Wealth Creation and Retention – introducing the Circle of Wealth™
The Chinese have an old and well-known saying: “Wealth does not pass three generations”.
Other cultures, throughout the world, acknowledge this phenomenon: the first generation working extremely hard to build the family fortune; the second generation reaping the benefits; and the third generation squandering the wealth.
A sad example in the UK was that of John Hervey, the seventh Marquess of Bristol, who died penniless in 1999 at the age of 44, after squandering a £30 million fortune on drugs and high living. According to a report by David Sapster in the Daily Telegraph, the disgraced peer’s estate was worth nothing after liabilities were taken into account.
So how do you ensure that wealth successfully passes between generations?
Introducing the Circle of Wealth™
The Circle of Wealth™ concept describes the individual financial life cycle, and seeks to help preserve family wealth throughout future generations and prevent such disastrous family financial consequences.
The Circle of Wealth™ concept is a simple tool to navigate and assumes that everyone is at one of the stages of the financial cycle. Clients using our HFMC MoneyMaptm , a comprehensive financial planning tool utilised to build an analysis of a family’s potential lifetime cash flows, can also be employed to consider family wealth preservation strategies for three or more generations.
For many, the purchase of a house is the biggest and most expensive financial decision they will ever make, and many will want to pass assets to children or grandchildren. They prefer not to have that asset utilised by social services to pay for expensive, long-term care fees, particularly if they have been financially prudent throughout their lives.
For others, owning, running and growing a business takes them to another financial level, with different assets and greater potential liabilities. Some buy commercial property and use various vehicles to own the asset: as an individual, perhaps with their partner or spouse; through a trading business or incorporated company; or a Self-Invested Personal Pension (SIPP). All these are legitimate and common vehicles for owning assets.
Cash flow is crucial to successful lifelong financial planning, until it becomes appropriate to consider selling the business or trading down the family property. Cash flow refers to ‘inflows and outflows’, rather than ‘income and expenditure’, and these become more relevant in the cycle, as the disposal of an asset might be more tax-efficient than generating pure income, earned or otherwise.
Savings and investments tend to become a more important influence on inflows and outflows, particularly if the ability to ‘earn’ an income is diminished with age. Typical questions for consideration include:
Can I earn enough to replace my business income?
Can I cascade wealth to my children and grandchildren with little or no impact on me?
Will I run out of money?
For how long will I have to plan?
Longevity is a consideration, and it is important to have a properly drafted will specifying: who will be the executors, provision for a surviving spouse or children, and how should assets be owned.
Other considerations to discuss with competent professional advisers include the need for a Lasting Power of Attorney because of capacity, and whether a living will might be appropriate. Family trusts and philanthropic or charitable trusts can be used legitimately in the appropriate circumstances to mitigate or reduce taxes.
Robust and appropriate tax planning becomes an essential strategic financial planning tool in the preservation of family wealth across the generations.
Tax evasion v tax avoidance
On the subject of tax planning, there is a clear distinction between ‘tax avoidance’, which is perfectly legal, and ‘tax evasion’, which is not. The former means exploiting the rules to reduce the tax that would otherwise be paid, whereas the latter means deliberately escaping the payment of tax that should be paid.
Tax evasion usually entails taxpayers deliberately misrepresenting or concealing the true state of their affairs to the tax authorities to reduce their tax bill and includes, in particular, dishonest tax reporting (such as under-declaring income, profits or gains or overstating deductions).
In June 2012, the involvement of a well-known British comedian (among others) in an alleged tax avoidance scheme came to light after an investigation by The Times. The scheme is understood to involve UK earners ‘quitting’ their job and signing new employment contracts with offshore shell companies based in the low-tax jurisdiction of Jersey.
British prime minister at the time, David Cameron, said, “People work hard, they pay their taxes, they save up to go to one of his shows. They buy the tickets. He is taking the money from those tickets and he, as far as I can see, is putting all of that into some very dodgy tax avoiding schemes.”
The individual in question has since pulled out of the scheme, apologising for “a terrible error of judgement.”
The wisdom of politicians attempting to make a moral case about tax avoidance is a subject that has since been covered extensively.
An oft-quoted ruling that tax avoidance is acceptable and legal comes from the court case of IRC v Duke of Westminster (1936). The duke paid his gardener a weekly wage and entered into an agreement by which he stopped paying the wage and instead drew up a covenant agreeing to pay an equivalent amount.
The gardener received the same amount in wages, but the duke gained a tax benefit because under the law applicable at the time the covenant reduced his liability to surtax.
When the case came before the House of Lords, the judge, Lord Tomlin, said:
“Every man is entitled if he can to arrange his affairs so that the tax attaching under the appropriate Acts is less than it otherwise would be. If he succeeds in ordering them so as to secure that result, then, however unappreciative the Commissioners of Inland Revenue or his fellow taxpayers may be of his ingenuity, he cannot be compelled to pay an increased tax” (IRC v Duke of Westminster  AC1 (HL)).
The Duke of Westminster won his case.
Get in touch
Want to know more about the Circle of WealthTM? Or is it time for you to review your estate or tax planning arrangements? Send us a message via the HFMC Wealth website or call us on 020 7400 4700.