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By Ann Lloyd, Student Savings Guide

You want to give your children the best start in life that you can. The last thing you want for them is to find themselves in a hole they can’t get out of. That’s why it’s important for you to teach them about things like budgeting, debt, savings, and credit as soon as they’re ready to start learning.

Of course, part of the trick is knowing when that is — and how to convey the messages you need to pass along without sounding heavy-handed. It’s important to explain why they need to manage their money properly, not just “because I said so,” or they won’t carry the lessons forward into adulthood when you’re no longer there to guide them.

There are a lot of ways you can instill good money habits, including games and fun learning activities. But what, exactly, should you be teaching them? Here are some things to keep in mind.

Allowances and chores

There are pros and cons to giving children an allowance. An allowance can be a good way to help kids learn about managing their money. It lets them know that money’s a finite resource and prepares them to deal with bank accounts and budgeting in the future.

If you tie the allowance to chores, it can increase their awareness that money isn’t free and can give them an incentive to do their chores. But consider carefully before doing this. They could start to think that work isn’t supposed to be fun, or that they’re only accepted as part of the family because of what they can do, not who they are.

Making chores like a job may prepare kids for adulthood and the working world on one level. But you’re not their boss, and you don’t want them to see you as one. It’s better that they see you as who you are: A parent who’s there to guide and teach and, most importantly, to love them. 

A middle ground might involve giving kids an allowance apart from any chores but paying them a bonus for special projects they do around the house. This kind of approach gives them an extra incentive without making them feel like they’re obligated to work for you. It also allows them to focus on the money-management lessons you want them to learn.

Learning responsibility for money will help your kids learn its value in a cash-only system. Once it’s gone, it’s gone. Debt isn’t an option. This discipline will serve them well in the years ahead.  

Budgeting and banking

When they’re old enough, allow your children to open a joint bank account that you manage. Go over monthly statements with them and explain things like:

  • The difference between checking and savings accounts
  • The advantage of having a savings account
  • Banking fees and minimum balances
  • Overdraft fees and how to avoid them

The more money you have in reserve, the less you can incur different forms of debt you don’t usually think about in those terms. Overdraft fees and fees that kick in when you go below your minimum balance are money you wouldn’t otherwise have to pay; they’re a form of debt to the bank that you incur by failing to keep an agreement, just as you incur debt in the form of interest when you take out a loan or use a credit card. 

Speaking of credit cards:

How credit works

Explain to your kids the basic concept of credit: It allows you to buy something now and pay for it later. That means you’re in debt.

Let them know that, while this may sound like a lot of fun, it can end up costing them more in the long run unless they pay off their entire balance at the end of each month. Explain the advantages of doing just that. And the disadvantages: If you don’t, you incur debt.

It’s important for them to understand how interest works, and how it goes both ways: If they pay off their debt in installments, they’ll also have to pay an extra percentage for the privilege of doing so. On the other hand, they can make interest work for them, too, because savings accounts and other investments earn interest for them.

At some point, you’ll also want to let them know how compound interest works: That it isn’t just interest on the initial sum, but also on the interest that accumulates on top of that unless you pay it off. That creates more debt. Which is what you want to avoid.

Introduce your children to the idea that credit and loans take different forms, such as revolving and non-revolving credit. And familiarize them with these common types of credit:

  • Credit cards 
  • Student loans
  • Mortgages
  • Business loans
  • Personal loans
  • Car loans

These are all forms of debt. It’s important to build good credit so you can take out loans when you need them, but impress upon your kids the difference between taking on manageable debt (and paying it off as soon as possible) in order to build credit and taking on too much debt for purchases you don’t need or can’t afford, and how that can snowball into severe financial difficulty.

Why maintaining good credit is important

Credit is like trust. Your children understand that they can earn your trust by abiding by the rules you set down and being true to their word. Then, if you see that they’re trustworthy, you can give them more freedom and responsibility as a result.

On the other hand, if they sneak out of the house when they’re not supposed to or don’t follow through when they say they’re going to do the dishes, you as a parent likely might give them less freedom and responsibility (perhaps even grounding them for major breaches of trust) in the future.

If you’ve made it clear how this works in their relationship with you as a parent, you’ve begun preparing them to build and maintain good credit, since it works the same way. If you’re responsible with the money you’ve borrowed and pay it back on time, abiding by your agreement with the lender and keeping your word, your credit score will rise.

This will encourage banks and other lenders to loan you more money in the future because they know they’ll be able to count on you to pay it back. And you’ll need those larger sums to make big purchases like a car or a house. If and when you incur debt, it’s best to do so for those kinds of purchases: necessities and investments that will make a difference in your life in the long run.

In a nutshell, there’s good debt — which can help improve your financial situation over time — and bad debt, which doesn’t.

It’s easy to get into debt (especially the bad kind) if you’re not careful, and it’s a lot harder to get out of it. That’s something you should tell your kids, too. Credit isn’t free money, and it’s not always fun. In fact, having large amounts of debt can keep you from having fun in the present because you’re too busy paying off the fun you had in the past.

If you teach your children these kinds of financial lessons in ways that are concrete and easy to understand, you’ll be doing them a big favor. They may even thank you for them in adulthood!