What would you do if someone left you a lot of money? It’s always a fun question to entertain.
But when there's money left to your kids, it's even harder to know how to handle the situation. Do you tell them that they've received an inheritance—and if so, at what age? What do you earmark the money for? And how do you convey the message about who it's from, and what it's for?
These are important questions to consider, since inheritances are becoming increasingly common. Researchers at the Boston College Center on Wealth and Philanthropy estimate that the parents of baby boomers will leave as much as $27 trillion to their heirs; baby boomers themselves are expected to leave behind $30 trillion in the next 30 or 40 years, according to Accenture. So, even if your children receiving an inheritance isn't currently on your radar, it could be soon.
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For expert advice, we spoke to Mary Claire Allvine, a certified financial planner™ and principal at Brownson, Rehmus & Foxworth, an investment and financial advisory firm, and Bobbi Bierhals, a partner in the private client practice at the law firm McDermott Will & Emery in Chicago.
Here's their advice on how to communicate about a sudden windfall.
First, Talk to Your Partner
Allvine says that one of your first steps should be to talk to your spouse, to make sure you're on the same page.
When children under 18 inherit money, they aren't directly in charge. When the benefactor (your relative who passed away) wrote a will, he or she should have specified who will manage the money for your child. If she didn't, the probate court will name a "property guardian." For example, if your child's grandparents left him money in their will, there's a good chance they named you or your spouse as the guardian over that money. Otherwise, it would go to probate court; odds are the court would appoint you or your spouse, unless there's some extenuating circumstance.
Depending on the sort of custodianship that's set up, your child will probably gain access to the money when he turns 18 or 21, unless the giver specified otherwise.
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So, if you're in charge of the money your child inherited, you have some serious decisions in front of you.
Discuss with your partner:
- Is it a priority to save this money for the future, like for college tuition? Or would you rather use this inheritance to give your child a small allowance so he can practice budgeting?
- Figure out who will manage it. Are you confident in your ability to budget and invest the money, or do you need help from a financial adviser?
Then, Take Care of the Logistics
Unless the giver left the money in a trust, Allvine tells us that the best path will probably be to set up a Uniform Gifts to Minors Act account (UGMA, sometimes called a Uniform Transfers to Minors Act or UTMA), which puts you in charge until your child is between 18 and 21 (you can choose, but 21 is the oldest). You can do this at a regular bank, investment firm or mutual fund company, and may want to consult a financial planner who can help.
Next, you’ll have to consider your time frame. “If the child is 5 and it’s for college, then you’ll probably invest it” in stocks or mutual funds, says Allvine. Meanwhile, if your child is older and you'll need the money sooner—for example, if you have a 16-year-old who's gearing up for college—you'll want to invest your money in something more conservative, like a money market account. As a rule of thumb, if you will need the money back within the next five years, you should keep it somewhere safe, like a money market account or a CD. Don't know where to start? Try our Investing 101.
As your child grows up, think about whether he will be responsible enough to manage a big lump sum when he reaches 18 or 21. If you don't think he'll be ready, consider setting up a trust. That “might cost a few thousand dollars,” Bierhals says, "but will probably be worth it” if your child would otherwise squander the cash, or get overwhelmed. If you want to give him a sense of independence without entirely relinquishing the discretion of an adult, you might consider making your child a co-trustee along with you or a trusted relative, Bierhals says.
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Allvine notes that a trust can also save your child from unexpected peer pressure: “If you’re in college and your friends have tight budgets while you have this big pot of money, it’s easy to feel like you should pick up the check all the time or offer to pay a larger share of the rent.” Meanwhile, if the money isn’t readily available, she says, “it takes that pressure off.” It's also wise to advise your child to save it rather than spend it until they're old enough to learn the lesson that money needs to be earned. We'll talk more about how to communicate how waiting will help their money grow, below.
Now, Have the Money Talk With Your Kids
Once you've worked out all the details, the next step is to broach the conversation with your children.
When to tell your kids they inherited money? You don't want to destroy their motivation to work hard or succeed, but as The New York Times explores, you don't want to totally blindside them later, particularly if it's a very large sum. A lot will depend on your child's maturity; you might explain the situation to a middle schooler by using broad strokes, whereas you might include a teenager on the specifics of how you budget and invest the money.
Regardless of when you say the words, "You received an inheritance," you can use the whole process as a learning opportunity. As we note in our story on money milestones for kids, you should open a savings account for your child around age 9. This isn't an account for inherited money, but one where she can practice saving—emphasizing that it's important for her to save on her own, rather than relying on inherited money.
By age 13, you can start introducing your child to the concept of investing. Start by explaining how the stock market works. If you feel comfortable, you can say that you've invested a certain pot of money on your child's behalf. From there, you can talk about why you choose the investments you do, and why it's important to always think long-term when dealing with the stock market.
Set the Tone
When you tell your child for the first time that she received an inheritance, “explain that someone worked hard and saved for many years to give this gift to them, and having it is a responsibility," says Allvine. Your goal should be to make sure your child understands the situation ... but doesn't take it as a license to slack off. It's up to you to set the tone.
Explain the Ground Rules
Once you've set the stage, go through the ground rules you decided on with your partner. If you want your child to save up the money for a big future expense like college, explain your rationale. After all, unless there's a trust in place, your kid will eventually have control over the money. You'll want her onboard to ensure she doesn't spend it all irresponsibly the moment she turns 18.
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If you'll be using the inheritance money for college, explain how student loans work, and demonstrate that borrowing money means you pay a lot more because of interest. In that context, you can discuss the inheritance as a special gift because it spares your child from taking out college loans—or at least reduces the amount of the loans. This is also a good time to explain how interest compounds over time, and that her money will likely grow the longer she leaves it alone.
(If you want a primer for yourself, you can read through LearnVest's Student Loans 101.)
Meanwhile, if you've decided to use the money as an allowance, explain how much you'll hand out and how often. Also make it clear that your kid will need to budget this money; just because she received an inheritance doesn't mean she can blow through her week's allowance and expect there to be more waiting for her.
Tailor the Conversation
Play to your child's strengths and weaknesses. Allvine says: “My two kids are opposites, so I would have different talks with them.” For instance, she tells us, “My daughter has wanted everything she sees since birth. With her I would emphasize the trade-offs of spending now versus saving for the future.” Meanwhile, her son “can’t imagine needing anything that doesn’t come from the library, so I might actually teach him how spending money can be enjoyable—within reason, of course.”
Be Prepared for Push-Back
Bierhals cautions that you will likely receive push-back, especially from teens. For example, your teen might ask, "Why can’t I buy a car instead of saving for college?" Bierhals suggests explaining trade-offs: If your child used the money for a car, she might have to borrow tuition money and pay it back for decades.
Although you have the final say over the money while your children are still minors, try to include them in the decision-making as much as you can, so they develop good habits for managing this money in the future. “You can help them weigh spending decisions,” Bierhals suggests. “Maybe buying a new BMW would use up the money, but buying a used car would leave enough for other things.”
Most of all, aim to make this money productive for your child, rather than an impediment to success. You don't want your kid to become entitled or lazy—so look at this inheritance as an opportunity to lift a financial burden from your kid in the future, and teach responsible money lessons on the way.