Lack of legacy planning can hurt businesses, family harmony
This article was written by Yong Jun Yuan and first published in The Business Times on 26 Oct 2022.
- Without legacy and succession planning, HNW individuals risk facing a number of pitfalls.
- When your assets are distributed intestate, the outcome may not be aligned with your wishes.
- Tension and disputes may also result if there is no clear guidance on distribution of assets within the family, over issues such as the ownership of assets or guardianship of the surviving children.
- For the modern affluent, there are a number of common estate planning tools at their disposal. Among these tools, life insurance has been increasingly popular.
- Beyond leaving a legacy behind, HNW individuals can also employ insurance as part of their business succession plan.
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Even as more high-net-worth (HNW) individuals emerge in Singapore, recent surveys have shown that they may not have prioritised legacy planning or succession planning. This could, in some instances, jeopardise the family harmony and businesses that they have worked so hard to establish.
According to real estate agency Knight Frank's Wealth Report 2022, the number of individuals with at least US$1 million in net assets climbed 126 per cent to 526,370, between 2016 and 2021. By 2026, Knight Frank's Wealth Sizing Model expects this figure to expand by another 13 per cent.
The report noted that this growth has been driven by Singapore's conducive environment for growth for wealth management providers, and especially asset management players and family offices.
Yet, research firm Asian Private Banker also found in its Succession Planning 2019 Report that 57 per cent of Asia's HWN individuals have not done any legacy planning, compared to just 32 per cent in the West.
In the same report, relationship manager respondents surveyed said that only 40 per cent of their clients have planned or are currently formulating their succession plan. This lack of preparation was evident even in clients above the age of 50, 25 per cent of whom believed it was too early to start planning their succession.
Asia's HNW individuals also appeared to be more hesitant to discuss financial matters within their families.
"Their hesitation stems from cultural taboos in discussing death, a fear that their successors are not ready to take control of the family assets, and/or their concern that discussing succession planning with their family may lead to internal disputes," the report said.
The lack of familiarity with succession planning was also cited as a reason for clients not actively planning their succession.
Failure to plan
Without legacy and succession planning, HNW individuals risk facing a number of pitfalls.
Head of DBS Treasures Singapore Steven Ong noted that without legacy planning in Singapore, one's assets will be distributed according to the nation's Intestate Succession Act, while a Muslim's assets will be distributed under Islamic Inheritance Law provided for under the Administration of Muslim Law Act.
"The process could take months longer, with outcomes that may not be aligned with your wishes," he said.
In addition, estate duty may be levied on one's property or investments overseas, even if estate duty in Singapore has been abolished since February 2008. This could lead to a significant reduction of an individual's assets upon death.
Ong noted that estate tax in the US ranges from 18 per cent to 40 per cent, which applies to US securities and US-domiciled investments. In Japan, the estate tax ranges from 10 per cent to 55 per cent.
Furthermore, he cautioned that tension and disputes may result if there is no clear guidance on distribution of assets within the family, over issues such as the ownership of assets or guardianship of the surviving children.
"If a large proportion of the assets are being held in fixed assets or businesses, it may be difficult to equitably split assets with one's beneficiaries as well," Ong said.
Another way HNW individuals can support their loved ones is by leaving a business behind, especially if it makes up a large part of their net worth.
However, while the initial owner of a family business may both own and manage the business, this may not be the case when the individual passes. Instead, ownership may become dissipated to family members and beneficiaries who may not be involved in the business.
"This may lead to business disruption should the beneficiaries not have experience or knowledge about running the business," Ong noted.
Different forms of insurance
For the modern affluent, there are a number of common estate planning tools at their disposal, including wills, Central Provident Fund nomination, insurance nomination, Lasting Power of Attorney and the setting up of a trust.
Among these tools, life insurance has been increasingly popular, said Ong.
"Its feature of providing a guaranteed lump sum payout provides certainty in the creation of value for the estate.
"Proper legacy planning involving life insurance can help grow your estate and provide greater liquidity during your retirement years without compromising your current lifestyle," he said.
Although life insurance for non-HNW individuals tends to be used as a means to provide for the cost of living of dependents, children's education needs and paying off loans, HNW individuals who have enough assets to cover these needs could use life insurance to meet their legacy planning needs in broader ways.
He added that it is often a good idea to invest funds set aside for legacy planning in a life insurance policy to enhance their legacy.
Of the different forms of life insurance that are currently available, two types are more commonly used to address legacy planning needs: universal life insurance and participating whole life insurance.
In the case of universal life insurance, it is a whole life insurance policy that offers a death benefit and which builds cash values that an individual will have access to.
These cash values earn returns at a declared rate which may vary, although most universal life plans guarantee a minimum crediting rate. The insurer also cannot decrease it beyond the minimum crediting rate which can be set at zero per cent.
Ong said that such an insurance policy is helpful as the accumulated cash value can be accessed in times of need. Individuals can also choose to pay a single premium or pay premiums flexibly over time.
However, he also noted that projected cash values are not guaranteed and subject to the performance of the underlying assets held by insurers or underlying index performance.
Individuals should also consider buying such policies only if they are able to afford the premiums without loans. If they fail to pay their premiums, they could lose capital when the policy is terminated early.
As for participating whole life insurance, it provides a person with lifelong protection. Part of the premiums is also invested in a participating fund managed by the insurance company, which then pays out the minimum protection amount or sum assured plus accumulated bonuses, whichever is higher.
Because individuals pay a one-time premium for the insurance, they do not have to worry about future premiums and can accumulate cash values with some level of guaranteed returns.
However, Ong cautioned that bonus declarations in such plans are not guaranteed and subject to the investment performance of the participating fund. It is also possible to lose capital if the policy is terminated early.
Ong noted that an advantage of life insurance is that it is a good equalisation tool that helps allocate wealth fairly to one's beneficiaries.
As HNW individuals may hold more illiquid assets such as business interests, real estate, antiques and art, the sudden demise of the individual could force loved ones to liquidate these assets, potentially when the value of such assets are low. The process could also take a long period of time.
With life insurance, loved ones can receive immediate liquidity for their day-to-day living expenses, buying them time to avoid selling these assets at low prices, Ong said.
"The division of illiquid assets can sometimes also be tricky. What if the values of each asset distributed to separate children are worth very differently? This can potentially give rise to disharmony within the family." he said, adding that the life insurance payout can help equalise this and make the distribution more equitable, reducing possible family friction.
As markets remain volatile, Ong said individuals could also seek portfolio diversification through life insurance policies, especially if a large part of their assets are in higher-risk instruments.
"As a complement to one's businesses and investments, life insurance provides a more reliable stream of returns and can pay out a lump sum to the estate upon the insured's death," he said.
Insurance as part of business succession planning
Beyond leaving a legacy behind, HNW individuals can also employ insurance as part of their business succession plan.
One way that insurance can help with this is through the use of universal life insurance to insure against the loss of key talent in a company.
For instance, if there is a sudden demise of a key employee, a business may run into issues where clients may lose confidence in the business, or creditors may demand immediate payment, fearing that the company may become insolvent.
If the key employee was insured, the company would be able to receive a lump sum payout from the policy, which could then go towards any additional liquidity needs to reassure clients or creditors as well as the hiring of a replacement.
"This additional liquidity also assures clients and creditors of the company's ongoing ability to function, thus avoiding a confidence crisis when a key employee is suddenly lost," Ong said.
Even if HNW individuals do not have heirs, Ong noted that unmarried single individuals may also wish to ensure that they can contribute towards their believed cause or any other specific loved ones in their lives.
"A specially arranged life insurance policy allows for such an individual to significantly magnify their contribution towards these causes with the larger insurance payout proceeds," he said.
Whatever their needs may be, Ong noted that legacy planning can be challenging to navigate because of the complex strategies they entail.
"Such complex strategies cannot be accomplished in a DIY (do-it-yourself) approach, and it is therefore important for HNW individuals who are serious about constructing and implementing legacy solutions to work with professionals to maximise the effectiveness of their legacy plan," he said.
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Disclaimers and Important Notice
This article is for information only and should not be relied upon as financial advice. Any views, opinions or recommendation expressed in this article does not take into account the specific investment objectives, financial situation or particular needs of any particular person. Before making any decision to buy, sell or hold any investment or insurance product, you should seek advice from a financial adviser regarding its suitability.
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