Four Important Lessons Allowances Can Teach Children about Money | Moneta

Blog

Kara Harmon, CFA, CFP, AWMA

Most parents understand the importance of teaching children about money, but many don’t know how or where to start.  Unfortunately, this often results in parents failing to teach important lessons about finances to their children. Consider these alarming statistics from the JumpStart Coalition for Financial Literacy: “Only 26% of 13-21 year olds surveyed said that their parents taught them how to manage money.”

From a young age, children can be coached to understand the concepts of income, responsible spending, saving, and borrowing—all with the help of an allowance.

INCOME 

One of the first lessons a child should learn when it comes to money is that it isn’t free. In fact, money is something that is earned through work, resourcefulness and dedication. The best way to teach your children about income is to set up an allowance.

Children can take on simple tasks and chores starting at an early age. Many families create odd jobs around the house that must be completed in order to earn a small amount of money.

An allowance presents parents with an opportunity to reinforce the idea that you have to work to get paid and you have to get paid to buy the things you want or need.

It is highly important that parents stay strict about not paying their children unless they actually complete their job list and also that the payment is reasonable for the work performed, thus beginning a lifelong lesson about work ethic.

SPENDING & BUDGETING

The next important financial lesson you can teach a child is the concept of budgeting and responsible spending.

Consider paying your children’s allowance once or twice per month and implementing a waiting period before purchases can be made. These are great ways to demonstrate the concepts of planning ahead and spending responsibly.

Next you should spend some time discussing and defining wants versus needs. This is especially important because it reminds them that everything has a cost and therefore you cannot spend all of your money on things you want without first saving for the things you need.

One way to continually reinforce this concept is to include them when it comes time to pay the bills or make a purchase at a store. They may not have to actually pay at this point, but being involved in the process helps them better grasp the concept that everything has a cost and budgeting is important.

This will be pivotal in helping your children prioritize spending and keep a rein on their budgets when they get older.

 

SAVING

As adults, there are always unexpected circumstances or events that simply can’t be planned for. In order to be prepared, it’s imperative to have money saved for rainy days. That makes savings and emergency funds a crucial component when teaching financial literacy.

Again, one way to encourage saving is through the allowance system. Consider providing your children with different locations or containers to save their money in, each for a different purpose. Label one container “fun” money, and others short-term savings and long-term savings. By helping them save up for something they want next month and something they need next year, they start to understand how you can feed both your wants and your needs.

You should also communicate the importance of saving money for unexpected events. Think about providing real life examples to your children as they happen to you and your family. If a major home repair is needed, explain the unplanned expense and how you were able to use savings to cover the unexpected cost. Also do your best to illustrate the problems you could face if proper savings weren’t in place.

BORROWING & INTEREST

Finally, if your child really wants something, resist the temptation to just give it to them. Instead, use this as a learning opportunity. Ideally they can save up the money to get it. If they haven’t mastered that yet, they can borrow the money from the ‘bank of Mom & Dad.’ In this case, you’ll loan them the money at a certain rate of interest and then make ‘allowance deductions’ from their weekly allowance until their loan is paid off.

One fun idea is to give each child a pay stub with their allowance that reflects the amount of money that was deducted for interest. This will help demonstrate the idea that paying for things with borrowed money can result in added cost.

All four of these lessons will take time and discipline to teach and they are sometimes difficult to explain to children; however, the concepts of income, spending, saving, and borrowing are important lessons for every future adult to learn.