Thank you to co-authors William Kambas and Linda Meade for this week’s FFI Practitioner, which begins a periodic series of editions dedicated to topics related to private trust companies. Today’s article walks through the purposes and scope of a family constitution, as well as their value to families and practitioners alike.

This article addresses a governance tool available to founders, owners, managers, and family enterprise advisors of family offices and private trust companies: a family constitution. It explores the topic from a legal perspective and applies it to the key entities in family enterprise, namely the family office and the private trust company, each of which is a “private family management company (PFMC).”

A family constitution is valuable because it provides owners and family members with a vehicle to memorialize core rights and expectations that will ultimately serve as guiderails, parameters, and direction for management and advisors to ensure the efficient and effective operation of entities within the family enterprise.

A family constitution is a somewhat amorphous concept. It may be a set of values, it may be a set of rules, or it may be an agreement on whether and how to create a set of rules. For purposes of this article, we compare the family constitution to a fund’s private placement memorandum (“PPM”) because both the family constitution and the PPM summarize the general framework for the participants (founders, fiduciaries, investors, and family members, as the case may be) and address qualitative points and quantitative metrics relating to administration and operations—a social contract of sorts. The PPM outlines the key persons, offices, and strategy of the fund, but the specific details are contained in a more formal partnership agreement. Similarly, a family constitution, while not a legal document, can address family expectations for involvement, management, and potential recourse, either separately or in connection with a letter of wishes to family fiduciaries. These could include other documents, such as a trust agreement and/or special purpose vehicles, that would memorialize specific details.

Purpose of a Family Constitution

A well-drafted family constitution outlines principles and expectations to be applied when managing certain designated family matters, including even the definition of “family,” recognizing that defining a family is deeply personal and varies widely depending on cultural, social, and individual perspectives. A traditional social view may define a family as individuals related by blood, but what complicates a unified definition of “family” is that family may include formal relationships recognized by law, e.g., marriage, adoption, or guardianship, as well as more diverse family structures such as blended families, families formed through surrogacy, and “chosen” family who are not biologically or legally related. Ultimately, every family is unique, and the family constitution provides an effective way to memorialize the approach most appropriate to a family group.

A family constitution can also serve practical purposes by outlining the various roles and responsibilities of the family members, owners, and managers as well as establishing governance and dispute resolution protocols that can then be drafted and incorporated consistently into the PFMC governing documents and operations. Through the process of discussing and creating a formal written document, a family constitution moves beyond often unspoken expectations and unwritten rules and provides a clear reference point—an agreement—for the family, PFMCs, and their trusted advisors.

Scope of the Family Constitution

A family constitution is a highly personal document that will vary according to the specific circumstances of each family. While a variety of topics might be addressed in a family constitution, a well-drafted family constitution will typically address one or more of the following issues:

Purpose. For instance, why is the family choosing to stay together in a cohesive family enterprise? A family constitution can answer this question, creating alignment among family members and family branches, as well as the PFMC and trusted advisors. It can also incorporate the core tenets for coordinated management and control of the family enterprise. Similar to a PPM that outlines the investment strategy of a fund, a family constitution can establish direction for family members and advisors that is then woven through the family enterprise.

Rules, Roles, and Responsibilities. Another question that can be addressed in a family constitution is “Who gets to make family rules, define the parameters of those rules, and then administer them?” Administration of sophisticated enterprises is both dynamic and complex. Expectations of the parties involved can vary. A family constitution can outline the process by which each of these parties communicates and interacts with one another, and it can address family members’ expectations from their PFMC. These policies and procedures can provide clarification and help prevent misunderstandings and conflict.

Governance and Dispute Resolution. Family disagreements and misunderstandings inevitably arise from time to time. How will they be addressed, and by what process? As much as funds provide the ability for investors to seek reconciliation from management if certain expectations are not met, a family constitution can memorialize the time, place, and process for family members seeking clarification. Further, just as a fund’s PPM addresses the operation of the fund’s investment committee, a family constitution might include operating guidelines for the PFMC’s committees.

Improvements and Evolution. Recognizing that governance, decision making, and dispute resolution are each delicate matters, a family constitution should include a process for amendments and additions, much as operating agreements have amendment allowances.

Drafting the Family Constitution

The process of creating a family constitution will depend on who is driving the effort. The well-recognized Three-Circle Model,¹ developed by Renato Tagiuri and John Davis in the 1980s, is a helpful framework in recognizing complementary interests, relationships, and expectations within a family business system. A successful drafting process often includes a collaborative approach, welcoming participation by a coalition of interested family members representing diverse perspectives.

A family constitution is a shared and open document among the family. Family members—and PFMC leadership—must know and understand the family constitution in order to adhere to its principles. It may also be beneficial to share appropriate portions of the family constitution with relevant business leaders to help ensure that their strategy conforms to the family’s guiding principles and philosophies. This approach may require educating family members, particularly members of the rising generations as they reach adulthood, to prevent risk of disintegration as the family expands and evolves. As family circumstances change, it will be necessary and appropriate for the family constitution to be reviewed, refined, and updated. A family might consider establishing an education and review policy in the family constitution whereby the chief learning officer, a compliance officer, or a family member leads a periodic review of the family constitution to ensure that the document remains relevant and consistent with the family’s wishes and needs.

Conclusion

Tactical execution of family enterprise activities by a PFMC, an enterprise’s owners, and key non-family members requires appropriately calibrated procedures and formalities to ensure that operations are efficient and that the best interests of the family are served. When drafted effectively, the family constitution can serve as a practical operational guide for family members, family offices, private trust companies, and the advisors that serve them, while also helping to preserve and strengthen the family’s unique attributes over generations.

Reference

¹ Tagiuri, Renato, and John Davis. “Bivalent Attributes of the Family Firm.” Family Business Review 9, no. 2 (1996): 199–208. https://doi.org/10.1111/j.1741-6248.1996.00199.x

About the Contributors

Linda B. Meade is a senior associate in the private client and tax team of Withers Bergman LLP. She advises US and non-US families, business owners, and investors on structuring, tax, and compliance matters, with an emphasis on the formation and administration of single-family offices and private trust companies. https://www.withersworldwide.com/en-gb/people/linda-meade