As a baby, coins plunked into the little pink bank, which triggered the piggy to play the song “Twinkle, Twinkle, Little Star” to my daughter. She squealed with joy as the pennies drop to the bottom, rewarding her with a tune. As she swayed back and forth to the music, a smile spread across her face. In the real world though, saving is tough because we are not instantly rewarded.
Patrick Sweeney, a financial advisor for a leading financial services company, took the time to talk with Connecting with Kids. He speaks from the dual perspectives of both a parent and a professional in the field about determining what to teach our children about money. Many parents begin with the piggy bank and focus on teaching their child to save in small ways. Teaching a child to save is a big deal. However, the bigger deal is teaching them the power of compounding interest. In a culture that craves immediate gratification, the ability to "hold off" and wait and make a decision based on a need versus a want has a tremendous financial reward.
Say you won a million dollars in the lottery today and did not immediately spend any of those winnings to buy a car, take a fancy vacation, or buy a new house. The average interest generated in that first year would be a conservative 3 to 4%. By waiting just 12 months you could purchase a car, enjoy the vacation, make a down payment on a house, or achieve a multitude of goals … and not even touch the principal. You have now extended the life of your winnings because you have not depleted the principal. According to Einstein, the power of compounding interest is one of the greatest “forces in nature”.
Obviously, timing plays a critical role in investing. Depending on the length of time an investor has in relation to his goal/objective, the amount of risk an investor can afford to take, great or small, is quantified. Therefore, Pat’s three-year-old daughter can afford to put more of her money into stocks because of a longer time horizon; her grandparents, however, need to have more of their investments in bonds because of their short time horizon.
If you, as a parent, are deciding whether or not to offer an allowance in exchange for performing a chore, begin by defining what a “chore” is in your family. If it means that your kids keep their own room clean, wash the dishes, walk the dog, or clean their bathroom, monetary reward is not appropriate according to the expert in finances. Pat clarifies this by stating, “Rewarding a child for a behavior or expectation does not add up. These activities are put in place to help teach your children how to become self sufficient and work in a family/team setting where everyone helps. These are skills that will be needed and used later in life as a productive adult.”
On the flip side, he strongly encourages rewarding a child for hard work. Activities that the parent would otherwise have to pay someone to do, such as shoveling snow, raking leaves, babysitting, or cutting the grass, should be recognized and monetarily rewarded because money is a medium of exchange for a good or service. Over time we learn the relationship between the implied or stored value of items and their cost. For example, when buying a house, we don't look at just one. The same can be said for a car; we shop around. Essentially we are comparing costs and determining values. Quality and workmanship should have meaning and value for you and your children.
Young Adults and Credit
Young adults need to understand that using a credit card means borrowing money that they will have to pay back with interest. Parents should explain the rate at which money is borrowed (cost of funds) and that the lower the interest rates the cheaper it is to borrow money. Anyone under the age of 21 should not be allowed to own a credit card. Credit cards can enslave users to a possible lifetime of debt. Finally, as kids grow up they do have to have discipline in managing their credit. The grown-up report card known as a credit report lets lenders know how responsible individuals are at managing and paying off debt. Patrick Sweeney reminds us that, “At the end of the day, we all must realize that there is no free lunch and the best way to pay for that lunch is with cash.”
When this original article was published in my former column Connecting with Kids in Point Magazine, it was when my Alyssa was a baby. This week, she had the great joy of opening her first bank account at 5-year-old. She earned quarters for doing things around the house such as putting away the kids plates from the dishwasher and making her bed (of course this goes against Patrick's advice slightly... but as a parent sometimes we just have to go with what works for our children). Once she saved up, Marsha A Tylak, Assistant Vice President/Manager of First Commonwealth Bank in Wexford did a fantastic job of getting her set up and doing a tour of the branch bank. Alyssa's favorite parts were getting a new piggy bank and using the money counter, she even got to wrap a hundred dollars!
As a parent, I was glad when Marsha took the time to teach my daughter about banking including the basics of keeping a savings register and why it is important to let a savings account grow. From the music playing piggy bank as a baby to the tour of the bank vault as a preschooler... setting a child up to understand money may not make them perfect at handing credit down the road or cause them to be a good business person... yet, it does provide them with a foundation for understanding future finances.