Raising the Next Warren Buffet by Nate Eads

Clients often ask us for advice on helping their children or grandchildren get on the path to financial success.  This time of year it is especially a hot topic as it often comes up after the child has graduated college and is starting their first “real” job.  Decisions on employee benefits, 401(k), budgeting, managing debt, etc. are now in the child’s hand with little to no education on what to do.  Like most financial matters, addressing them as early as possible is key.  Sound financial habits developed at a young age will likely carry over into adulthood.  With that in mind, the following are some financial tips to get them on the path to be the next Warren Buffet.

Preschool

Preschoolers learn primarily by observation and doing.  While they may not necessarily understand the concept of money, it is helpful to introduce them to the basics.  Introduce them to different coins and paper money and explain that each type has a unique value.  Allowing them to make a small purchase at a store and get back some change will show them how money is used to get things they want.   

Elementary School

A big issue at this age is typically about establishing an allowance.  One school of thought is to tie an allowance to regular household chores.  Others feel that chores are just part of being in the household (Mom and Dad don’t get paid for picking up dirty laundry) and that allowances should be for either extra chores or a completely detached from chores. 

Either way, an allowance can be an effective tool to developing good money habits for young children.  At this age introducing the concept of saving is a good place to start.  When providing an allowance to children, create separate “banks” for them to divide their money into.  One bank could be for long-term saving/investing, perhaps 10% of their weekly allotment.  Another 20% for bigger purchases and if it is important to your family, another 10% could go into a charitable bank to be used to make donations or help others.  The remaining 60% goes to a bank for them to use at any time at their discretion.  There are nice piggy banks available to assist with this lesson.

As a way to encourage saving, consider offering a match of any amounts put into the long-term savings bank.  Perhaps $.25 or $.50 for each dollar saved.  Just make sure that money put into the long-term savings bank is not easily commingled with their spending money and can only be taken out with a parent’s notification and approval.  Periodically depositing these funds into a local bank that provides a passbook savings account will introduce the concept of earning interest while making it more inaccessible.

It is also important to let the child use their money how they choose.  If utilizing savings for charities, talk with them about who they think should receive that money and why.  Parents should also let the child use the spending money at their discretion.  They will almost certainly make some purchases that make you scratch your head, but putting them in control will provide good real world lessons as well.  The result of not accumulating enough money for larger purchases may eventually reduce immediately spending their allowance on impulse buys.  They may also begin to compare prices on similar items and start questioning if purchases are really worth it.

Middle School

The early teen years are a good time to introduce children to investing basics, specifically the magic of compound interest.  Showing them the difference over an extended period of time between a low-interest return of 2%-3% compared to an “investment” return on 8% - 9% can be eye opening.  It is important to point out that in order to earn the higher return, investments should be for held for long periods of time and that their value may go temporarily down, as well as up.  Explaining how stocks work and letting them invest in a few companies they are familiar with can be a valuable exercise as well. 

When children reach middle school their social lives may begin to pick up.  Going to restaurants, movies and other forms of entertainment with a group of friends instead of mom and dad may become the norm.  This is a great opportunity to help them budget for these expenses.  By allotting them a certain amount of money every month to spend on these items they will begin to differentiate between needs and wants.  Rather than giving them money each week, doing so on a monthly basis will force them to put more consideration into their spending so they don’t spend too frivolously early on and miss out on activities later in the month. 

High School

High school will continue to present opportunities to re-enforce budgeting as social activities likely increase.  Saving for larger purchases such as clothing, electronics, or a car may factor into their budget as well.

If children are working summer jobs, helping them set up a Roth IRA and making regular contributions can be a great way to introduce forced savings by having a portion of their check immediately deposited into the Roth.  Parents may also want to consider offering a match, similar to a company provided 401(k), in order to encourage saving.  Once the money is in the Roth, explaining the different investment options (savings/CDs, mutual funds, stocks, etc.) and perhaps allocating a portion of their Roth to each will provide them real-life experiences of how these different options perform.  Since they will typically be novice investors, directing them to put most of their money in low-cost mutual funds and the reasoning for doing so is good practice.

College is usually the major financial decision on the horizon for high school students.  It is important to make sure your children understand the financial impact college tuition may have on your family.  Even if funds are available to cover the costs through past disciplined savings of mom and dad or other family, students should still be aware of the financial impact of selecting one school over another. 

College

Now that they are in college, your kids (now young adults) will be likely be doing their own shopping and will need to operate under some sort of budget giving them firsthand experience in managing their cash flow.  They will also likely be flooded with credit card offers.  While having a credit card can be useful and help them build a credit history, it is important to understand the importance of not carrying a balance on credit cards due to their high interest rates and don’t charge more than they can afford to pay off each month.

Perhaps a better alternative to first dealing with debt is having the student take on some student loans, such as the Stafford loan.  This puts some skin in the game and also introduces them to debt, something they likely haven’t had experience with.  Once they graduate and have to start paying back the loans, it will give them a true understanding the impact debt can have on monthly cash flow.  Of course, if parents don’t want their children burdened with loans for years to come, the loans can always be paid off early by mom and dad once the lessons on borrowing have been learned.  

All Grown Up

Hopefully, good financial habits have been developed and the young adults have a good handle on day-to-day financial matters.   At this stage, questions around retirement plans and company benefits are common.  If your child is considering multiple job offers, help them understand how company benefits and retirement plans may influence their decision and that the best offer isn’t solely an issue of who is offering the higher salary.  Once they start working, they will often have questions on how much to put into the 401(k) and what investment choices to select.  With any luck, they will be comfortable deferring at least 10% of their salary into the 401(k) assuming this is now a habit.  At a minimum, they should be deferring enough to capture company matching contributions if offered.  Also, make sure they are investing the money in long-term equity based investments, as opposed to money markets or very conservative investments, in order to capture higher returns over time.  

Unfortunately, it is not common for children to learn about personal financial matters through formal education, so it is important that parents take an active role.  By teaching children the basics of money management and helping them develop good habits throughout their childhood, your children will be prepared and armed with the knowledge to make good choices as adults.