Money Talk: Part 3 — Debt

_{This is the final part of a three-part series on financial literacy. You can find part one here and part two here.}

While this might be our final installment of Money Talk, we’ve heard you loud and clear, and will be serving up more resources on financial literacy in the coming months.

• In our first installment, we discussed needs vs wants.

• In our second installment, we dove into budgeting.

• Today, we’re demystifying debt.

Debt is often misunderstood. It’s like a board game where strategy is key — play it wrong and you’re in trouble, but play it right and you could win big.

And if you’ve struggled with explaining debt to your kids, I’m here to help.

Not all debt is created equal

Borrowing isn’t bad.

You’re probably one of the 60% of Americans with a mortgage, and depending on when you bought or refinanced, you might be coasting along with a <3% interest rate. 👊

But splurging on an iPhone with a high-interest credit card might be an irresponsible financial decision.

🧠 Since the prefrontal cortex (ya know, the part of the brain that controls rational decision-making) doesn’t fully develop until the age of 25, we can’t expect teens and young adults to make thoughtful decisions about debt on their own.

But here they are, taking out student loans and financing gadgets of all kinds. 🤷

Analyzing debt decisions is actually pretty simple, and if you can teach your kid how to do it, you can sleep a little easier at night.

It’s called a cost-benefit analysis.

And I’m going to show you how to teach it to them.

🎓 The student loan dilemma

Let’s start with the hot-topic of student loan debt.

• Cost: Suppose a student loan of $30k at a 5% simple interest rate, repaid over 10 years. The total repayment would be $38,184, or $318/month after graduation.

• Benefit: On average, a bachelor’s degree increases earning potential by ~$550k over a career, or ~$1,146/month.

• Analysis: The benefit of increased earnings outweighs the cost of the loan, and the monthly loan repayments are less than the expected monthly earning increase.

• Risks: There’s no guarantee that the degree will increase earning potential, or that the increase will take effect in the few years after graduation when the loan will need to be repaid.

• Conclusion: This is probably a secure investment, since the monthly repayment is relatively low, and the total value of the loan at $38k is significantly less than the average lifetime benefit of $550k.

But what if the cost is $144k, which is the current average for a four-year degree?

All things remaining equal, the loan repayment would be $183,281, or $1,527 per month for 10 years after graduation.

👉 Is that still a good investment?

👉 Is it likely that your kid would be able to afford over $1.5k in monthly repayments after they graduate?

👉 My opinion? Probably not.

Try this exercise with your teen as they consider schools and the costs associated with attending. 

Help them work out the math of the loan terms, look up earning potential in their industry, and have them write out all of the risks involved.

🤖 Go go gadget or no no gadget?

Here’s are conversation you’ve probably had with your kid at some point:

• Cost: A $1,000 new iPhone on a credit card with 18% interest compounded daily.

A lot of people would say that this is a completely unnecessary expense that a young person shouldn’t go into credit card debt to purchase.

But, as I mentioned in part one of Money Talk, financial decisions aren’t black and white. Teaching your kid that debt is always bad in this sort of situation doesn’t teach them how to think critically.

Let’s walk through two scenarios.

First, let’s assume in both cases that your kid doesn’t have $1,000 in cash to buy the phone outright, or if they do, it’s already earmarked for another expense like a car or college.

Situation 1:

👉 Your kid has a reliable part-time job and nets $300 per month. They’re committed to saving $100 per month, giving them $200 per month as spending money.

👉 They want to commit to paying off the iPhone over the next year in monthly installments of $92, which means they’ll need to reduce their monthly spending elsewhere.

👉 However, even if they miss some shifts at work, they’re still predicted to earn enough to at least cover the $92 monthly payment and reach their savings goals.

👉 The total interest at the end of the debt repayment would be $84, making the entire purchase value $1,084.

👉 That seems pretty reasonable to me, and could be a great opportunity for your kid to learn about monthly budgeting. 🤷

Situation 2:

👉 Your kid does not have a reliable income source, but earns money doing odd jobs for neighbors and receives some allowance.

👉 They see a deal which gives them a new $1,000 iPhone for only $26 per month.

👉 They think “I can afford $26 per month, I’d love a new iPhone!”.

👉 However, that minimum payment of $26 per month with an 18% compounded interest rate means that:

• They’ll be paying $26 per month for five years.

• The total interest is $494, making the purchase value $1,494.

👉 Not a great decision. 😬

—

Debt is a tool, not a trap, if used wisely. 

It's like a lever — use it correctly, and you can lift much more than your weight. Teach your kids to respect, not fear, debt. Understanding its power and pitfalls will prepare them for a future of savvy financial decision-making.