What are the benefits and risks of setting up a family office? While many wealthy investors use companies to manage their portfolios, it may make sense to transition to a family office once a family’s net worth reaches a certain threshold. A family office can consolidate a high-net-worth family’s financial affairs in a central location, streamline wealth management, and oversee intergenerational planning.

Although there are numerous advantages, family offices can also face certain risks if they are not carefully structured and managed — including scrutiny from the IRS. It’s crucial to carefully consider the benefits and drawbacks of setting up a family office to determine whether it is right for your specific circumstances.

What is a Family Office?

A family office is a private advisory firm that handles the financial matters of a high-net-worth family. It utilizes various experts to manage all aspects of a family’s wealth — including investments, philanthropy, real estate, tax planning, financial administration, and estate planning. A single-family office serves one family exclusively. A multiple-family office serves multiple high-net-worth families simultaneously, and is structured like a traditional wealth management firm.

What are the Benefits of Setting Up a Family Office?

Setting up a family office can have many benefits for high-net-worth families. Unlike traditional wealth management, a family office can be tailored to meet the family’s unique needs and achieve their specific financial objectives. Since all aspects of the family’s financial affairs are consolidated in one place, it can offer a holistic view of their assets and allow for better decision-making.

Some benefits of setting up a family office can include the following:

• Flexibility — Since family offices are generally not constrained by the strict mandates that apply to institutional investors, they have more flexibility when it comes to pursuing long-term, strategic investments.
• Direct control — With a family office, decision-making powers are not delegated to external investment firms.
• A higher level of privacy — A family office can offer greater privacy, compared with traditional financial institutions. Sensitive and confidential financial information remains in-house, instead of being handled by a third-party advisor.
• Tax optimization — Family offices can implement proactive, efficient, and sophisticated tax planning strategies to minimize tax liabilities.
• Cost-effectiveness — Managing assets internally can be more cost-effective for ultra high-net-worth families than hiring external advisors.
• Alternative investment options — Family offices generally have access to a wide range of investment options, including alternative investment opportunities.

By developing a comprehensive strategy to manage a family’s financial affairs, a family office can help ensure generational wealth preservation and long-term financial stability.

Understanding the Risks of Setting Up a Family Office

Although there are many advantages of setting up a family office, there are also a number of financial, operational, and legal risks to consider. This wealth management vehicle is costly to establish and expensive to maintain — and it’s essential to weigh the benefits of a family office with the potential drawbacks to avoid eroding family wealth and relationships.

Some risks involved with a family office can include:

• Investment losses — Family offices are subject to investment losses due to market volatility, economic risks, poor investment selections, and inadequate oversight.
• Family conflicts — If there is no clear governance structure in place, there can be disagreements regarding investment strategies and decision-making processes, resulting in family conflicts.
• Tax liabilities — Family offices face a wide range of tax liability risks due to the complex nature of their operations. They may encounter tax liabilities in connection with income tax, estate taxes, investment-related taxes, philanthropy, and cross-border tax issues.
• Reputational harm — Mishandled investments and poor governance can lead to reputational damage for the family.

To mitigate the risks potentially associated with a family office, it’s critical to establish a formal governance structure and create a detailed investment policy statement. A family office should also conduct compliance reviews and audits on a regular basis. A skillful tax professional can help you navigate the complexities of the IRS’s regulations, optimize your tax strategy, and ensure you meet your obligations.

Contact an Experienced Tax Professional

Setting up a family office requires careful and strategic planning. It’s vital to have an experienced tax professional by your side who can best assist you in mitigating risk and maximizing your returns. Based in Fairfield, Connecticut, Rolleri & Sheppard CPAS, LLP works with high-net-worth individuals and families for complex tax planning matters and is dedicated to providing customized solutions and tailored strategies. Contact us online or call (203) 259-CPAS to schedule a consultation.