When it comes to financial matters the education system has let our children down.
Historically there has been little to no emphasis on understanding the ways in which money can work for you. Learning smart financial habits and practices seems an afterthought rather than a fundamental part of adolescent education. In my work I have come across parents who want to be sure their children understand money in a way they wish they had when starting out in their career. Though the nuance of financial services can be complex, the basics can be grasped by anyone. Let’s take a look at five things you should teach your children about finances before they turn 18.
1. Money does not grow on trees.
There is no substitute for a really strong work ethic. There are so many get rich quick schemes in the world that promise a quick turnaround but remember the old adage; if it sounds too good to be true it probably is. Working hard in your career is the starting off point for a strong financial future. Then add in managing savings, investments and disciplined spending decisions. If you can fully understand that the way to earn money is by putting in this work, it will lead you to the right mindset for financial gain.
2. The actual impact of buy now pay later
I can best articulate this with a story from my own life. My 16-year-old son wanted to get a PlayStation 5 and found it available from a high street retailer for “only £21 a month.” I asked if he knew how long the payment period was and he did not, focusing only on how reasonable he thought the monthly payments were.
When we looked at the actual cost over the payment period, we figured out that the interest rate was 26% per annum so he would end up paying significantly more for the PS5. This very quick exercise of taking a look at the cost over the whole payment period vs the actual purchase price clearly demonstrated to my son why it is important to stop and take a moment to know the figures.
3. Understand the concept of deferred gratification
All good things come to those that wait. We live in a world of instant gratification where you can take a computer out of your pocket and order pretty much anything to your door with 48 hours.
Continuing with the example from above, I suggested to my son that he take that £21 a month he would be paying for the PS5 and put it into his saving account. Yes, he won’t have the console right away but the amount of interest he will save will be worth the deferred gratification. He might even find that he can put more than £21 a month away and afford the PlayStation quicker, and the habit of saving for large purchases will have been developed.
4. Investing and the value of compound returns
Warren Buffet has been investing for 80 years. If he had starting investing 20 years later, when he was 35 rather than 15, his overall wealth would be considerably less than it is now. Buffet’s investment strategy isn’t just about “value investing,” he also makes sure to have a diverse portfolio, spreading smaller sums out across many companies rather than putting all his eggs in one basket.
As the above graphic of Warren Buffet’s networth shows the power of compound interest, no matter the amount you start with, has a benefit for the long game. Remember, there is no such thing as a get rich quick scheme.
5. Good debt vs bad debt
There is such a thing as good debt. Some debt might even be a necessity. For example, without a mortgage you are unlikely to be able to own your own home. Thankfully, a mortgage is considered good debt. The sum that you’ve borrowed is linked to an asset that will appreciate over time. This makes it much more secure than, say, credit card debt.
Credit card debt is bad debt, the type that you should look to avoid, particularly if you are using a credit card as a way to support your lifestyle. Accumulating bad debt as a way to live above your means has the potential to derail a healthy financial future. If you are paying a high monthly interest rate when servicing the debt, that sum is taken out of a savings or investment pot. You are then always paying for your past rather than investing in your future.
Lead by Example
Good financial understanding goes beyond these five points, but it’s important to have a place to start. My suggestion is that, above all else, you start having conversations about finances. Be open with your children about how you have made financial decisions in the past and, if possible, clue them into financial decisions in the present. When the time comes for them to start thinking about their pension and retirement, explain the steps you have taken towards your financial future. Practical examples and experiences will far outweigh anything they will read on the subject.
Financial Education has a lifelong learning curve. It will grow and change, just as you do. The PS5 that is important to my 16-year-old son won’t always be the most important thing to him to spend his money on. Now, it is. So we have used it as a learning opportunity for him and a teachable moment for me.
Article by Julian Strauss
Investment Director & Certified Financial Planner
“If you are investing in your education and you are learning, you should do that as early as you possibly can, because then it will have time to compound over the longest period."
- Warren Buffet
- Warren Buffet