Only 10% of wealth passes beyond the third generation. Here’s how to fix the problem

“Shirtsleeves to shirtsleeves in three generations” is a common phrase that describes the unwanted outcome of transitioning hard-earned wealth to the next generation. It turns out that this unwanted outcome has been present for centuries, with many cultures having familiar colloquialisms.

Italians say, “from the stable to the stars and back again.” “Clogs to clogs in three generations” is a phrase from the 1700s in England. The Chinese proverb “Fu bu guo san dai” translates to “wealth does not pass three generations” and dates back thousands of years.

The issue of generational wealth transfer is not a new one, nor is it uniquely American. Sixty% of wealth transfers are lost by the second generation, and 90% by the third. Only 10% of wealth passes beyond the third generation.

The overall financial environment, income tax regulations, and estate tax laws fluctuate dramatically over a three-generation time-span. Luckily, many highly trained and ethical professionals in the community stand ready to assist a family in effective and efficient wealth transfers.

In a 2003 book by Roy Williams and Vic Preisser titled “Preparing Heirs: Five Steps to a Successful Transition of Family Wealth and Values,” only 15% of failed wealth transfers are caused by tax considerations, legal issues or financial planning issues. Twenty-five% are cited as heirs being inadequately prepared as the cause of failure. A whopping 60% of wealth transfers are blamed on the breakdown of communication and trust within the family.

Addressing this primary concern is a significant task with solutions as unique as the individual families creating multi-generational wealth. However, there are some basic concepts that can be helpful in establishing healthy communication about wealth within a family unit.

First, develop and instill fundamentals about money and personal finances.

According to JumpStart Coalition for Personal Financial Literacy (2011), children develop their attitudes and understanding of money between the ages of 7 and 14. By age 30, most money-related skills have already been established. Studies also highlight that 90% of children learn everything they know about money from their parents and 87% of parents believe kids learn everything they need to know about money from school. We have a pretty clear problem.

Parents can work with children at a young age to develop key concepts around money like earning, savings, spending and sharing. Local financial planner, Jamie Bosse, has a series of children’s books and lessons meant to introduce these concepts to kids at a young age.

One example of how to instill good financial habits within children is, rather than a single piggy bank, utilizing three jars, one marked “save,” one marked “spend” and one marked “share.” These simple steps establish financial literacy at a young age and open the lines of communication about wealth for the years to come.

Second, define wealth broadly.

A broad definition of wealth includes social, intellectual and human capital, in addition to financial capital. A dear friend works in the attendance office and coaches football at a local high school. I don’t see him often, but when I do, I am reminded that his impact and legacy are more significant than almost anyone else I know.

Impact and legacy are not solely measured in dollars and cents. Artists, teachers, firefighters and police officers are just a few professions that require great human capital and make deep social impact, but are not necessarily the most financially rewarding. Families who define wealth broadly cultivate the passions and callings of each family member. The financial capital inherent in multi-generational wealth provides financial security and safety for family members who pursue careers and professions that have a high social impact.

Lastly, create a governance structure or framework for decision-making and actions congruent with the family’s values.

This is often the most difficult but rewarding part, and each member of the family can and should have input. It can be as formal as a family mission statement and a value set for the family or a simple set of agreed-upon priorities related to handling money within the family.

An example of this can be an outlined agreement to fund higher education and experiential learning that encourages the value of developing family members into lifelong learners. Another would be assistance with a first home and a starter car to provide for broader choices and pursuit of socially impactful but low-paying careers. With the framework in place, a sense of balance and purpose in decisions around wealth is created.

Each of these basics takes time and thoughtfulness to implement. They are the first steps to healthy relationships with wealth in families. The mechanics of transferring multi-generational wealth to future generations require extensive expertise in estate tax, income tax and asset management strategies.

But it can all be undone without financial literacy, broad definitions of wealth, and shared decision-making within the family. With a combination of the two, lasting legacies are created.

K. Patrick Amey is a CERTIFIED FINANCIAL PLANNER professional and a member of Financial Planning Association of Greater Kansas City. He is an Adviser and Wealth & Investment Manager with FAS (Financial Advisory Services, Inc.) in Leawood.