Learning how to spend and invest wisely is hard enough for many adults and it's even tougher to instil the principles of good money management in children. But one of the greatest gifts parents can give their children is the protection of sound financial habits for life. We examine the role of parents and guardians in the financial education of children.
There was a time when money was simple: you either had it or you didn't. When I was young, one penny bought you a gobstopper (those were the days of pounds, shillings and pence). My first Eskimo Pie ice cream cost five cents (we had advanced to the decimal system by then - as had inflation). My parents paid cash, or wrote out a cheque when the amount was large.
Money was real. Nowadays it is virtual - and even when you need hard cash it comes popping out of a machine. You pay accounts by electronic transfer and groceries are yours when you whip out a piece of plastic at the checkout counter.
Gone are savings books where your savings mounted up in black and white, fuelling dreams of being a millionaire. Money has become an abstract concept.
Now try explaining to children what money is all about. And explain it to them you must if they are not to follow many of us into the depressing depths of free-spending and debt. Probably the most difficult lesson to teach children of the money-in-cyberspace generation is that there is not an unlimited supply.
Huh?'
Most of us do not spend time talking to our children about money, its uses and how to manage it. A survey in 2000 by Charles Schwab (an American financial services company) found that most parents would rather talk to their teenagers about drugs than money and investing although both topics were preferred to discussions about sex.
This is compounded by the fact that at school children learn about theorems, how rubber comes from the jungles of South America, why DNA is important, how to speak a foreign language, even how to balance a company's balance sheet - but very little about how they should manage their own money.
Ask the average matriculant what credit life assurance is, or investment rebalancing to ensure a properly diversified portfolio, or a hedge fund, and all you are likely to get in response is: "Huh?"
The lack of comprehensive courses on personal finance at school level means you have more responsibility to educate your children about money.
Children need to understand things such as why low interest rates are good for your mortgage bond but bad for their bank savings. They have to learn about the value of money and why it is important to manage money and plan carefully for the future.
If they imbibe proper money management, with all that that entails, from an early age, it will stand them in good stead for the future.
I recently had to explain to a 26-year-old why, in the early years of a mortgage bond, interest rates are high relative to the capital payments. He did not understand that, over a 20-year repayment period, the amount of interest paid would drop relative to the capital payments, until, eventually, the capital repayments would exceed the interest payments. He thought the interest payments would stay level throughout the life of the mortgage bond, and could not understand how the interest would be paid off.
Learning by example
Teaching children about money does not mean sitting them down every Saturday morning to a lecture on the vagaries of stock markets. In the main it means including them in the daily running of the household. This includes involving them in planning the household budget, explaining the differences between needs and wants, telling them why you have life assurance, and why you need a retirement plan (so you won't be a drain on them in your old age).
We need to be aware of how we manage money ourselves and what lessons that has for our children.
As William Ramwell, a media spokesperson for First National Bank, says: "How do we teach our children to handle money sensibly? What message are we sending our children if we buy lottery tickets at the kiosk on Saturday, but in the middle of the week there's no money for bread?
"It is true that most of us learn from the examples our parents set us. Most of us can remember how our mothers used to save money - maybe monthly in her bank savings book or as part of the stokvel or savings club she belonged to, or even in a jar on the shelf. But she saved it for a reason - to guard against a sudden expense, a medical emergency, or even for a Sunday treat," Ramwell says.
He says it is important that we teach our children these values. "Learning how to manage money and how to make it work for you, instead of just getting it and spending it all at once without a thought for tomorrow, is a valuable lesson for our children. It will help them grow up to have confidence in managing their own financial affairs."
Colin Donian, the head of investment products at Nedbank, says the best way parents can teach their children - be it about financial prudence, living within one's means, making wise expenditure choices or saving and investing for defined objectives - is by example. Verbal advice that parents are not seen to carry out themselves is simply a waste of time, he says.
The inconsistency of parents "telling" children one thing and doing another themselves is fatal for any effective teaching.
Donian says you should "create an environment that approximates the real world. This helps children to deal with reality rather than an artificial set of circumstances that have to be unlearned later".
Appreciating assets
Lizwe Nkala, the marketing manager at Old Mutual Personal Finance, says other factors that influence children's financial attitudes include peer pressure, wanting things now, keeping up with what friends or relatives may have, wanting to have the best and an "everything must be branded" attitude.
Nkala says children must be taught to appreciate the value of the hard-earned assets bought by their parents and to care for them respectfully.
They should also be held responsible for looking after items that their parents have bought for them. And parents should keep a close eye on how much pocket money their children receive from different sources and how they spend it.
"Have discussions on how, for example, they will spend their own earnings from vacation jobs or part-time projects," Nkala says.
"Encourage them to save for a special item like a bike or skateboard. Teach them to stick to a budget. Allocate a certain amount to be spent on new clothes and discuss their choices, such as one branded track-top versus several chain store items."
Ramwell says a good way to help older children realise what things cost is to involve them in drawing up and spending the household budget. Explain how electricity, water and the telephone are charged for. Take them shopping and ask them to compare prices and find the cheapest baked beans or washing powder. Point out that different brands have different prices.
Most banks have special low- or zero-cost bank accounts for children, with additional advice or educational services available, mainly through the internet.
Erik Larsen, the media spokesman for Standard Bank, says having a bank account helps children understand money management and how banks work.
Among other things, a bank account shows children the value of interest earned and how to save for special purchases, ensuring that they become habitual savers and wise spenders.
You should explain to your children how to manage their accounts cleverly - for example, the cost advantages of restricting themselves to the number of free transactions the bank permits each month.
Larsen says you should transfer your children's pocket money into their bank accounts, and show them how to budget correctly without interfering with their independence.
Some banks sub-divide children's accounts into a transaction account and a savings account and allow transfers between the two. This enables children to better manage savings and spending.
Donian says that in encouraging saving, you should reach an agreement on such things as whether your child will put aside a fixed amount every month or will save on an ad hoc basis.
He says it also helps to set savings targets, such as saving towards their tertiary education, for a vehicle or an overseas holiday.
Ramwell says some parents insist that a certain amount be saved. Some encourage this by adding a "bonus" each time a certain amount is reached. For example, if a child saves R100 the parent will add another R10 or R50, or some other agreed amount.
Ramwell says it is important to praise children when they save. "Try to reinforce saving by telling your children how you save and what for. It could form the cornerstone of financial independence and security later in life."
He reiterates the importance of teaching children how to manage their bank accounts.
"You should encourage your child to read their ATM slip or monthly bank statement. Teach them to check the deposits made as well as the amount of money withdrawn against a record of how they have spent their money (even if that is just an envelope with receipts)," Ramwell says.
Donian says you should discuss the best type of account with your child.
"Does your child require an ordinary savings account for transactional purposes? Or an investment type of account for more disciplined savings?"
He says you should also teach your children some fundamentals of banking, such as how the excessive use of an ATM and using the ATMs of other banks linked through Saswitch results in higher costs.
Your budding stockbroker
Nkala points out that children often have several sources of money or assets, and these all offer opportunities for parents to teach responsible attitudes.
As children mature, parents can start teaching them basic, time-honoured principles of investing with extra money they receive.
"Many parents were swept along in the overheated stock markets of the nineties and invested heavily in growth shares such as technology and telecommunications. Now, sadder and wiser, they're starting to realise that what worked in the past will not work today, and it's worthwhile sharing these lessons with their older children," Nkala says.
She suggests parents should teach their children tried-and-tested investment guidelines, such as:
- Save and invest with a reputable institution.
- It's time in the market that counts, not trying to time markets. The truth is that no one knows when markets will rise and when they will fall. Advise your children to be patient.
- The sooner you start saving, and the longer you save, the more likely you are to make good returns.
- Manage risk through diversification. There will always be better-performing and worse-performing assets. Focusing on one portion of an investment portfolio, or only on the short term, may lead to wrong conclusions and unwise decisions. Young investors starting off with limited funds can diversify by buying unit trusts with managed, diversified portfolios.
- You generally get the best returns by investing on a regular basis even in times of volatility. The wise investor continues to invest through a dip in the market, knowing that the cheaper shares become, the greater the gains to be made when the market recovers.
Finances through the ages
Learning about money is a gradual process that should culminate, by age 18, in your children understanding how saving, investment and debt affect their lives. But how much can they absorb at each stage of growing up? The following time-line provides a rough guide.
Ages 0 to 3: The very basics
At some stage in their first three years you can teach your children the basics of arithmetic - in other words, how to count to 10. As they begin to grasp the meaning of words, you can start to instil the notion of exchange. For example, if you buy your child a sweet, let him or her give the cashier the money and take the sweet.
Ages 3 to 5: Learning values
Start instilling the basic concepts of saving by placing coins in a glass bottle so your children can see them adding up. Start instilling the notion of coins having value. Show them how five one cent coins equal one five cent piece, and how five 10c coins equal a 50c piece, and so on. Taking your children shopping provides an excellent opportunity for them to understand the values of the different coins. When buying small items, let them pay with cash.
Age 6 to 8: Time for pocket money
This is the time for you to give your children pocket money once a week. This introduces them to two concepts at once: making spending decisions and the fact that different items cost different amounts of money. This is also the time to introduce your children to the basics of saving. Encourage them to set their sights on something they want which will necessitate them having to save for two to three months. (If the period is too long, they may become discouraged and learn that savings goals are impossible to achieve.) Again, the money should be kept in a place where your children can see it grow, rather than in a bank account. (This does not mean you cannot open a bank or unit trust account on their behalf.)
Ages 8 to 10: Hello plastic
This is the time to introduce the concept of virtual money, particularly for savings, which you help, control. Show your children that there are rewards for saving. As well as teaching them the concept of their money earning interest, you could encourage saving by offering the incentive of paying your children an additional R1 for every rand they save. Allow them to set and record savings goals, since it is important for children to understand that there is a reason for saving. Saving for the sake of saving hardly fires the imagination. Only once they have saved sufficient money, should they withdraw enough to buy the goal item. If your children want to use the money for something that was not part of the savings plan, they should pay you back at least half of the incentive you gave them to save.
Age 11 to 12: Welcome to the family
Start explaining to your children how bills have to be paid every month. Tell them how money has to be paid out for day-to-day living. Reduce the pocket money payment period from once a week to once every two weeks, so they have to make their money last longer. Start explaining the difference between saving and investing - in other words, introduce them to the concept of reasonable risk for returns. If you have opened a unit trust account in their name, show them how the investment is performing, explaining the basics of investment. Show them how to track the price of their units at least once a week in Personal Finance newspaper. Encourage them keep a record in a notebook or on a computer spreadsheet. They will need to learn how to multiply the number of units they hold by the current price to get a value. Start teaching them the concept of compound growth on an investment and how growth attracts more growth.
Age 13 to 15: Time to negotiate
Now is the time to negotiate the amount of pocket money that you provide. You and your children should draw up a list of personal essentials that must be bought with the money, some to go to saving and the rest for pleasure. This will entail drawing up a monthly budget and recording actual expenditure. Change the payment to once a month and set a renegotiation date for a year hence. Go into more depth on the subject of unit trust investments and show them how unit trusts invest in underlying investments, what underlying investments there are in their fund, and how underlying investments can change.
Ages 15 to 18: Your last chance
Involve your children more intimately in the family budget. Ask for their opinion when you prioritise spending. When you pay the bills, get them to help by filling in the cheques, or making the payments over the internet. Let them see that money has to be used with great care. Start discussing different types of investment, such as shares, bonds, property and cash. Discuss why one company is a better investment than another company. Help them understand the consequences of debt and the effect of paying interest on borrowed money.
Out of pocket
The most common question parents ask is, "How much pocket money is enough?" It is a difficult question to answer in South Africa, where there are vast disparities in income levels.
Countries such as Britain and the United States publish regular pocket money surveys, but such surveys would be meaningless here. The right amount is what you consider best and whatever fits comfortably with your income level and your standard of living. A word of warning: Don't be over-generous. Money should not, ever, be seen as easy to come by.
Apart from the "how much" question, parents also commonly ask how soon they should start paying pocket money, whether it should be used to pay for some essentials, such as clothes, and whether it should be based on a reward system.
Foreign literature on the subject suggests that, whatever the age of your child, you should always negotiate the amount and the responsibilities attached to the amount. Responsibilities could include doing certain chores, saving a fixed percentage to buy something your child wants, and/or taking responsibility for buying movie tickets, friends' birthday gifts and some clothing.
William Ramwell, a media spokesman for First National Bank, suggests a good way to start is to give even very young children a small amount of pocket money each week to help them get into the habit of buying things on their own and with their own money.
"Once you have decided on a certain amount of pocket money, you must explain to the child what it is for and what his or her responsibilities are," Ramwell says. "In the younger years, it might only be to buy a meal at school, a few sweets or an ice cream. Later, it will include outings with friends, magazines, birthday and Christmas gifts, perhaps bus fares.
"In the teen years you may decide to add a clothing allowance. If your child has grown up with good guidelines from you and has learnt that extra money will not appear like magic if pocket money doesn't last the week or month, and that they must save for special things such as holidays and CDs, they will have an understanding of money management."
If you decide your children should "earn" their pocket money, Ramwell says the terms should be clearly set out and agreed upon.
"Maybe this could include making their own lunch every day, keeping their room tidy, emptying the rubbish each morning and feeding the dog. Extra money can be earned' by doing extra jobs like washing the car, cleaning the windows, sweeping the yard," he says.
A survey by the American Savings Education Council shows that 59 percent of parents tie allowances to household work or school marks. Some suggest children should be given a choice between doing chores and receiving money, but that leaves you open to frustration if they decide against the chores.
Some literature suggests that the link between money and chores should be made over and above pocket money, and apply only to those larger, voluntary chores such as washing the car and mowing the lawn. In terms of that argument, everyday chores, such as doing the dishes or cleaning rooms, are part of the normal contribution to the family unit.
However, Colin Donian, the head of investment products at Nedbank, argues that pocket money should not be provided unless it is clearly linked to some form of contribution to the home.
"The old adage money does not grow on trees' needs regular repetition," Donian says. "Children, like adults, need to understand that there are two sides to an income statement. There is no free money. And expenditure is related to income and if you disregard this, your finances and life can go bust, either in the short term or when one can afford it least, in older age."
Another important point is that, once you have settled on an amount (preferably by negotiation), you should not defeat the object by handing out extra amounts to meet every request.
On the other hand, Donian warns, beware of using the withdrawal of pocket money as a punishment. Pocket money should have a "basic" element that does not change at the whim of a parent, he says. "If one expects children to plan their expenditure, savings and so forth, they need to know that as long as they are part of the household, they have a regular income to manage."
When a fixed amount of pocket money is not enough for a special occasion, Ramwell suggests you make your children a loan.
"But be sure they understand it must be paid back in regular amounts and even charge them a little interest so they understand nothing is for free! Explain that interest is paid on money borrowed and earned on money saved," he advises.
This article was first published in Personal Finance magazine, 4th Quarter 2003. See what's in our latest issue