Advice For Your Children: What To Do With That Early Career Wealth

The other day, I had drinks with some good friends.  As we chatted, we talked about how their kids were starting their professional careers.  In the conversation, they brought up a topic near and dear to me (one I’ve even blogged about before).  The college curriculum left their children ill prepared to handle their adult life finances.

As the conversation progressed, they explained how their children didn’t know where to put their money. They were heavily conflicted on the smartest place to put each dollar.  Don’t get me wrong, it’s nice knowing I’m not the only one seeing a lapse in education, but it does raise a red flag. Therefore, I am taking this opportunity to help you educate your children how to allocate this new-found wealth!

Balance

First, stress that balance is key.  Your children will have a natural inclination to overfund one area (such as student loans).  Encourage them to fight this urge.  Getting used to spreading your dollars around is not a bad thing.  In your mind though, weighting one thing as heavier importance is still fine.  However, I’m a big proponent of learning the importance of spreading the wealth.  Each account will serve a unique purpose and the sooner one can get comfortable in all areas, the better.

Think of it like a diet.  You may eat more veggies or fruit, but to be healthy your body needs protein, dairy, and more.  Help them give their finances the same balance and they’ll enjoy the rewards.

Areas to fund

Now that we understand balance is important to your financial diet where should we balance these dollars?  I emphasis the “Big Four.”

In no particular order they are:

1. Retirement savings – Get invested in your company’s retirement plan. If one isn’t offered, start an IRA (or Roth IRA) of your own.  The tax benefits and use of compounding interest will be critical to the future.  It may seem far away, but time has its way of sneaking up on you (shoot somehow I have 3 kids now)!
2. Debt Reduction – Assuming you are not one of the lucky few, you’ll have student debt. Start addressing this now.  If possible, I recommend consolidating to a lower rate.  Then start a systematic and predictable repayment program.
3. Slush fund – I could call this the emergency fund. But let’s be honest, slush is more fun.  Plus, your 20 something kids will think it’s cool!  There are many unknowns when starting a career.  There are a million reasons you’ll need cash in the future, so start a liquid cash account now.  Simply put, cash is king.  Make sure not to neglect this versatile place for your money.  For some good tips on where to save check out this previous blog. 
4. Liquid investment account – The final area is a liquid investment account. Consider these dollars for future big purchase (like a house or car).  In the end, they may simply end up as additional retirement savings (and that is not a bad thing).  This account will be more volatile; therefore, you’ll need to designate long-term dollars here. To start, I’d suggest a few mutual funds or index funds.

Prioritize

If you understand the importance of balance and initial funding areas, it’s time for the final piece – Prioritization.

There are three key factors:

1. Time Frame – Understand your time frame. For instance, a house purchased in 10 years doesn’t need a ton of attention now.  Additionally, college loans on a 20 year repayment plan also doesn’t need immediate overfunding.  But, the car you need for your new job will require more love right now.
2. Rate of Return (R.O.R) – Consider the rate of return (or expected rate of return). Why over fund a college loan at a fixed 4% (or cash account at 1%) when there may be a better return on your dollars? I’d use these assumptions: cash gets you 1%; a liquid investment account (with a mix of stocks and bonds) gets 6%-8%; a more aggressive retirement savings account can get 7%-10%.
3. Importance – What is the purpose and importance of each funding account? Likely all of these items are “important.”  Understanding necessities (like being able to retire) and wants (such as a bigger vacation); however, are worth giving appropriate levels of importance.  That is not to say going on vacations isn’t important,  because all work and no play makes Jack a dull boy.  But, do recognize the big picture.  That vacation now instead of a sound retirement is simply not on the same playing field.

Last thought

Hopefully, this will provide a little guidance and direction as to where your children should be focusing their finances.  By no means is it a perfect science; there are many factors to consider.  Just remember: Balance & Perspective.  Those will certainly help your children on their way to success.