of the family office
• Family members must control the management and policies of the family office
• No non-family member can have any ownership or control over the family office

Rule 3: Not Holding Out to the Public

The family office must not hold itself out to the public as an investment adviser. This means that:

• The family office cannot advertise or solicit business from the public
• The family office cannot pay any compensation to anyone for soliciting business from the public
• The family office must not represent itself as an investment adviser in any public filings

In addition to these three requirements, the Family Office Rule also includes a number of complex definitions that further limit the availability of the exclusion. For example, the definition of “family client” is very narrow and does not include certain types of trusts and entities. As a result, it is important for family offices to consult with an attorney to ensure that they comply with all of the requirements of the Family Office Rule.

Additional Rules

• The Family Office Rule does not apply to family offices that serve multiple families.
• Family offices must be careful not to structure themselves in a way that could be seen as an attempt to circumvent the Family Office Rule.
• Family offices must be aware of the potential for conflicts of interest and take steps to mitigate those conflicts.
• Family offices must maintain a high level of compliance with all applicable laws and regulations.

How Much Money Do You Need for a Family Office?

Deciding whether or not to establish a family office is a significant financial decision that should be made after careful consideration of your family’s circumstances and goals. While there is no universally defined net worth threshold for establishing a family office, it is generally understood that a minimum net worth of $50 million is typically required to make it financially viable. This substantial amount is necessary to cover the ongoing costs of operating a family office, which can include salaries for staff, investment fees, and technology expenses.

However, the decision to establish a family office is not solely based on net worth. Factors such as the complexity of your family’s financial situation and your specific needs and priorities also play a significant role. If your family’s financial affairs are relatively straightforward, and you have access to competent financial advisors, a family office may not be necessary. Conversely, if your family’s financial situation is complex, you have a diverse range of assets, or you require specialized expertise in areas like tax planning or estate planning, a family office can provide comprehensive and tailored services to meet your unique needs.

Here are some key considerations when determining if a family office is right for you:

1. Net Worth: As mentioned earlier, a minimum net worth of $50 million is generally considered the benchmark for establishing a family office. This threshold ensures that the ongoing costs of operating a family office can be adequately covered without placing undue financial strain on the family.
2. Complexity of Financial Situation: If your family’s financial situation is intricate, involving a variety of assets, investments, and financial obligations, a family office can provide centralized management and oversight. They can help you navigate complex financial decisions, ensure tax compliance, and implement strategies to preserve and grow your wealth.
3. Family Needs and Priorities: Consider your family’s specific needs and priorities when evaluating the potential benefits of a family office. If you have philanthropic goals, require assistance with wealth transfer planning, or seek guidance on managing generational wealth, a family office can provide tailored solutions and support.
4. Access to Competent Advisors: If you have access to experienced and competent financial advisors, you may be able to manage your family’s finances effectively without the need for a dedicated family office. Evaluate your current advisory team and their ability to address your specific needs before making a decision.
5. Cost of Establishing and Operating a Family Office: Establishing and operating a family office can be a significant financial undertaking. Consider the upfront costs of setting up the office, ongoing staff salaries, investment fees, and technology expenses. Ensure that the potential benefits outweigh the costs before proceeding.
6. Long-Term Goals: Consider your family’s long-term financial goals and aspirations. If you anticipate significant growth in your wealth or have complex financial needs that may evolve over time, a family office can provide continuity and expertise to support your long-term objectives.
7. Family Dynamics: Establishing a family office can significantly impact family dynamics and relationships. Discuss the decision openly with family members to ensure alignment and avoid potential conflicts or misunderstandings.
8. Seek Professional Guidance: Consulting with experienced financial advisors and legal professionals can provide valuable insights and guidance when evaluating whether or not a family office is the right choice for your family. Their expertise can help you make an informed decision that aligns with your specific circumstances and goals.

Conclusion

Establishing a family office is a significant decision that should be carefully considered in light of your family’s financial situation, needs, and priorities. While a net worth of $50 million is generally considered the benchmark for a viable family office, the complexity of your finances and your specific goals play equally important roles in determining whether or not a family office is the right choice for you. Assess your current advisory team, consider the ongoing costs involved, and seek professional guidance to make an informed decision that aligns with your long-term objectives and family dynamics.