How much money should I leave behind for my children?

 

This is a question that I was asked by a client recently, and as with many such questions, it’s a complex one to answer as it depends on your own personal views and values, as well as the personality and capabilities of the child.

When I thought about it further, I came to the conclusion that it’s actually the wrong question. You have no idea when you are going to die, what your future circumstances might be, how much wealth you may have, and what sort of person your child may grow into. I would therefore suggest that a much better question is to ask, “How can I prepare my child to make good decisions around money, to use it creatively and for the good of him or herself and society, and to avoid the bear traps and leeches that populate the financial world?”

There is plenty of evidence for the damaging effects that too much money too soon in life can wreak on young lives. Vorayud Yoovidhaya, the grandson of the founder of Red Bull was accused of the hit-and-run death of a police officer whilst driving his million-dollar Ferrari, and reportedly used his wealth to buy off the officer’s family and avoid prosecution. Brandon Davis, 32 year old oil heir and friend of Paris Hilton, is a regular in the tabloids for drug infringements and alleged nightclub brawls. Prince Pierre Casiraghi, son of Princess Caroline of Monaco, was accused of being “completely obnoxious”, insulting models and swigging from a $500 bottle of vodka after a brawl at a New York nightclub that left him in hospital. There are plenty of other examples.

 

For parents trying to deal with these excesses, views also vary. Gene Simmons, bass guitarist with American group KISS and reportedly worth $300 million, reportedly told CNBC “…in terms of an inheritance and stuff, (my kids are) gonna be taken care of, but they will never be rich off my money. Because every year they should be forced to get up out of bed, and go out and work and make their own way.”

 

Bill GatesMicrosoft founder Bill Gates feels similarly. He said “I didn’t think it was a good idea to give the money to my kids. That wouldn’t be good either for my kids or society.” Instead, he and his wife Melinda created the Bill and Melinda Gates Foundation in 1994, which today has assets of over $37 billion.

 

 

Movie star Jackie Chan does not plan to leave his millions to his son, Jaycee. He told a reporter “If he is capable, he can make his own money. If he is not, then he will just be wasting my money.” Contrast that approach with young Suri Cruise, daughter of Tom Cruise and Katie Holmes, who at the age of six reportedly had a three million-dollar wardrobe, and whose mother was apparently planning to surprise her daughter with an eight foot, $24,000 Grand Victorian Playhouse for Christmas, complete with running water, electricity, and extensive landscaping.
These are, of course, examples from the extreme end of the wealth spectrum. Nevertheless, the range of sentiments which are expressed can apply to all of us who have surplus funds that our children may one day inherit. So how do we prepare them for that day?

 

 

Inevitably, the good financial habits of children are likely to be built on the foundation of the practice of their parents. But sometimes, those habits aren’t always recognised.

 

I had a conversation with clients a few years ago when mother expressed a desire to give her three children a significant sum so that they could each buy their own homes. I asked her what was important about making this gift to her. She thought for a moment, and then told me that she didn’t want her children to struggle in the way that she and her husband had done over the years.

 

I reminded her of a previous conversation when we had explored her values in depth. At that time, she told me of her pride in achieving her financial success as a result of having to struggle and make good decisions in the tough times. This, she had said, had been the making of her.

 

I didn’t need to ask whether she wanted to take this away from her children. She saw the point immediately.

 

I quickly told her that I didn’t disagree at all with her giving money to her children – she could easily afford to do so – but she should firstly be clear about whether the children were ready to receive it.

 

George Kinder refers to these issues extensively in his book, ‘The Seven Stages of Money Maturity’. He describes the first two stages, Innocence and Pain, and explains how it is necessary as part of life’s journey to feel the pain before one can move onto the next stage, acquiring Knowledge. If the pain isn’t there, neither is the incentive to do the work necessary for personal growth.

 

Financial knowledge is essential on this journey. It is common for the very wealthy to enrol their children in financial education classes at an early age, enabling them to be equipped to deal with complex decisions around investment, accounting and trusts as well as to understand the role of philanthropy and community service in a well rounded financial life. It is a fact that the financial literacy of many young people leaving school today is extremely poor. Many have little idea about how a mortgage or credit card works, what the stock market does or how companies and governments operate. The child who understands these things early in life has a clear head start when it comes to understanding and dealing with his or her parents wealth.

 

Kids PiggyPerhaps the starting point for your child’s financial education is to revisit your own. Are your financial habits and attitudes appropriate and taking you where you want to go, or do you need some further coaching or education? Have you written down your own attitude to money, wealth creation, borrowing, saving and investing? When your child asks a financial question, are you able to give a rounded response?

 

Is money a problem for you, or is it the solution to a problem? How comfortable are you with your own wealth? If you have some issues in these areas, the chances are your child will grow up reflecting your views.

 

At Chesterton House we seek to work with our clients and their families to address these issues over time. If you don’t have a relationship with a financial planner who can assist you in this area, there are lots of financial information websites that are a good starting point. You need to make sure, though, that they aren’t just a cleverly dressed up sales message and that they are offering genuine education. Take your time to research and find a source of help that chimes with your own personal goals and values.

 

If you need any help on this topic, let me know. I’ll do what I can to point you in the right direction.

Creating A Plan For Saving

 

You are well-established in your job, you’ve got an income coming in and you’ve set up a budget mechanism so you know how much you’ve got to spare each month. How should you now go about saving?

I’ve found it helpful to think about splitting your cash into three pots: short, medium and long-term money.

PotsShort-term cash is to pay for things you will need within the next year or two. If you’re saving for a new dishwasher, a car or the deposit for a house, you want to know that the cash is there when you want to spend it, so you’ll not want to take any risks with this money.

Included in your short-term cash pot is your emergency fund. There are always unexpected bills that come at you from nowhere, and you’ll need some surplus to meet these, or at least take the sting out of them.

Sue and I allocate money to different accounts for different purposes. We have a holiday account, a replacement account (to pay for the next dishwasher) and a tax account (if you’re self-employed this is likely to be your biggest bill by far). We pay into these accounts each month, and we know how much we can spend on these items by how much is in the account. Many banks will set up ‘sub-accounts’ for you so you can manage your money in this way.

Medium-term cash is money you don’t expect to need at short notice, indeed you may not have any immediate ideas about what to spend it on, but you don’t want to tie it up for a long time. If you’re thinking of buying a house or starting a business or a family a few years in the future, or you just want to start accumulating money that is generating a better return, this is the place.

Whilst you don’t want to lock this money away, you do want to get better returns on it, and this means considering investments other than bank and building society accounts. The obvious solution is to use managed funds investing in stocks and shares and similar holdings, because these have the potential to grow faster than inflation and provide a real return on your money.

We’re not going into detail about these investments here, and there are some things you need to think about in creating your plan. As a general principle, though, you should be allocating about a third of your savings to this pot.

Your long-term cash pot should account for the remaining third. Think of this as your ‘Financial Freedom Fund.’ It’s money you’re never going to spend, although at some point you may begin to draw an income from it. The obvious first port of call for most people is to invest this money into a Pension Plan. There are two reasons to use a pension for at least part of this pot.

Firstly, pensions are just about the only remaining tax haven available to most of us. The generous tax reliefs they attract mean that, over time, your pension savings are likely to build into a bigger sum than equivalent sums invested elsewhere. Probably more important, though, is the fact that once money is inside your pension plan you can’t get at it. This sounds like a really big disadvantage, but take it from me, this is a huge, huge benefit.

Pension fund

Time and time again I sit down with people for whom their pension fund is their only significant asset. Despite their very best intentions, they dipped into and spent all of their other savings. I’ve found this to be universally true whether the individual works on the shop floor or is the person running the company. The only difference is that the company owner usually has more trinkets – a bigger house, car, holidays, etc – but their pension fund remains the most valuable thing they own by far.

Of course, if you have real self discipline and are focused tightly on your Financial Freedom goal, then this advice may not apply to you. I thought it didn’t apply to me, either. But I can tell you that, for me too, my pension fund is my biggest liquid asset. Enough said?

So here we have a simple framework on which to base your long-term savings plans. By splitting your money into these three pots you will have established some guidelines that can carry you forward over many years. There is still a lot you need to know to make the most from your money decisions, but now you have a track to run on.