In October 2010, Ned Johnson, the CEO of Fidelity Investments in Boston, moved his family office-Crosby Advisors-three miles across the state border to Salem, N.H. His may be one of many such moves when family offices across the country discover how the Dodd-Frank law will limit their freedom. (Crosby is Johnson's middle name.)

As most advisors know, Dodd-Frank eliminates the "15 client" exemption from the Investment Advisers Act of 1940, effective this July 21. But Dodd-Frank added to the Advisers Act a new registration exemption for family offices, leaving it to the SEC to define the "real family offices" that would be exempt.

Because the new rules force family offices into one of four alternatives-none of them particularly attractive-some states around the country are rewriting trust laws in the hope of attracting family offices from other states. The Wall Street Journal reported in April that New Hampshire has become "a kind of mini-Switzerland for wealthy Northeast families." And the Boston Herald reported that trust companies are "cropping up like tax-free liquor stores in southern New Hampshire."

Trust assets under management by banks and trust companies there have jumped 70% over the past five years to $311 billion in 2010 from $184 billion in 2005, according to the New Hampshire Banking Department, as reported in the Journal on April 7. During the same period, the number of trust companies in New Hampshire doubled from 16 to 31 (which includes either those chartered or pending), according to Scott Baker, the chairman of the New Hampshire Trust Council and a principal at Perspecta Trust LLC in New Hampshire.

Congress intended for the SEC to make a distinction among the 2,500 to 3,000 U.S. family offices managing more than $1 trillion in assets between "those that serve a 'typical family' and those that 'start to resemble a commercial advisor,'" says John P.C. Duncan of Duncan Associates in Chicago, who is referred to in the business as "Mr. Private Trust." Duncan is familiar with the Dodd-Frank law as well as the SEC's first iteration of the definition of a family office because he has helped many family offices respond to the new law. He is also familiar with New Hampshire trust laws, because he wrote them.

The SEC definition is so narrow as to include perhaps 10% of "real family offices," Duncan says. Most confining is the regulation that narrows the definition of a family member. Duncan's firm-as well as 79 others-filed complaints with the SEC during the comment period.

Duncan's firm asked the SEC to broaden the definition to that used in the recent Nevada trust company law. If it did, Duncan says it would include 90% of family offices. But he's not expecting it to go that far. He's hoping for a definition that includes 50% of family offices. The SEC extended the deadline for final rules from July 21, to the end of the year. Meanwhile, a family office has four options, Duncan says:

Be in compliance with the SEC's new definition of a family office;
Set up a private trust company, which is a firm, not simply a trust contract between the creator of a trust and a trustee for the beneficiary. A private trust company, like the one set up in New Hampshire by the Johnson family, is supervised by bank regulators;
Register as an investment advisor; or
Use an outside registered investment advisor.

A family office could also seek an order from the SEC that would provide an exemption for that family. Or it could cut some family members out of the office in order to qualify for the new rules defining "relationship."

Waiting for the deadline is not an option, Duncan says. It takes a long time to go through all the paperwork to find the state laws most favorable to trusts (New Hampshire, South Dakota and Delaware are usually on the top three list) and then set up the trust company.
Family offices that have not yet addressed the issue face problems. "We're working with several multi-billion-dollar families to get all the investment advisor activities into a private trust company or an exempt family office," Duncan says.

I hope I don't insult any readers here, but I want to insert a little background. It took me a while to figure out this trust business. Our trust laws came from England. A traditional trust has a settlor (grantor) and a trustee, both people, not corporations, usually for the benefit of a third party. Both the settlor and the trustee have unlimited liability. A corporation protects its owners and shareholders from liability.

In 2005, Duncan's firm was approached by an organization called New Hampshire First and asked why New Hampshire was not the best private trust company state in the country. "We advised them to do something dramatic to jump ahead of the curve by making their trust laws the best in the nation," he says.

Now New Hampshire meets a lot of important criteria for where people want to have their trusts. "We were the principal draftsman of the new trust company act and subsequent revisions of trust laws. Our job was to make it a progressive and modern state for trusts. We adopted the best things from other progressive states and then put in some new things."

For example, the original law, adopted in 2006, left unclear the taxation of dividends and interest, Duncan says. People were hearing that the New Hampshire trust law was good, but that dividends and interest might be taxed. "The ambiguity was holding a lot of people back," he says. An amendment was added to make clear that dividends and interest were no longer a problem unless a family member, who is a beneficiary of the trust, resides in New Hampshire.

Another amendment to clean up further ambiguities is before the New Hampshire House of Representatives now and was already passed by the Senate. "That's our goal for 2011," Baker says. His firm, Perspecta, was set up in 2007 to take advantage of the 2006 law by acting as trustee for trusts and helping families set up their own trust companies.