Family governance – enforceability and sustainability in private wealth structures
Any legal structure incorporating family governance principles will be a hybrid of elements from corporate governance but with flexibility that is not possible in a truly commercial context; rigid structures and families rarely go together. The most successful governance structures have a level of transparency and include the wider family members within a framework of tried and tested corporate governance mechanisms.
What is family governance?
Essentially, family governance is an attempt to regularise family interaction within a framework, to allow for intergenerational participation in the family’s wealth in a harmonious way. The underlying purpose is often a mixture of the following:
- To imprint the wealth founder’s principles on any structure.
- On-boarding the next generation - educating them about the structure and instilling in them the founder’s principles.
- To facilitate an orderly succession of control and wealth between generations.
- To prevent or contain family disputes.
- To preserve the family’s wealth beyond the third generation.
The ways in which this can be achieved are diverse and the documents and vehicles used vary from family to family. The choice will depend on the nature of the family, for example, the number of family branches that exist and the generation in which the structuring is taking place.
The nuts and bolts
A family governance structure usually contains a combination of legally enforceable and non-enforceable elements, for instance:
- Family constitution: this incorporates references to the family’s “purposes” and its mission statement. Although not usually legally binding, it is a formal document, which is morally persuasive, setting out the founder's and family’s intentions. It is intended to govern the way that family members can participate in the family's wealth.
- Family council: this is often where the decisions are made. The council could be informally created in the family constitution or formally established as a separate legal entity.
- Legal documents creating the enforceable structure: a family might choose to use combinations of trusts, foundations, private trust companies, shareholders’ agreements, etc. It is the corporate structures and ancillary legal documents that give the family constitution legal teeth.
Usually the rules relating to value, power and governance are made legally enforceable:
- Value: the rules that determine which family members can benefit and in what shares, distribution policies and how members who wish to do so may take their share and exit the structure.
- Power: the rules governing those who are to control the structure, how they can be appointed or removed, what qualification criteria will apply to their appointment and how they are to be remunerated for their role.
- Governance: the inclusion of enforceable principles of governance that are best practice for public and private companies. The level of corporate governance required for AIM companies often provides the best analogy of the standards that should be required in a private wealth structure, as it is light touch regulation compared to a full listing.
Limits of enforceability in the family context
Family governance can never fully achieve a corporate governance model at every level because you cannot bind absent parties (minors, unborn children, future spouses) to a contract.
However, you can try to bind these parties in the future – for instance, by making it mandatory for every new shareholder to sign a deed of adherence in a shareholders’ agreement or providing in trust deeds that beneficiaries getting married must sign pre-nuptial agreements or risk exclusion.
That said, none of these methods guarantee enforceability because you cannot exclude the inherent jurisdiction of the court in relation to trusts and family law.
ESG now factors into most investment planning in the commercial and private wealth spheres. It has the potential to be a minefield in the latter with intermediaries (trustees, directors, family office managers and investment advisers) getting caught in the crossfire. ESG can be factored into a private wealth structure as follows:
By making commitments to ESG integration in the family charter or a letter of wishes.
- The distribution or dividend policy might dictate that a certain percentage of profits is re-invested into sustainable projects or 'impact' investing each year.
- Protections for trustees may be built into a trust deed, by including bespoke exoneration and indemnity clauses protecting them against losses resulting from ESG investment.
- Using a reserved powers trust, the settlor may be empowered to determine investment strategy or to appoint an investment committee to do so, thereby ring-fencing investment liability away from the trustees.
Both family governance structuring and a focus on sustainability are constantly developing areas within private wealth planning. The latter is still a relatively new factor for families, trustees and family offices to take into consideration.
There is a worldwide determination to achieve a "green recovery" following the pandemic and many wealthy families feel a personal obligation to contribute towards this. However, it is still vital for them to ensure that the needs and views of all members of the family are fairly represented. Accordingly, family governance structuring will need to become ever more sophisticated over the coming years to provide the required balance of flexibility and control.
Catharine Bell is a Partner and Charlotte Evans-Tipping is a Senior Associate in the Private Client team.
This note reflects our opinion and views as of 4 December 2020 and is a general summary of the legal position as we understand it. It does not constitute legal advice and local law advice should be obtained before proceeding.