Parents always want their kids to grow up and be successful. It's even better if that success includes a seven-figure savings account.
It isn't too late to turn your surly teen into a millionaire. Yes, your teen-the same kid who periodically loses an iPod in an unorganized backpack-can be taught the tenets of saving. You've taught him about integrity, courtesy, and personal responsibility; now it's time to teach him about compound interest.
The American dream is about working hard to accumulate wealth. Fortunately, in this land of free enterprise, wealth is an attainable dream. Since your kids have a lot of time, they can get rich without ever breaking a sweat. If you start teaching them about investing now, you can watch them build wealth thanks to compound interest.
A little now versus a lot later
The concept of compound interest is the process of making money on money made. As confusing as this might sound to a teenager, it's really pretty simple. Here's an example to get the message across:
Let's say you deposit $2,000 into an interest-bearing account with a 3.5 percent annual yield. After one year, the account will have earned $70, and the balance will be $2,070. If the interest rate never changes, and the earnings are taken out every year to buy, say, 70 iPod downloads, the account will indefinitely produce that $70.
But what happens if you skip the 70 downloads, and you leave the money in the account? In the second year, you'll earn interest on the $2,000 plus the $70 previous interest, for total earnings of $72.45. Let that money sit there longer, and the earning power continues to grow. By the tenth year, the account will earn more than $95 per year, and the balance will be in excess of $2,800. That's $800 earned just by waiting around.
Making a millionaire
Your teen will probably argue that $2,800 is nowhere near $1 million. He might also imply that forgoing ten years of downloads is a high price to pay. You'll then have to move to the more interesting lesson-what it takes to save up seven figures. The most important considerations in the calculation are yield, and the amount and timing of additional investments. If you can stash away $500 a month at an 8 percent average annual yield, the investment will crack the million-dollar mark after 35 years.
Your teen may then argue that 35 years is practically an eternity, and too long to wait for the million-dollar jackpot. Yes, it's a long time-but there's another factor to the equation. The $500 per month for 35 years only adds up to $210,000. That means that your teen will only contribute a couple of hundred thousand, but will end up with $1 million. That's the kind of return even a surly teenager should appreciate. What's more, by the time he becomes a millionaire and he's just turning 50, he'll have his own surly teenager to explain the miracle of compound interest to.