Family Office

Defining The “Modern” Family Office? – Industry Weighs In On SEC Proposal

Wendy Connett Editor New York 9 December 2010

Defining The “Modern” Family Office? – Industry Weighs In On SEC Proposal

More than 80 industry insiders weighed in on the Securities and Exchange Commission’s proposal on how to define family offices.

More than 80 industry insiders weighed in on the Securities and Exchange Commission’s proposal on how to define family offices as the comment period came to a close last week.

Most, not surprisingly, believe the definition of founder and family members to be too restrictive. Some even suggest eliminating the definition of founder altogether.

The SEC is acting after the Dodd-Frank Wall Street Reform and Consumer Protection Act was passed earlier this year. Historically, family offices have not been required to register with the SEC under the Advisors Act of 1940 because of an exemption provided to investment advisors with fewer than 15 clients.

The Dodd-Frank Act removes that exemption but includes a new provision requiring the SEC to define family offices in order to exempt them from regulation under the Advisors Act.

The SEC’s proposed rule states that a “family office” is any firm that:

- Provides investment advice only to family members, as defined by the rule; certain key employees; charities and trusts established by family members; and entities wholly owned and controlled by family members;

- Is wholly owned and controlled by family members;

- Does not hold itself out to the public as an investment advisor.

Below are highlights of some of the comments submitted:

- Perkins Coie, which represents The Private Investor Coalition, wrote that “..the Coalition urges the Commission to determine that, to be a single family office, the founder must be a lineal descendant of some common ancestor whose economic prowess created the family's wealth.” It suggests deleting theproposed definition of founder “because of the daunting complexity of drafting a comprehensive definition that would suit the diverse needs of so many single family offices.”

It also suggests the term be left undefined “to give the families involved flexibility in determining who, for purposes of that single family office, is deemed to be the founder, and thus from whom the family tree described in the defined term family member will grow and be populated for purposes of the final rule.”

The Coalition supports the inclusion of adopted children, step children and spousal equivalents. It also supports allowing former members of the family to retain any investments made through the single family office, but opposes the restriction on making any new investments through the single family office.

Several other commenters also suggest deleting the definition of founder.

-One of them, law firm Foley & Lardner, believes the definition of founder is too restrictive because it assumes that the family office was established for the benefit of the founder. Often a family office is established for the benefit of the founder’s lineal descendants (often after the founder has passed away), it maintains. “Looking more closely at the definition of founder, it appears the definition is unnecessary because the key to the family office exemption should be whether such family office is operated for the benefit of the members of a single family, and this result can be achieved without the definition.”

The law firm also believes the definition of family member is too restrictive because it excludes as clients of a family office persons who on many occasions are included in the family office. “For example, the definition excludes grandparents of a founder and the siblings of parents and grandparents of a founder, along with the spouses and lineal descendants of such parents and grandparents.  The definition also appears to exclude trusts established for the principal benefit of a family member.”

-Douglas Regan, president of Northern Trust’s wealth management group, is also among those who would like the definition of founder deleted. “We suggest that it would be better policy to delete the definition of founder…because it would be difficult to draft a comprehensive definition that would include the myriad of ways family offices are set up,” he penned.

-Ropes & Gray also takes issue with the proposed definition of founder. “…by focusing the definition of founder and, in turn, family member on the person establishing the office but not necessarily the person creating the family wealth or prevailing family legal instruments, the proposed rule will inadvertently fail to cover many family offices,” the law firm wrote. “Often the family office has been established by a lineal descendant of the person who originally set in motion the creation, preservation, management and application of family wealth. Over time the founder of the office comes to be joined in the endeavor by siblings, cousins, aunts and uncles seeking to pool expertise and expenses with respect to their mutually inherited resources.”

-Law firm Levin Schreder & Carey sees the SEC’s definition of founder as appearing to be limited to one person and that person's spouse or spousal equivalent “…but it would be common for several siblings or cousins to join together and form a family office.”  It suggests that founders be defined to allow more than one, but require that the founders have at least one common ancestor or be spouses or spousal equivalents to each other “in order to maintain the concept that the office is serving a single family.”   

- Law firm SNR Denton is also concerned that the definitions of founder and family member are not broad enough and “that legitimate family offices and the family clients that they serve may be excluded from the benefits of the proposed rule, which does not reflect the historical and current structures of family offices.”

-The American Bar Association agrees. “Although family offices are often founded by or for the benefit of the individual that created a family’s wealth, that is not always the case.  For this reason, we believe that the proposed rule’s definitions of a family member and founders are under-inclusive.”

ABA recommends that the definition of family member be broadened to include the founders’ step-parents, step-grandparents and grandparents and the spouses and spousal equivalents of all of these individuals as well as allowing for siblings and lineal descendants.

-Davis Polk & Wardwell also sees the definition of founder as too narrow. “We suggest permitting each of the natural persons who set up the office (and the spouse or spousal equivalent of each such person) collectively to be considered the founders (i.e., of the family office) but requiring that these founders (each of whom must be alive at the time the office is set up) have a common parent, grandparent or great-grandparent (i.e., the founders may be related as siblings, cousins or second cousins),” it wrote.  “Correspondingly, we believe that the lineal descendants (whether by birth or adoption, and including step-relationships) of such common great-grandparent, and such descendants’ spouses (or spousal equivalents) should be included in the definition of family member.”

-The Blum Firm, a law firm, suggests that the definition of a family member should be expanded to “include any trust for the sole benefit of one or more family members and any estate existing for the sole benefit of one or more family clients. In many cases, once the founders have passed away, their interest in the family office will no longer be owned by a natural person. This is the case because many wealthy individuals transfer all of their assets into a trust(s) for the benefit of their descendants.”

The Blum Firm’s stance on including trusts was echoed by several other commenters.

The SEC estimates there are between 2,500-3,000 single family offices managing more than $1.2 trillion in assets. It must adopt a rule defining an exempt family office before the sweeping regulation goes into effect next July.


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