A BIG HEADS-UP
Beware! Your children will be learning about money long before you think you need to teach them. From birth, they have been exposed to money. At some point in time, they witness the magic. They may not know what happened, but they noticed something big happened, and money was involved. By the age of two, they will begin becoming aware of its magic-like qualities. It's power to bring, or take away, happiness or sadness, and that it often arrives around birthday time with other gifts and attention.
For example, imagine walking through a mall with a young child when he or she notices one of those coin-operated mechanical horses that when you drop a coin in, it magically starts moving, providing an instant adventure. Your little one is enraptured by the sight and sound of the horse rocking and his or her awareness that another child is mounted on it bouncing up and down, squealing with delight. As you approach, your child sees that the other child is dismounting with an incredible look of satisfaction.
Your child begins pulling on your hand, looking up into your eyes with a pleading gaze that says, “Please, please, please!” You're in a rush, but you weigh the costs of saying, “No,” and decide to consent in order to maintain the peace you need. You dig into your purse or wallet, fish out some quarters, and insert them. From now on, when your child sees something that he or she wants to do, he or she has learned that you carry magic coins with you that bring fun and happiness. If you didn't have any coins with you, you might have to deny your child that experience, and he or she would quickly learn the consequences of not having money.
QUICK START TIPS FOR HEALTHY FINANCIAL HABITS
Entire books have been written on how to raise financially healthy children. One of our favorites is written by the New York Times columnist Ron Lieber, titled The Opposite of Spoiled.7 We cover some key considerations for creating healthy financial habits.
ALLOWANCES
Allowances can provide wonderful teaching opportunities. There is some debate over whether allowances should be a basic right that a child has simply by being a member of the family or if allowances should be tied to a list of chores, responsibilities, or behaviors that are rewarded monetarily. Regardless of your opinion, allowances can be used to reinforce values and to teach basic money management skills.
A common mistake is to give children an allowance without any strings attached. Don't be surprised if they mismanage it. Of course they will! Their prefrontal cortex, the part of their brain responsible for planning, controlling impulses, and delaying gratification is not fully developed until early adulthood. The best approach is to build structure around the allowance in accordance with the values you wish to instill. For example, you could teach the concepts of buckets, where the allowance is divided into four portions: 1) saving, 2) spending, 3) giving, and 4) investing, as follows.
Saving
Saving is important. In fact, a discipline around saving money is the framework that creates wealth. If you spend all you make, you will never get ahead. Saving for intermediate goals is a much-needed value and skill. So a portion of the allowance should go into a savings account. Children are encouraged to save for a desired object or experience, one which they couldn't afford with their allowance alone. They are taught the experience of delaying gratification and the thrill that accompanies being able to achieve a savings goal. As much as possible, allow children to determine when and for what the savings account is allowed to be tapped. Research has found that people save more when accounts are given inspiring names, so utilize this tool accordingly.8 As such, the savings account could be titled “Lorrie's American Girl Shopping Spree” or “Hunter's Rock-Climbing School.”
Spending
Another important lesson for children is the experience of spending. We must not forget that it is important to allow yourself to enjoy your financial resources. With the spending portion of the allowance, children are given the freedom to spend it as they wish. Money can and should be used to enhance experiences of life. What's the point of a lifetime of sacrifice if you are unable to allow yourself to enjoy your life.
Giving
Money can and should be used to make the world a better place. An allowance gives parents an opportunity to pass down their philanthropic beliefs. For example, you could choose three to five charities and have your child select from them, perhaps after a discussion or visits to the charities. Then after several months or even a year of saving, you can give your child the experience of giving to the chosen charity. It can be fun and reinforcing to take your child in person to the charity and have him or her hand over the funds. You could set up a meeting ahead of time with a staff member of the charity to make sure your child has a wonderful experience. The staff member can thank your child and share all the ways that the money will be used to help others. Your child could also help engage in the good the donated money will do, such as helping to distribute food or sort clothing that the donated money may have helped provide. In this way, your child can see and experience firsthand the joys of giving.
Investing
While opening and feeding a traditional savings account is a way of saving, the ideas of investing and the long-term effect of compounding can easily be integrated, and in our opinion, probably should. As such, we encourage the inclusion of an investing bucket. This could be called a “financial freedom” account or something of that nature. The teaching opportunity here lies in the concept of delaying immediate and intermediate gratification for a long-term goal. Ideally, this goal would be that of financial freedom, where the money is kept in an investment account in perpetuity with the eventual goal of having it spin off income so that your child could be free from the need to work for money at some time in the future. Given the research on actively managed accounts and index funds, you might want to be conscious about how you are teaching your children to invest when they become old enough to consider such information. Given that index funds outperform actively managed funds 80% of the time, unless you are a professional investor, you might want to teach your children to put their investments in a diversified index fund approach versus teaching them to pick individual stocks of companies. The articulation and reinforcement of financial best practices can go a long way to laying a solid financial foundation for your children into adulthood. Since they are going to remember and store beliefs about money, it's best to make sure those beliefs are founded in best practice.
A FAMILY ALLOWANCE
In addition to personal allowances, some families have a “family allowance.” This is a pool of money about which all family members help make decisions. Since most people end up in personal or business situations in which they need to share resources, this gives them the experience of negotiating and cooperating around money. The pool of money can be tracked and eventually used for the purchase of a family-centered household item, furnishing, entertainment, vacation, or even the decision on what type of vehicle the family will eventually purchase. The family allowance gives children another opportunity to see the benefits of delaying gratification and saving money. It can also be used to help them learn important personal financier skills such as comparison shopping and price negotiations.
TALK ABOUT MONEY (BUT NOT TOO MUCH)
A big mistake parents make is not talking to their kids about money. Talk to them about money. If they ask a question such as “How much money do you make,” tell them.