How should windfall gains be prudently managed to ensure long-term financial stability?

One evolving trend in the wealth management industry is the fast pace at which wealth is created in India. In today’s scenario, this wealth creation is happening in the case of new-age businesses, first-generation entrepreneurs, technology entrepreneurs, senior corporate heads, and professionals and is not restricted to traditional business houses. 

This topic actually reminds me of a family in which there was a sudden wealth creation many years back, and I had the opportunity to be one of their wealth managers at that time. This case study will clearly show the importance of prudently managing the windfall gains whenever there is a sudden wealth creation.

Some 25 years back, this family received around ₹15 crore when a larger conglomerate acquired the company they owned. Now the CEO, who was 55 years of age and was earning ₹1 lakh a month, had suddenly made a windfall gain and hence decided to retire and enjoy his life. The first thing he did was to invest a portion of that surplus into the markets while he also splurged on a few amenities like buying a very lavish house, cars, and a holiday home in Shimla. He organised extravagant weddings for his two daughters after they completed their higher education. 

However, things didn't work out well for the former CEO, and he realised that if he lived beyond 70 years of age, he would not have the same financial muscle he had previously enjoyed. By the time he recognized that he had made a big blunder, it was too late, as the markets crashed; the exorbitant lifestyle was now becoming way beyond his means, and greed had slowly caught up with his daughters as they started choosing money over their father, all of which led him to depression a few years later.

As wealth managers, we advised the gentleman not to overspend his wealth but to take a breath, wait for a few months, make a complete financial plan, and decide wisely how he wants to manage his wealth. We tried our best to make him understand that as this is a once-in-a-lifetime opportunity, we need to ensure that all of a sudden, his expenses should not become 50 or 100 times more than his income and the need of the hour to make sure that this wealth grows, and he should be able to preserve it so that it can be transferred prudently to the next generation. 

But the fact is that when you don't see this kind of money, and suddenly it comes your way, you tend to convince yourself that the interest from this surplus will be enough to last a lifetime. 

However, over time, inflation will catch up, and before you know it, you will blow the entire surplus and become redundant in the job market. Hence, this case study clearly shows that money management is critical when there is a windfall gain, and at some point in time, you need to draw up a proper financial plan and see how much wealth can work for you if you live till 90 or 100 years of age.

The way forward to managing windfall gains

In recent times, the trend that we have observed with the new billionaires is that the first thing that they do is to meet a trusted financial advisor and go in for a complete financial checkup. They are then able to discuss their life goals and map the windfall gains with these life goals, and then, they allocate the surplus between necessity and luxury and see how well they can sustain the new lifestyle over time. Hence, financial planning is an essential exercise for them today, and then creating a 5-year- to 10-year plan becomes their top priority. 

The portfolio, which is then made with the support of the financial advisor, could include investments into public markets, property as it can give them some regular income, investments into some new age businesses and direct companies, and they may also try and become mentors to the young founders and guide them in their entrepreneurial journey. For them, an upgrade in their lifestyle means lavish home furnishings, buying a second home /holiday home for enjoyment within or outside the country, art and artefacts for their second homes, and luxury travel.

How does a financial advisor add value?

First, a financial advisor would do a complete financial health checkup and discuss their life goals and aspirations around asset ownership, entrepreneurship, succession plans, philanthropic interests, and health updates. Based on this discussion, a comprehensive plan will be created, and their offerings will be multi-fold. 

They will include tax planning and cross-border strategies as they wish to allocate outside India and de-risk their portfolios from currency fluctuations or inflations of diverse geographical markets, immigration, insurance, real estate advisory, estate planning, private wealth management, new age businesses, investment banking for these families who have got billions of dollars and want to acquire companies, and finally a lot of these UHNIs would like to set up their own multi-family office which will, in turn, cover all the above services as well.

To conclude, whenever there is a sudden wealth creation, money management becomes a crucial factor, and an entrusted financial advisor will be able to create a proficient financial plan. This is the right time to draw a financial plan because there is a sudden change in the client's profile; even if, let's say, their needs don't go up, it becomes essential to rework the asset allocation model. In this way, the power of compounding will grow their wealth over time, and wealth preservation for the next generation will happen smoothly.

Himanshu Kohli is Co-founder, Client Associates.