Financial literacy — the knowledge of financial matters needed to make informed judgments and decisions on the management of money — has become an increasingly important skill for anyone making decisions in today’s economy.
Perhaps nowhere is financial literacy more important than within a family business. Knowing the basics of credit and debt, how to read a P&L statement, or the fundamentals of investing can be the difference in both your business and personal wealth passing to grandchildren and beyond or ending in bankruptcy with the next generation.
Today’s financial marketplace is increasingly complex with the sheer number and complexity of financial products growing daily. Whether buying a house, saving for retirement, or transitioning a family business, the decisions that have to be made require working knowledge of finance, economics and accounting. For individuals who will eventually lead their family’s business, the complexity of those decisions increase exponentially. The majority of the American population as a whole would be deemed financially illiterate, and while you may expect business owners to be better, we see a similar percentage of business owners unable to understand basic financial concepts.
As a family business owner, you have numerous issues to address when developing an effective business succession plan, from identifying the family members who will take an active role to coordinating the estate plan. Incorporating a financial education program into your overall succession planning will give your children and grandchildren the tools to succeed in implementing your plan.
Not only do your children need to understand the basics to make sound personal and business decisions, they should have a cursory knowledge of the more advanced planning you’ve put in place. Often, in addition to the successful business you’ve built, you have significant personal wealth away from the business, whether it be an investment portfolio, real estate, or life insurance. Further complicating the situation, you may have various estate-planning vehicles and trusts holding these various assets.
There are three areas that should be addressed when developing a financial education program for family businesses: 1) the basics of personal finance; 2) the basics of business finance; and 3) the not-so-basics and interaction between personal and business finances. The goal shouldn’t be to make everyone experts, but to provide enough knowledge so they can make informed decisions with the help of professional advisors. The specific topics should include budgeting, credit and debt, insurance planning (business, health, life, etc.), investing, tax, business financial statements and estate planning.
An effective financial education program should focus on age-appropriate activities. Classroom-based training can provide a good base but should be supplemented with real life experiences whenever possible. Your team of professional advisors is a good resource to tap to begin the process. Many financial advisors, estate planners and accountants provide semiformal, classroom-type seminars and classes discussing relevant topics, often specifically targeted toward the younger generation.
Members of the Family Business Alliance are also able to participate in educational opportunities that will offer the next generation exposure to financial topics.
No one wants to be the man who thinks as long as he has checks in the checkbook, he has money in the bank account. Yet we’ve seen this very example in our practice with a spendthrift son overdrawing his account and leaving dad to clean up the mess. The basics of personal finance can begin as early as age 5 with a piggybank partitioned into spending, saving and donating compartments. As early as age 10, your child can open a savings account and begin discussing the basics of banking. Formal training in high school and college can begin to cover the basics of budgeting, college funding, career planning, credit and debt, investments, insurance and estate planning. There are a number of resources available on the Internet or possibly through your professional advisors to provide training.
Just as important, create opportunities where your children can apply that knowledge. If your teen is saving for a car, help him or her create a budget. Include family members in your annual charitable giving discussions; a donor advised fund is an excellent vehicle to pass down your values and philosophy regarding money.
No one wants to be the business owner who thinks he or she has turned a profit for the year simply because the checkbook has a positive balance on Dec. 31. Every business owner should be able to read a Profit and Loss, Balance Sheet and Cash Flow Statement. Again, formal training can provide working knowledge in these areas. Including the next generation in meetings with your accountant or CFO will drive home what they’ve learned in books or seminars.
With a solid base of personal and business finance basics, the not-so-basic education can be delivered in a “just-in-time” format. For example, the pros and cons of an Intentionally Defective Grantor Trust can be outlined and discussed with your professional advisors prior to making a decision. If you’re not already doing so, it is highly recommended to have annual family meetings to discuss the family’s finances and the planning you’ve put in place. An advisor can be present to facilitate the conversation and provide details on more complicated strategies.
You don’t need to discuss specific dollar amounts with your children if you’re not comfortable doing so; many people simply review the general theme of the planning — for example, letting the family know Johnny will inherit the business but Susie will receive the proceeds of a life insurance policy. The family meeting is beneficial from a number of standpoints. It provides your children and grandchildren a forum to ask questions; you can clarify your wishes; and it can be an excellent learning opportunity.
Family business owners often assume that by being around money and business, the next generation will learn by osmosis. Financial literacy is a lifelong process that takes the concerted effort of parents and advisors. Give the next generation the tools to become financially responsible business owners.
Jeff Nauta is a principal with Henrickson Nauta Wealth Advisors in Belmont. He can be reached at firstname.lastname@example.org.