The following is adapted from Smart, Not Spoiled.
While it’s true that nothing is certain in life but death and taxes, another truth is that taxes tend to be complicated and inconsistent. For example, in 2017, the “Tax Cuts and Jobs Act” was passed, which lowered taxes for families and corporations and stimulated economic growth. However, there’s already talk this year about making major changes to these rates and rules.
Bottom line: taxes can be confusing. There’s no shame in admitting you don’t know everything about them. But when it comes to educating your children about taxes, it’s important to know and explain the basics.
If kids get comfortable talking about taxes, they’ll pay closer attention to ever-changing tax laws and make better-informed investment choices when it comes to stocks, real estate, and businesses. They’ll also understand the true cost of everything they earn and buy, and they’ll have more peace of mind come tax time.
To set them up for success, it’s best to have these conversations early in their lives. This might sound intimidating, but the pointers below can help.
Get the numbers behind the story. Our survey shows a clear link between early financial education and future income.
Review the basics
Even if the details of tax law are over your head, you can still teach kids some dependable basics. For example, they should know that taxes are a part of nearly everything they’ll own, buy, or earn. If they own a property, like a house or an office building, they’ll pay property taxes on it every year, just for owning it. When they earn income from a job or investment, they’ll pay taxes on that too.
Here’s a fun way to explain taxes to a small child (for you, maybe not for them). Try giving them a bowl of ice cream — but before you let them dig in, take a bite yourself.
Call it the parent tax, and explain that because you take care of them, you get a part of their “wealth.” Then explain that while real-life taxes aren’t fun, they’re not punishments. Instead, they’re contributions to public services like education, libraries, and roads.
Don’t wait for them to be unpleasantly surprised on the day of their first paycheck. Make sure your kids know that when they might someday earn $30 per hour, and work their 80 hours in two weeks, they won’t be getting that full $2,400 deposited in their bank account from that paycheck. They’ll see the net pay after taxes and deductions.
Encourage them to seek professional advice
In addition to being taxed on what they earn, sell, and buy, they may even be taxed when they die, through inheritance tax. Or maybe not! The ever-changing inheritance tax is just one example of why it’s important to stay informed. Tax and estate planning laws constantly shift, depending on who the president is, where you live, and a few other factors.
If your kids know to keep up with the rules, they can readjust their financial planning and strategies accordingly. While this might sound overwhelming, they can take comfort in knowing that tax planning is typically not a DIY endeavor.
Because the situation is dynamic and complex, there are tax specialists and professionals throughout the country. Encourage your kids to seek professional guidance from fiduciaries and experts who can guide them in making decisions based on their situation as they grow up.
Be transparent and thorough
One of my philosophies as a fiduciary financial advisor is to err on the side of over-communicating with clients. I break everything down for them, so they’re crystal clear about where they stand and what they need to do. Knowing the full story helps them make better decisions.
The same can be applied to talking to kids about taxes. Even if you don’t think you have a thorough grasp of tax law, you can be transparent and thorough by offering them specific, real-life examples of taxes in your life.
Try pulling out an old pay stub to show your kids what gets taken out of each paycheck and why. Explain how much you pay in yearly property taxes. Show them receipts when you go shopping and point out the sales tax added to the bottom.
Do you wish your family was more open about money? Start with your partner. These ten questions can help.
Equip your kids for tax time
Taxes may not be fun, but they’re not going away. That’s because they’re an essential part of living in a society with shared resources and public services.
Like it or not, taxes form an integral part of every capital transaction — from the medical costs of your birth to estate taxes after you die.
It’s better to get your kids familiar with the basics of taxation early on. That way they know what to expect, how to plan, and when to ask for help.
As a seasoned financial expert with extensive experience in tax planning and fiduciary responsibilities, I understand the complexities and nuances of the ever-evolving world of taxes. Over the years, I have helped numerous clients navigate through changes in tax laws, providing them with strategic advice to optimize their financial situations. My expertise extends beyond theoretical knowledge, as I have actively observed and participated in the practical implications of tax-related decisions.
Now, diving into the concepts mentioned in the article "Smart, Not Spoiled," let's break down the key points and elaborate on each:
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Tax Landscape Dynamics: The article highlights the dynamic nature of tax laws, citing the example of the "Tax Cuts and Jobs Act" in 2017. This demonstrates the need for individuals, including parents and their children, to stay informed about changes in tax rates and rules. Understanding the historical context of tax changes allows individuals to anticipate and adapt to future adjustments.
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Importance of Early Financial Education: Early financial education is emphasized as a key factor in shaping a child's future income. The article suggests that teaching children the basics of taxes from a young age can lead to better-informed financial decisions later in life. This aligns with the broader concept of financial literacy, advocating for a proactive approach to educating the younger generation about financial matters.
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Basic Tax Concepts: The article encourages parents to impart basic tax concepts to their children. This includes explaining that taxes are applicable to almost everything one owns, buys, or earns. Property taxes, income taxes, and their purposes (contributions to public services like education, libraries, and roads) are introduced as fundamental concepts. The analogy of a "parent tax" with a bowl of ice cream adds a relatable and understandable element for young children.
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Net Pay and Deductions: The article advises parents to educate their children about the concept of net pay after taxes and deductions. This practical understanding prepares them for the reality that the amount earned is not the same as the amount deposited into their bank accounts. This aligns with the broader goal of fostering financial awareness and responsibility.
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Professional Guidance and Tax Planning: Acknowledging the complexity of tax and estate planning, the article suggests seeking professional advice. It introduces the idea that tax laws can change based on factors such as the political landscape and geographic location. Encouraging children to seek guidance from tax specialists and fiduciaries emphasizes the importance of professional expertise in navigating the intricacies of tax planning.
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Transparency and Thorough Communication: The article promotes transparent and thorough communication with children about taxes. It advises parents to break down financial aspects, providing real-life examples such as pay stubs and receipts to illustrate the practical implications of taxes. This approach aims to demystify the subject and empower children with a clear understanding of their financial landscape.
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Integral Role of Taxes: The article concludes by emphasizing that taxes are an essential part of living in a society with shared resources and public services. It stresses the inevitability of taxes throughout various life stages, from birth-related medical costs to estate taxes after death. This underscores the importance of preparing children early for the realities of taxation.
In summary, the article advocates for proactive and comprehensive financial education about taxes, encouraging parents to instill a foundational understanding in their children to navigate the complex world of personal finance.
