Think back to your education in personal finance. Did you learn about money management at home? At school? Through trial and error?
“When I talk to people about their own financial educations, I hear a lot about regret—regret that they didn’t learn the fundamentals sooner,” says Carrie Schwab-Pomerantz, CFP® professional, president of Charles Schwab Foundation, managing director of Schwab Community Services, and board chair of Schwab Charitable. “Indeed, entering the workforce with a solid understanding of money management can give you a real leg up in the long run.”
Unfortunately, many young people aren’t getting an education in the fundamentals of financial independence, such as budgeting, investing, and saving. According to the Council for Economic Education, just 21 states required high school students to take a class in personal finance in 2020.1
“It’s really up to each of us to ensure our kids are prepared to thrive as adults,” says Chris Kawashima, CFP® professional and a senior research analyst at the Schwab Center for Financial Research. “Otherwise, it could take them years to figure it out, all while saving too little and spending too much—both of which are huge barriers to financial security.”
Here, Carrie and Chris share their top tips for instilling healthy money habits at three crucial early stages of life.
When they’re little
- Introduce the value of money
An allowance is a good first step—especially if you tie at least part of it to chores that teach responsibility and work ethic. Earning an allowance introduces kids to the value of money and making choices for themselves. “In fact,” Carrie says, “kids often find they make different choices with their own money than they would with someone else’s.”
- Emphasize saving
At some point, your kids are going to want things that exceed their allowance. Encouraging them to save for those items teaches them the concepts of delayed gratification and trade-offs. Make saving a part of their routine and have them set aside a small portion—say, 10%—of every dollar they receive, including allowances and gifts.
- Introduce them to investing
Once your kids have saved some money, you can consider opening a custodial brokerage account for them or help them purchase fractional shares. Along with gaining a sense of ownership, your child can learn the importance of researching and managing their assets. Keep in mind there may be unique tax considerations for custodial accounts, so it’s generally best to work with an advisor to ensure they would be appropriate for your situation.
“Let them choose a few stocks to invest in. Then, set up regular meetings to review their performance,” Chris suggests. “You might be surprised by how engaged kids can be when it comes to investing in a company they know and like.”
When they’re teenagers
- Encourage a summer job
“We know from our research that young people who have jobs are more likely to be better savers in the long run,” Carrie notes. So, make sure your child is saving a portion of every paycheck—and maybe even require them to help out with other expenses, as well. “It’s perfectly reasonable to expect kids to pay for their own gasoline or trips to the movies,” she says.
- Introduce them to credit
As teenagers become more independent and start driving themselves around, enrolling your child as an authorized user on one of your credit cards can be helpful. “From a practical perspective, having a credit card to deal with emergencies like flat tires is always a smart idea,” Carrie says. More to the point, your teen can learn to spend within their means—assuming you require them to pay back every dollar they charge.
This is also a good opportunity to discuss the importance of being responsible with credit. When you take responsibility to pay back borrowed money, lenders can trust you more when you need to make a big purchase in the future.
Chris emphasizes that it’s equally important to explain the basics, such as how credit cards differ from debit cards. And it’s essential to warn kids about the dangers of high-interest debt and revolving credit. “The more they know about debt, the more likely they are to manage it responsibly,” he stresses.
- Consider a Roth IRA
Once your kids have earned income, they can start contributing to an individual retirement account (IRA). Chris suggests a Roth IRA for most young savers. “Roths are funded with after-tax dollars, but withdrawals in retirement can be entirely tax-free,” he explains.2 “By funding these accounts early—when their income, and thus their tax rate, is still very low—kids could benefit from decades of compound growth and tax-free income in retirement.”
When they’re young adults
- Help them set a budget
Once your kids accept their first jobs after college, help them draw up budgets based on their salaries and estimated expenses. “When you’ve never lived on your own, it’s easy to underestimate common expenses, such as groceries and utilities,” Carrie notes.
It’s also a good idea to review their employer benefits with them to ensure they’re taking full advantage of all available options, especially any matching contributions to employer-sponsored retirement accounts, such as 401(k)s. “It’s important for them to understand the value of those matching contributions,” Carrie says. “It’s like free money!”
- Encourage them to stay invested
Help your kids understand that time is their greatest ally when it comes to investing. “The old saying ‘Time in the market is better than timing the market’ can’t be said enough to kids,” Chris says.
As for the investments themselves, there are literally thousands of low-cost index funds to choose from—which can be overwhelming to a novice. When in doubt, choosing a product that allocates and invests their money for them might be the best approach.
One such option is a target-date fund, whose asset allocation mix becomes more conservative as the target date approaches. Another option would be to consider a robo advisor that builds, monitors, and rebalances a diversified portfolio of exchange-traded funds on an investor’s behalf.
- Let them know they’re not alone
You want your kids to be fully independent adults, but you might need to step in to help them from veering off course from time to time. After all, making poor financial decisions can be an expensive learning experience.
And if they have a question you can’t answer, Carrie suggests introducing them to your financial professionals. “You want them to get in the habit of asking for help if they need it—and not just from you,” she says. “Even the professionals get help—I know I do.”
It all starts at home
State governments are taking steps to support financial literacy in schools—Arkansas, Hawaii, and Nebraska all signed financial education bills into law this year3—but there’s still no substitute for leading by example. Showing your kids how you achieve your goals through budgeting, saving, and investing will give them confidence that they can do the same.
1Survey of the States 2020, 02/2020.
2If you take a distribution of Roth IRA earnings before you reach age 59½ and before the account is 5 years old, the earnings may be subject to taxes and penalties. You may be able to avoid penalties (but not taxes) in certain situations. If you’re older than 59½ but haven’t met the five-year holding requirement, your earnings may be subject to taxes but not penalties. Consult IRS rules before contributing to or withdrawing money from a Roth IRA.
3NGPF FinLit BillTracker as of June 1st, 06/01/2021.
What You Can Do Next
Schwab MoneyWise™: The Game offers teens 14 and older a fun, interactive way to build financial competence and confidence. Download it from the App Store®.