This is the fourth article in our series, “Talking to Children About Money.” In this article we explain the differences between good and bad debt and give tips on explaining debt to children.
There are many four-letter words we don’t want our children to learn. Of course, we know with or without us they will likely hear them. Contrary to that thinking, there is one four-letter word we should teach our children sooner rather than later, and that word is DEBT. Like all money skills, debt is an important concept we should be explaining to our kids early on so they won’t fall prey to its grasp later in life.
When explaining debt to kids it’s important to make the distinction between the good and bad.
The financial definition of debt is: Something that is owed, such as money, goods, or services. But not all debt is bad. In fact, a lot of it is necessary for building a healthy, financial future.
Tip #1: Good debt might sound like an oxymoron but it’s not. Good debt helps increase a person’s net worth and value – especially in the eyes of the banks that lend money. Of course, it’s important to note that debt can only be good if it’s paid back – and on time. Examples of good debt can include: a home mortgage, a car loan, student loans for college, and borrowing money to start a business.
Tip #2: Bad debt is obviously the opposite of good debt in that it’s made by spending money on goods and services that don’t necessarily increase your net worth or value. It can also be characterized by someone spending outside of his or her means. Think of big-ticket items such as a thousand dollar plus flat screen TV, expensive clothing, technology gadgets, and luxury vacations. While these things are nice-to-have (and might be fun), they don’t necessarily increase your net worth. In fact, they do the opposite – they drain your bank account, especially if you don’t have the money to pay it back.
Tip #3: Don’t use a credit card to purchase items if you can’t pay the bill in full and on time. In our last article, we introduced the concept of buying things on credit and how important it is to pay bills on time to avoid high interest fees. This concept is even more relevant when explaining debt to children because a credit card is the easiest way to get into bad debt – and fast.
Tip #4: Like a kid in a candy store – you don’t need to eat (or buy) all the candy – It’s important for children (and adults) to understand that just because you have a big line of credit (a large sum of money to spend) doesn’t mean you need to spend it all at once. Credit card companies tack on huge interest fees and if you don’t pay your bills in a timely manner, chances are you’ll end up owing more money in fees than the original cost of the item you purchased. Like that kid in the candy store eating too much – you’ll probably be just as sick.
Tip #5: Don’t let your children borrow money without putting a payback system in place. There’s nothing wrong with letting your children borrow money since chances are they don’t have any of their own – yet. But it’s important that kids understand from an early age that nothing in life is free. Try putting a system in place that requires them to pay you back. It reinforces responsibility, one of the most important traits they can take into adulthood.
Teaching children the difference between wants and needs can go a long way in helping them stay ahead of the debt game and give them the foundation to understanding the difference between good and bad debt so they can build a healthy, financial future.
Lemonade Day is a non-profit dedicated to teaching every child across North America the business and financial skills that are the key ingredients of entrepreneurship. By learning these skills early in life, children will be better prepared to be successful, financially healthy adults. Through our fun, hands-on program Kids K-5 are empowered to start their very own business—a lemonade stand—and experience the feeling of earning real money, using 100% of their profit to spend, save and share based on their own goals.
Visit LemonadeDay.org to learn how to participate in Lemonade Day in your city