In the April 2013 issue of Trusts & Estates, I discussed what a family bank is and some of the benefits and the importance of good governance with independent judgment and oversight in making funding decisions. In this article, I’ll focus on why I suggest families consider structuring and operating their family bank as a transparent, flexible trust that holds and funds a limited liability company (LLC) entity with an independent oversight body. 


Five Objectives

Before discussing what types of structures should be considered, a fresh look at some good objectives for family banks will help set a healthy direction, although each family may want to add to or modify these:


1. Assist the next generation in developing their own human, intellectual and financial capital;

2. Accommodate varying interests and needs over time; 

3. Be sustainable and available for future generation participation;

4. Create governance systems that can be adapted to each generation; and

5. Build healthy family relationships.


One of the most frequently stated desires families have expressed is building healthy, long-term family relationships. For many families, patterns of good and bad behavior tend to repeat themselves. Recurring patterns of bad behavior can become a real challenge. 

Maybe even worse, creating structures, terms, policies or rules that are more likely to foster bad behavior could destroy family relationships, enterprises and wealth. 

Families that work (and play) to develop healthy family behaviors, interpersonal skills and cultures that build human capital and relationships tend to have better outcomes. A family bank should promote healthy behavior, relationships and development.

When families don’t focus on engaging and empowering the next generation to develop perseverance, self-reliance and a sense of accountability, they significantly increase the risks of destroying family relationships, human, financial and social capital, as well as any family enterprise. Everyone is different. What worked for a prior generation won’t necessarily fit for the next generation. The next generation may even find it needs to modify its own governance system over time. Old wishes and governance systems can become less relevant and respected, and they can eventually create poor family dynamics. History, tradition and storytelling can provide powerful touchstones, but it’s important not to repeat bad patterns or freeze progress for the sake of nostalgia. 

For family banks to be healthy and sustainable across generations, they must remain relevant to the family’s interests and needs over time. They must be adaptable and responsive to the family, and the family must be engaged. However, family banks shouldn’t be used as  pools of funds, making free gifts, distributions or transfers. Family banks should expect returns in the form of financial, human and relationship development.

A family bank should also address tax and estate-planning matters, as well as consider any potential regulatory issues. However, the entities, structures or options that yield the optimum tax and estate-planning objectives may not result in achieving other overall family bank objectives. Each family should become well educated on family banks and thoughtfully consider their own objectives and the best options, prior to choosing an entity. 


Five Principles

When family members gather to consider creating a mechanism to provide intra-family financing, such as a family bank, there are some useful principles to keep in mind: 


1. Customize

2. Democratize

3. Flexibilize

4. Harmonize

5. Professionalize 


These principles will provide families with a strong framework for a thoughtful dialogue, so that all of the participants, regardless of their individual or collective objectives, can carefully consider the options that best fit their unique family culture, interests and needs, while also providing future flexibility.


Issues to Discuss

The purpose, scope, size, funding criteria, anticipated level of activity, appetite for risk, governance, participation qualifications, general terms of the financing, guarantees or collateral, type of funding available and plans for tax and estate planning are just some of the issues that families should discuss. Some families also may want to emphasize a good return on investment, while others may want to focus more on return on human capital development or even the return on family relationships. One size doesn’t (and can’t) fit all. With a thorough education about family banks, good family governance can help family members openly discuss and communicate the objectives, goals and tenets for a customized family bank, which can then be formalized with the help of advisors.

While each generation should respect and learn from the past, each should have the ability to adapt a family bank structure and governance to fit its own visions, passions and needs. Creating entities, documents or governance or administrative systems that aren’t adaptable across generations can create misalignment, resentment and unhealthy family dynamics, thereby derailing well-intended efforts. Rigidity, over control or domination by a few can spawn unintended disunity, even among family members with healthy relationships. 


Need for Flexibility

A well-crafted family bank entity and its related governance system and operation should be highly customized for each family, yet it should be democratized and flexible for each generation, with policies and terms that constantly work to harmonize relationships. Creating static entities or administrative or governance systems that tend to be highly resistant to change or that are legally structured to be more centralized or dominating can distance or disengage family members, hinder their experiential development and destroy motivation and

In addition, overly complex and rigorous family banks can stifle the next generation’s interest and participation and become too difficult to understand, oversee or administer. Family banks should inspire and assist the next generation and be easily understood and governed, as well as transparent. 

Furthermore, if a family bank entity is formed just to provide funding on request, without engagement or accountability, then it will tend to promote a sense of entitlement and create passivity in the next generation. This coddling won’t assist the next generation in developing its own human, intellectual and financial capital. 


Goals and Purposes

Due to its special objectives and purposes, a family bank should be a separate entity from outside commercial banks providing funds for everyday living or medical expenses. A family bank is a family business that’s best focused on its primary mission—assisting and empowering the development of the next generation—not simply providing a direct source of income. While some families may choose to include philanthropy as a family bank activity, that decision may also jeopardize the family bank’s sustainability for future generations.

Gifts, distributions or informal loans shouldn’t be confused with a professionalized family bank. A family bank must be structured to help ensure that intra-family funding is made available under healthy processes and policies with formal terms and proper documentation so that future tax liabilities and poor family dynamics don’t arise.

Providing intra-family financing to the next generation can encompass a wide variety of interests and needs, such as funding equipment for a summer job, purchasing an apartment during college, helping with a mortgage for a home or obtaining loans or equity investments to start a business. To help professionalize a family bank, like a family business, each family bank should have some form of independent oversight with fiduciaries and advisors. 


Creating Transparency 

Certain decisions and issues regarding shared family assets or resources can create significant emotions within families, particularly if there are perceptions of bias, informality, randomness, unfairness or a lack of transparency. Opening up the process with healthy communications and using trusted, outside advisors to provide oversight can help family banks democratize, harmonize and professionalize their operations. 

The outside advisors should be respected, independent individuals with business experience, wisdom and an understanding of family enterprises, entrepreneurship and family business governance, as well as a wide variety of interests. However, the family bank, for the many reasons described previously, should be relevant and adaptable to the next generation’s interests. Therefore, the outside fiduciaries and advisors fulfilling duties on any board, committee or as trustees should be acceptable to the next generation. 

Each board member, committee member or trustee, and each of their bodies, has a distinct set of duties. We know trustees have legal duties that are quite different from those of a board of directors. Each group has their own unique legal duties and lens to guide their decisions. For example, a board of directors uses the business judgment rule, as well as corporate statutes, rulings, regulations and guidelines to deliberate and make decisions in the interest of its shareholders, company and constituencies. 

Committees, on the other hand, can vary based on the terms stated in the bylaws, trusts, laws, regulations, rulings, guidelines, charters or other documents. Investment committee charters can also refer to certain standards, acts and practices that can both assist and hinder the judgment of their members, particularly when the objectives of the family bank go beyond investment goals and performance.

If the structure and its administration and control remain static and can’t reflect or adapt to future interests, future generations may not participate, or worse, may resent or rebel against outdated criteria. This is a frequent occurrence with many inflexible trusts, which have no mechanism to democratize, yet hold vital family enterprises and resources. For such situations, a small portion of those resources could be allocated to a special democratized entity that can help engage and develop the next generation. Again, a family bank is a family business focused on assisting the next generation.



The family bank system must also provide for a family to engage, communicate openly and make decisions together. Engagement is key for the development of the next generation, and it starts with a good family governance system. The family bank governance system should work closely with the family governance, and vice versa. Legal documents can provide for terms related to the capitalization, application, funding criteria, loan terms, review, accounting and reporting policies, as well as many other terms, but efforts should go far beyond these examples.

Therefore, it’s important to educate family members about the powers and limitations of family banks, so that they understand all that the family (including the next generation) is seeking to accomplish, as well as understand the participants, the bank’s scope, funding and estate and tax planning matters, before forming the bank.


Model Structure

Putting the five principles into practice for the family bank entity and considering the five objectives suggest a model different from a single, traditional, controlling trust or simple corporate entity. Although some families may choose to use a trust, family limited partnership or private family trust company as their family bank, I suggest they consider a more accountable, democratized, flexible and transparent trust that’s focused on the needs of the next generation. This trust would hold and fund a more easily adaptable and professionalized LLC entity, with an electable, high quality, independent oversight body determined by next generation family members. 

The trust and the LLC should be designed to interface and work together, and they should be aligned and coordinated with a strong family governance system. Each should have thoughtfully crafted documents, terms of agreement and key policies with future flexibility in mind. They should evolve over time, perpetually preparing for the next generation. 

A family may also choose to start small, with just the LLC. However the source of funding and its future treatment, as well as future tax and estate matters, may become issues. 

With trusts and trustees alone controlling and administering the funds, next generation family members will tend not to have the strong self motivation, engagement or rich experience in developing their own human, intellectual and financial capital. Nor will there be a working governance system to assist future generations with building healthy relationships.

While the purpose, economics, scope, size, tax issues and the extent of the family bank’s activities will also help determine the appropriateness of the entity’s structure and choice of state of formation, it’s advisable to consider which states provide the most flexibility and progressive statutes to achieve the five objectives and principles.