Helping Children Build Sound Financial Skills
Source: March 11, 2009, The Wall Street Journal, "One in Six Employers Looking at Your Credit Report, Study Finds.
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Practical Tips & Suggestions for Raising Financially Literate Kids
Whether your family has already begun the process of instilling sound money management or you’re searching for ways to begin, you may find the following tips, suggestions, and concepts helpful in teaching children financial skills.
Lead by Example
If you’re a parent embarking on the task of educating your children about money management, take a look in the mirror. If, for instance, you budget effectively, invest wisely, pay down debt, and donate to charity, your children will learn by example.
Preschoolers: It’s Not Too Early to Start
Be aware of opportunities to demonstrate how even the smallest of activities cost money. When they’re young, you have to keep it simple, such as letting your child put coins into a parking meter or vending machine. Talk about the value saving money they receive during the holidays or for birthdays for future wants and needs. Piggy banks make great gifts at this age.
School-Age Children: The Three Jars
Once children are in school, they start learning more about money, and it’s a good time to help your child understand how far a dollar goes.
At about age seven, children can probably handle a small allowance. But instead of giving your child his or her allowance to spend spontaneously/impulsively, introduce the concept of the three jars: one for money the child can spend, a second for money to go to a savings account, and a third for giving to charity. Have your child divide his or her allowance into the three jars.
The spending jar. Trips to the store can offer lessons about prices, quality, and budgeting: How far can you make your money go? You can even make a game of shopping or play games that focus on money. On the other hand, you’ll want to help your child analyze an item’s quality and how long you want it to last. Have a conversation around the concept of “getting what you pay for.”
As your child matures, give him or her more freedom in choosing how they use their “spending” jar.
The savings jar. This is also a good time to begin focusing on the “savings” jar. As the value of the savings jar increases, consider opening a savings account at a nearby bank. Together, decide on something the child wants to save for, such as a bicycle, doll, baseball glove, or video game.
Let’s say the item costs $50 and your child typically saves $3 per week. It will take a little longer than 16 weeks (four months) to have enough to purchase the item. Explain to your child that if he or she can save an extra dollar a week ($4 per week), there will be enough money to purchase the item in just over 12 weeks (three months). Of course, it makes for a better teaching experience if the extra dollar per week isn’t saved at the expense of the “giving” jar but either sacrificed from the “spending” jar or earned through some additional activity or behavior.
Letting your child use his or her savings to buy items is only part of the learning experience. Allowing your child to make decisions about what to purchase is also important. Children who save and spend their own money tend to become savvier consumers. They’re also more likely to take better care of their possessions, because they understand the sacrifice they made to buy them.
As your child gets older, introduce the idea that you expect him or her to pay for certain expenses out of the allowance you provide.
Depending on your child’s financial skills and interest, you may want to begin discussing investing in stocks. Describe how purchasing stock makes the child a part-owner in a company, which means he or she can share in the company’s profitability. Encourage your child to research various companies, such as a high-profile local company or one that creates products or services the child uses. You might even want to purchase a few shares of the selected company on behalf of the child and let him or her track the stock’s progress over time.
The giving jar. Let your child determine where the cash in the charity jar should go. The selected organization should reflect the child’s interests and age level. For example, if he or she loves animals, an animal-welfare organization may be a good choice. If there are multiple children in your household, help each one decide on a charity of choice.
The Teenage Years: Stepping It up a Notch
Accustomed to instant gratification and relatively carefree lives, many modern teenagers have a hard time understanding “no.” But your teenager’s desire for a new video game, phone, computer, or car can work to your advantage.
Periodic conversations about finances can begin to familiarize your teenager with the family budget, financial challenges you may be facing, and some of the family’s longer-term goals and priorities.
Your teen may be itching to get a job to earn extra cash. You’ll want to emphasize the wisdom in balancing work during the school year with school performance. Studies have shown that teens who work 20 hours or more per week achieve grades that are half a letter lower, on average, than those who work fewer than 10 hours.
If your teen is earning a paycheck, he or she may find it easier to access a savings account with an ATM card, a move you may or may not decide to support. If your older teen (or college-bound student) wants a credit card, you might take the opportunity to have a serious talk about spending. In general, teens with credit cards are less price-conscious, more likely to spend more, and more likely to overestimate their savings than those who pay cash.
The idea of a credit score is also a conversation you’ll want to have if your teen gets a credit card. Help your teenager understand that one of the keys to qualifying for the loan he or she will want someday is a strong credit score. Even beyond being a key indicator of whether an applicant can qualify for a mortgage or line of credit, credit scores are used in other ways that affect people’s lives. For instance, it’s been reported that one in six companies use credit reports before extending a job offer.*
Be sure to impress upon your teen that responsible use of credit cards is a common way to help establish a good credit history and that paying off the balance each month in a timely manner is an important safeguard against becoming a credit risk.
When it comes to your teenager and credit cards, problem behaviors to watch include:
- Paying bills late
- Not paying off credit cards in full
- Incurring late payments and fees
- Bouncing checks
Remind your teen how stressful debt can be, and reinforce the point that the credit history he or she establishes now will increase in importance as he or she applies in coming years for large loans, such as a mortgage. Make it clear that once someone has created a bad credit history, it can take a long time to recover.
College Grads: Continuing the Education
When your child graduates from college and starts working, it’s important for you to help him or her remember the three jars: spending, saving, and giving. In some instances, you may want to add a fourth jar: “luxuries.”
Your Financial Advisor can provide you and your adult child with helpful budget worksheets, or you can access any number of templates on the Internet. The budget should include such things as income sources (wages, bonuses, and investment income), mortgage or rent payments, auto loan, utilities, groceries, gasoline or transportation costs, insurance costs, clothing and services, health care, entertainment, credit card debt, etc.
Finding a balance between spending and investing may be crucial during this period in establishing long-term financial security. Some of the topics you may want to discuss include budgeting, “paying yourself first,” and the value of investing.
Taking control of expenses. If expenses exceed income by a narrow margin, your child may be able to fix the problem by cutting some variable items listed in the expense column and transferring them to the “luxuries” category. For instance, a monthly clothing expense or cash set aside for restaurants or entertainment could be adjusted. If the margin separating income and expenses is greater, he or she might find it necessary to look for ways to reduce housing costs or service expenses.
Building savings. One of the easiest and most practical ways to ensure that your adult child invests for the future is by encouraging the principle of “paying yourself first.” Assuming your child has a job, recommend participating in the employer-sponsored retirement plan if one is available, especially if the employer provides a matching contribution.
If your adult child's employer doesn't provide a retirement plan, encourage a systematic way to begin investing in a traditional or Roth IRA. Often, financial institutions let you automatically transfer funds directly into an IRA.
You’ll also want to educate your child on the value of dollar cost averaging, reinvesting dividends, and investing in other tax-deferred accounts.
Developing social responsibility. Along with a career and a financially stable life comes a social responsibility to give back to the community. Just as with younger children, you may want to encourage your child to set aside a portion of his or her inflow for charitable purposes.
Preparing for marriage and children. As your adult child matures, marries, and starts a family of his or her own, you’ll want to continue to encourage sound financial management. At this point it’s important to review life, disability, and health insurance. Remind your adult child to check for flexible spending accounts through an employer and recommend that proper estate documents (at least a will and durable power of attorney) are in order in case of the unforeseen.
Depending on your child’s financial success, this may be the appropriate time to introduce him or her to your Financial Advisor. Your Financial Advisor can offer an array of financial services and programs to begin helping your adult child achieve the same financial success you enjoy.