Allowing your kids to make mistakes with money

One of the hardest things for me as a parent is to watch my kid make mistakes and suffer the consequences. Now, I do my best to stop her from making any really big mistakes with big consequences — I make sure her seat belt is on, I don’t let her talk to strangers online, and I make her wear a helmet when she is riding a bike. However, when it comes to money, I am committed to letting her make mistakes, suffer the consequences, and hopefully learn. The consequences of money mistakes for a tween feel tragic, but they are still fed and have a roof over their heads. The same mistakes at 21 or 41 can get you in a lot bigger trouble.

For the last two weeks or so, the Child has been earning her own money to buy extras with. That includes snacks (we are no longer buying junk food, but of course, she is welcome to snack on apples for free), and in-app purchases. She gets 5% interest on any money she has left at the end of the day. She can earn $2 per day by doing her schoolwork and chores, but she can get overtime for doing extra chores.

With a 5% daily interest rate, the winning strategy is to accumulate some money, say $100, and then “retire,” making $5 per day just in interest. And because of the magic of compound interest, getting to $100 would take her just 25 days of not spending. In just 66 days of not spending, she can accumulate $1000, generating $50 per day and be completely financially independent! (OK, if she really got close to that, I would reduce her interest rate.)

Despite these amazing possibilities, for now, the Child is behaving like a typical consumer. She is doing a good job, “going to work” every day and earning her $2. So far, she has not elected to work overtime. Almost every day, some shiny in-app purchase tempts her, though, so her account fluctuates around $5. At the end of the month, some of her memberships will expire. I am not sure she will have the money to renew them. She also loudly complains about the lack of junk food in the house. Still, because we only shop about once a week, she has trouble accumulating enough money to buy enough junk food to last her the week (not that I am sad about this. I don’t really want her to buy junk food).

Of course, her behavior is very typical for many young (and not so young) adults. I know plenty of 20-year-olds who spend their weekly paycheck on the newest electronic or at the bar, and at the end of the month, they don’t have enough money to pay rent. Or 30 years-olds who have shiny cars but find it impossible to save for a downpayment on a house. Or 60-years-olds who have pulled out the equity in their home so often that they are still looking at another 25 years of mortgage payments and have no retirement savings to speak of.

At each stage, it becomes harder for a parent to watch their child suffer, and we all know of middle-aged adults whose parents still “help” them financially. I don’t want that for the Child. So, I will listen to her complain about the lack of junk food in the house, and I will let her memberships in her favorite apps expire and hope she learns this lesson early so in 10 years, I don’t have to worry about her becoming homeless because she couldn’t pay her rent.

If you have kids out of the house, now is a good time to stop “helping” them financially. That doesn’t make you a bad parent. They will feel better about themselves if they can figure out how to manage their own finances. If you don’t feel you can stop “helping” abruptly, you should plan with them on how you will gradually decrease how much money you give them and stick with the plan. Being a parent is hard work, but ultimately the goal is that your adult child truly becomes independent from you, and financial independence is a key step in that journey.

Teaching money skills to tweens and young teens

As the Child is approaching the ripe old age of 12, it is time to teach her to the skills she will need to be able to manage her money as an adult. As every teacher will tell you, to design a good lesson, you need to start with learning objectives. So what should a tween or a young teen know? Most tweens are ready to be introduced to all the complexities of money that they will need as adults. The amount of money they will earn, manage, and spend is, of course, smaller than those an adult would manage. You will also need to “speed things up” so they can see their money grow in a time frame they can follow. Earning 10% interest per year might be a reasonable return on investment for an adult, but a 12-year-old would have difficulty noticing such growth. Here are some basic money management skills you might want to teach and ideas on how to do it.

To make money, you have to do something. Set up a list of “jobs” that your child can do to earn money. We are allowing the Child to make money for doing each of her school subjects as well as doing chores and getting physical activity. She can earn about $1.50 a day for her “work” (we are probably breaking some minimum wage laws here). Each task she has to do is worth 25 cents. She gets a completion bonus of 50 cents if she finishes all her tasks for the day.

Consider overtime pay to give your tween or teen a chance to earn extra money. We pay double rate for additional chores. Also, consider performance bonuses for jobs well done. We pay significant bonuses for exceptional school performance. The Child made $10 this morning by getting an A on her Spanish test.

Some parenting books will tell you that kids should not earn money for chores but should have a set allowance because they should learn to aim for internal motivation. The child shouldn’t strive to get an A on the test to earn a performance bonus but to get the satisfaction of a job well done. While I understand this argument, I don’t think I can expect more from my child than I expect from grown-ups, and we all appreciate getting paid for our work, so I am OK with the Child being motivated by a performance bonus.

Once you have some money, you can get your money to work for you. There are two ways to think about discretionary income: extra money to spend or a tool to help you on your financial independence journey. Here is an example from the adult world. Two families get a $5,000 end-of-year bonus. Family A decides to upgrade their TV and their cell phones. A year later, they are craving an even bigger TV and even newer cell phones. Family B puts their $5,000 in investments. A year later, they have $6,000. We all know how this goes after 20 years. The family with the new TV will have no financial cushion and will fear retirement. The family who invested every year will be sitting on a couple of million dollars and will be in a position to choose if they want to work or take a trip around the world.

Consider paying interest to your child on the money they haven’t yet spent. For a tween, you might consider paying interest every day. As your tween grows up, you can move to weekly or monthly payments. Our 11-year-old will earn 5% each evening on any money she has left at the end of the day. If your child is a natural saver, use lower interest or longer intervals. The power of compound interest is amazing, so be careful not to overcommit.

You can’t buy everything. An essential adult money skill is the ability to prioritize and save for bigger purchases. To give your tween or teen practice, you need to stop buying everything for them. Of course, you shouldn’t stop buying anything they need, but you should cut back on funding their wants. We have stopped buying snacks and online subscriptions. The Child is generating a very long list of things she wants, and I am sure the list will keep growing as she discovers the power of money. Her many wants create the need for her to prioritize. She will also learn (we hope) that if she wants a $10 membership, she can’t spend all of her daily earnings on candy.

Debt is bad. I know some people will disagree, but in my opinion, all debt is bad. Really, really bad. And consumer debt to buy optional items is truly evil. Unfortunately, for most kids, the only way to teach this lesson is to let them get into debt and experience the pain for themselves. And for the pain to be real, you need to charge interest and have consequences if the debt is not paid on time.

One option is to secure the debt. The kid needs to give you something of value, which becomes yours if they don’t pay you back. I know I am not strong enough to stick to this rule, though, so instead, we are doing unsecured debt like on a credit card. The Child is allowed to borrow money at 10% interest per day. Her credit limit is $10. If she exceeds the limit, she will not be able to use screens or spend anything until her balance is under $5. An older child should have the ability to get into more significant debt which will take longer to get out of.

Those are the four main lessons about money that I think every adult should have mastered. What are you teaching your kids about money? How are you teaching it?

Optimizing the ROI on a big state school education

So, you (or your child) are ready to go to college. Now the question is, where to go and how to go there for the least amount of money. Large public research universities (think UC system, University of Minnesota, University of Iowa, University of Illinois, etc.) are an excellent option for many students. Some benefits of a large research state university are:

  • A lot of options for choosing a major
  • A wide variety of courses
  • Access to top research faculty
  • Variety of student activities such as clubs, Greek life, etc.
  • Generally, easy to transfer in credit if you took classes somewhere else

There are also some negatives to be aware of. Most of these negatives can be largely avoided if you do some planning:

  • Large classes: Many of your classes, especially general education classes, will be large, often hundreds of students. You can mostly avoid this issue (and save money!) by taking many of your general education classes at a community college. Do make sure you understand the rules your university has about transferring credits, but most state schools have very generous policies.
  • TAs instead of professors: Graduate students will teach many of your discussion sections (small sections that go along with your large lecture classes). This is not necessarily a bad thing because, while inexperienced, graduate students usually put a lot of thought and effort into making their classes a good experience for the students.
  • Adjuncts: Some of your classes will be taught by adjuncts who teach at the university part-time and are often hard to reach if you need a recommendation a few years later. You can select your classes carefully to mostly avoid this issue.
  • Easy to get lost: Being self-motivated is very important when going to a large public university. Help is available, but you have to seek it. It is easy to fall behind, miss assignments, etc., and it is unlikely than anyone will notice. If you see you are falling behind, seek help right away!

State schools often give you the best ROI because they combine relatively cheap tuition with well-established credibility of your degree. Even with their lower tuition, though, an average public university will run about $80K with in-state tuition for four years. According to Zillow, that is 1/3 of the average price of a home in the US, so it is worth doing some planning to reduce your cost. Here are some ideas:

Start taking classes at a local community college while in high school. Make sure you take courses that will transfer. If you take one class per semester each of your junior and senior year and two classes each summer, you will be able to transfer eight classes–cutting your time in college by a whole year! That means not only saving $20K but also entering the job market a year early. If your starting salary is $60K, your hard work in high school will translate into $80K! That’s way better ROI than any high school job that you can get.

If you already missed your chance to take classes while in high school or if you want to super-charge your college experience, take summer classes while in college. You do not have to take summer classes at your university; you can still take courses at a community college, just make sure they transfer. Taking two classes every summer starting with the summer before your freshman year can also give you eight extra classes–cutting your time in college by a year. Some institutions also offer winter term classes for extra fun!

Take a minimum of 15 credits each semester and consider taking 18 credits. Even though 12 credits is deemed to be full-time, taking 12 credits per semester is not enough to graduate in four years. In fact, at most universities you will have to take five full years to graduate if you take 12 credits per semester and that is assuming that you don’t need to retake any classes, you don’t decide to change your major, you never have to drop a class, etc. An extra year in college will cost you not just $20K in tuition and living expenses but also a whole year in lost wages as you will enter the job market a year late.

On the other hand, taking 18 credits each semester will shorten your time in College by nearly a year. Keep in mind that 18 credits is a large workload. Be sure you can handle it before committing to such a plan. Taking summer classes may be an easier route to take to shorten your time in school.

Consider alternative living arrangements. Room and board run around $12K per year, but you do have options. If living at home is a possibility, seriously consider it. Maybe you feel ready to be out of the house, but if you stick it out for four years, you will start your post-college life $50K richer! And your chances of being academically successful are probably better if you are away from the college party scene.

If living at home is not an option, consider getting a job as a live-in nanny. It is usually easy to build your schedule around the hours the family will need you, and you can get all the benefits of living at home without actually living at home.

College is expensive, but that doesn’t mean that you should approach it with the mentality that you will “spend whatever it takes.” Making smart decisions about this huge investment will have a significant effect on your financial health for many years after you get your degree.

Is College worth it?

My wife and I both have PhDs, and we both work in education, so it is safe to say we deeply value education. I have also been a faculty member at a large state university for the last 15 years, and I have seen many students come in, take some classes, and then drop-out for various reasons. Hopefully, the experience was valuable to them, but without a degree, the rate of return on investment (ROI) is likely to be poor. Many of them ended up with $20K-$30K in student loan debt, which will affect their financial health for years to come without getting the boost to their earning potential that a degree provides. There are also students who did finish but have not worked at a position that requires that degree. The ROI here is a little bit less clear as a degree is probably helpful even if it is not related to the person’s job.

Different students also “invest” very different amounts of money into their education. For me, this is most jarring when the education they receive is basically identical, but they choose to pay very different amounts of money for it. Going to an out-of-state public university can cost many times more than going to a similarly ranked in-state institution.

Let’s look at an example. Mary and Beth are both graduating from high school in Wisconsin, and each of their families is able to pay $10K per year towards their college education. Mary decides to go to the University of Wisconsin-Madison (currently ranked #46 in National Universities by US News). She pays $10,725 for tuition and $11,558 in room and board (based on 2019-2020 costs). Assuming costs stay fixed for four years, she will graduate with roughly $50K in debt. Beth decides she wants a warmer climate and goes to the University of California-Davis (currently ranked #39 in National Universities by US News). She pays out-of-state tuition at $43,484 and $15,863 to live in the dorms. After her parent’s contribution of $40K over the four years, she will graduate with almost $200K in debt! And this doesn’t even account for the extra money she will be spending to travel to visit her family.

The value of the degrees that Mary and Beth will start their careers with is roughly the same. They both graduated from well-known large public institutions. They also had approximately the same experiences living on campus and had very similar opportunities to build their social network. However, Mary paid a total of roughly $90K for her degree, and Beth spent a total of about $240K. If you view a college education as an investment, you are essentially choosing if you want to pay $90K or $240K for the same investment. Of course, how your ROI looks depends on how much you decide to spend in the first place.

Mary, the student going to an in-state school, may be able to avoid debt altogether if she lives at home and spends her summers working to make the roughly $2K a year–that is the difference between what her family can afford and the cost of tuition. Or she can live at home and take summer classes to graduate in 3 years. In this case, she will be ready to enter the job market a year early with no debt at all. Her ROI, in this case, would be totally different than Beth’s.

The ROI computations becomes more complicated if a student is choosing between two different types of schools. If instead of going to UC Davis, a large public university, Beth decides to go to Augustana College – a small private liberal arts college where she will get a lot more attention from faculty. While Mary will likely take her math requirement in a class of 400, Beth will be in a class of 15. Beth will be paying about as much in tuition as she would have at Davis (assuming she doesn’t get financial aid), but the investment she will be buying is actually different than what Mary is purchasing. Is it worth it? That depends. Beth will receive a lot of personal attention. If she doesn’t show up to class, her professor will likely contact her to make sure she continues to be successful. That is unlikely to happen in Mary’s school. On the other hand, Mary will have access to a much larger variety of opportunities and will have much broader choices for building her social network. The ROI, in this case, depends on the type of people Mary and Beth are and on their future goals.

In the next several posts, we will explore how to choose the best environment for each student and how to minimize the cost of your investment in every case. We will bring in our experiences both as former students and as current educators. Please put your questions or tips in the comments below.