Solving the Concentrated Single Asset Conundrum
Through work, inheritance, entrepreneurship, or for other reasons, individuals may come to hold a large percentage of their net worth in a single asset. Most commonly, concentrated positions come in the form of a publicly traded single-stock position, a privately held business, or a real estate investment. At Northland, we work with clients to sell, or otherwise monetize such assets, while being considerate of illiquidity, tax, legal, and emotional matters.
There are three common objectives when managing concentrated positions. First, to reduce the risk caused by the wealth concentration, followed by generating liquidity to meet diversification or spending needs, and lastly, to optimize tax efficiency to maximize after-tax value.
Reducing concentrated positions is not appropriate for all clients, as there are often specific objectives and constraints to consider. Stock ownership in a public company may be received as part of a compensation package, with company expectations or regulatory requirements that the executive will hold the stock for a length of time. In private businesses, there is often a desire for control. An entrepreneur may assume high risk in expectation of building the value of the business and his or her wealth. The asset may also have other uses, as real estate owned personally could also be a key asset used in the owner’s business.
Not everything is about money. Often clients may be reluctant to dispose of a single asset due to cognitive or emotional biases. For example, there may be a feeling of loyalty in retaining employer stock,or a feeling of obligation to hold onto an inherited position.
There are many strategies that can be employed to solve concentrated single-asset positions. The solution can vary with the type of asset (publicly listed, private company, or real estate) and will depend greatly on tax laws and the owner’s situation.
When it comes to publicly listed investments, in essence, all strategies fall into one of the following categories: selling, monetizing or hedging the value. Selling the asset will trigger a tax liability. Monetization will result in borrowing against its value and using the loan proceeds to accomplish client objectives. Hedging the asset value is often done using derivatives to limit downside risk. When managing positions in privately held businesses, owners have greater flexibility. Initially, owners would want to evaluate a sale to a strategic or financial buyer in the form of a private equity firm. Apart from providing liquidity, these buyers can assist in restructuring the business and add value. Another option is the sale to key management employees, or through an employee stock ownership plan (ESOP). Two other popular options include taking a line of credit against the owner’s shares, or structuring a sale, or gift to family members, to take advantage of tax benefits.
A single investment in a real estate asset can be large and constitute a significant portion of an investor’s assets, creating a high level of property specific risk. Real estate is generally illiquid and, if held for a long time, may have a significant unrealized taxable gain. A seller considering sale, or monetization of a property, should consider its current value relative to historical and expected value in the future, taxes, availability of credit, and interest rate levels. Possible strategies include: a sale and leaseback or mortgage refinancing. Wealth concentrated in a single asset poses significant risks that should be addressed and planned for in advance. At Northland Wealth we have the expertise and experience to evaluate your unique situation and help you determine the best course of action.