How to Teach Your Teen a Valuable Summer Money Lesson

The summer school break just might be serving up the best opportunity for you to step up and deliver one of the most valuable money lessons. Any child with a paying job is eligible to have their own Roth Individual Retirement Account (IRA).

I realize retirement is likely the last thing on the mind of your teenager or young adult, but they are at the absolutely perfect age to take full advantage of compound growth. I want you to step up and lead the way.

Advertise the payoff.

By starting to save at a young age, money has more years to grow. A small amount put away today can grow to be worth more than a much larger sum saved years later.

A $2,000 contribution to a Roth IRA at age 15 will be worth close to $50,000 at age 70, assuming a 6% annualized rate of return. The same $2,000 saved at age 40 would be worth less than $12,000 at age 70. The only difference is the time the money was invested.

If your adulting 25-year-old manages to save $6,000 a year (that’s the current annual maximum IRA contribution for anyone under the age of 50) for 10 years, the $60,000 he or she contributes will be worth around $650,000 at age 70 assuming a 6% annualized return. If she instead waits until age 40 to get serious about retirement saving, contributing the same $60,000 over 10 years would be worth around $270,000 at age 70 assuming the same 6% annualized return.

Open a Roth IRA in their name.

Everyone who has earned income, regardless of age, is eligible to contribute to an IRA. The only catch is that if a child is still a minor (younger than 18 in most states), you will open a Custodial IRA for your child; when they reach 18-21 the account becomes 100% theirs.

Explain that by saving in a Roth IRA, every dollar they take out in retirement will be 100% tax-free. I am confident you can explain what a huge win that is.

Consider kicking in a matching contribution.

I am not suggesting your 18-year-old funnel all their hard-earned summer pay into a Roth IRA. The goal is to encourage them to save a portion of their earnings. How about at least 10%? Introduce that as a goal, and you just might be laying the groundwork for your future adult to set that savings goal when they start working full-time.

And if your household finances are in solid shape, you can add to their contribution. The only rule is that the total amount contributed in a year can’t be more than the child’s earnings. For example, if you child earns $2,500 this summer and agrees to contribute $250, you could add a matching contribution of as much as $2,250.

I want to be clear: You are only to add a matching contribution if your finances are in great shape. And I would rope in grandparents, aunts, and uncles. They can gift money to add to the Roth IRA as a birthday/graduation present. Again, the only rule is that total contributions to an IRA in a calendar year can’t exceed what the child earned.

Introduce the value of stocks for the long-term.

Given that a child saving for retirement has multiple decades until he will use the money, investing in a low-cost stock index mutual fund or ETF is smart. That said, you must explain that over the short-term stock investments can lose value. Just use the current market as Exhibit A!

Ideally, you will be able to talk through how bear markets are a natural, if unpleasant, aspect of long-term investing. I talked about that in my previous post that you can use as a guide. But if your child seems scared about putting all the money in stocks, that’s okay. Maybe you start with 50% in cash and invest the other 50% in a Total Stock Market index fund or ETF with the agreement that you will reconvene every six months and discuss moving more of the cash stake into the stock index fund.

I hope you will consider using summer break as an opportunity to show your children that there is no better time to cash in on compound growth.