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3 Things You Should Teach Your Children Now About Their Financial Futures

Talking to your kids early and often will cement financial lessons they'll use for the rest of their lives.

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There is often a taboo when parents talk to their kids about money and finances. Since these types of discussions do not happen often, many kids are uninformed about saving for their future through investing. There’s no need to openly tell your kids how much money you make a year, but it’s vital to guide them through the basics of financial planning. They need to know the fundamental guidelines for saving money, watching it grow through compounding interest and understanding the need for financial security throughout life.

You’ll of course need to alter the depth and “mathiness” of the discussion depending on your child’s age. A 10th grader will hold a deeper grasp on saving, spending and interest than your average 2nd grader. Use different examples and phrasing for the younger kids, for example swapping out “mortgage” with an explanation for how you pay a bank every month to get to live in your house.

To set your kids on a fruitful financial path, here are three things you can discuss:

1. Your Money Can Make Money – Lots of It!

Younger kids often need a visual representation to understand compounding interest. You could use their piggybank for just this purpose. Clear out any money in their bank and tell them you’ll be adding dimes to it for 30 days. Start them off with 10 dimes, and then add 1 per day for the first week, two per day for the second, then five, then add 10 a day for the final week. But, make it clear the additional adding only happens if they agree to keep all the money in there the entire 30 days, even if they hear the jingle of the ice cream truck. Have them estimate the amount of money in the bank at the end of this exercise and explain the power of compounding. The bank (you) paid them interest every day, and that interest grew because their pile of dimes grew consistently.

Older kids will not need your dime demonstration, but you can wow them with math facts. Tell them if you set $5,000 aside for them when they are 16, they could become millionaires by 65 without adding any funds, just through interest accrual. If they (you in the early years) put in $6,000 a year during this span, then they can call themselves millionaires by age 45. The key is starting early, saving consistently, and keeping the money compounding for the long term.

2. Protect that Money

Talk to kids about protecting their money. Your seven-year-old might think you are talking about defenses against bandits, so you’ll need to clearly explain what you mean. By protection, you mean guarding your money from bad investments. Tell them about people wanting you to invest funds in a startup or something that sounds very much like a pyramid scheme.

It’s important to teach them early that while “easy money” sounds great, it’s almost never the path to real financial security. Risky investments can lead to ruin, especially in the retirement years. Talk to your kids about the dangers of poor investment choices. For example, how they can lead to people selling their dream home in retirement or moving in with their kids (gasp!) for financial support. Lead them towards stable and repeatable investments, ones that provide year-over-year growth and gives them that magic compounding interest. “Get rich quick” schemes often turn into “get poor slowly” for people that miss out on years of investing. Encourage your kids to learn more about low-risk investments that protect their principal and offer growth.

3. Use Your Money Wisely

For the younger kids, introduce them to the idea of always putting their money to work. Bring the discussion back to the piggybank example. What if they started adding an additional five dimes a week, shifting money that is normally spent on candy into savings? Then their “interest” in dimes would also go up exponentially.  Tell them when they are older, they can add any “extra money” to their investments to grow their piggybank even faster. As always, time is on their side!

For older kids, you can talk about money “leverage”, which is simply using your available funds and other resources in the best possible way. Mortgages are a great example of leverage at work. If your child understands the basics of a mortgage, discuss with them the differences between a 15-year and 30-year traditional home mortgage. Tell them many financial planners recommend a 15-year mortgage because the borrower will pay less in total interest. This is of course true, but it comes with tradeoffs. Choosing a 30-year mortgage (especially with low 2020 interest rates) means they can effectively leverage the bank’s money, and use compounding interest to achieve millionaire status by retirement. Since borrowers will be paying less each month with a 30-year-mortgage, over a longer period of time, they can take that savings and securely compound it every month, building up tremendous wealth   through compounding over that 30-year span, with money that was otherwise tied up in the shorter mortgage payment. The same money goes out of their pocket, with one path focused just on saving interest and the other on making up to $1 million of compound interest for retirement.

Try your best to make this savings and investing discussion relatable and fun. It’s not an econ class, so treat it with excitement and provide examples that make sense to your kids. Consider having this talk once a year to cement the core ideas of paying themselves first, saving early and often, and enjoying the magic of compound interest.

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