How does the US economic and tax system effect what you leave to your children?

How does the US economic and tax system effect what you leave to your children?

The United States economic system incentivizes investment in public markets for those seeking liquidity, and investment in private markets for those seeking to acquire good businesses at a discount or get access to new types of investments. The system incentivizes investment in secure assets for those seeking preservation of capital and investment in growth assets for those seeking to maximize their return on their invested dollars.

The United States tax system incentivizes holding assets until a family is forced to sell, resulting in the concentration of wealth into historic investments made during the times the family had excess capital. In most cases, investments are not made ratably by a family. Instead, families have liquidity periods and then investment periods, followed by relative stagnation. That is more typical. That is not how advisors tend to plan.

Investment returns over long periods of time are not equal. Investment risk and liquidity needs are also not constant over time. Nevertheless, families become trapped in illiquid investments. Families often have true illiquid assets - those that are hard to sell, for which there are few buyers and high costs of sale. But there is a different type of illiquidity as well - families get trapped in specific investments that have become illiquid due to their own successful performance.

For families with substantial wealth created from one or two liquidity events, they will end up investing at specific times when certain trends exist, certain investments are "hot," and structures are prevalent. They make decisions in this environment to deploy much of the capital they will ever deploy - for the rest of their lives. A family's investment choices today create the constraints they will need to fend off in the future.

What does this mean for us advisors? What does it mean for families? Where do the incentives drive families today?

A system that rewards holding until death encourages families to preserve the complex wealth system they already have. It rarely rewards them for dismantling it.

Part of Wealth Machine, a Secret Art of Planning series.

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