To a child who doesn't understand how credit cards work, your little piece of plastic seems almost magical. As a parent, teacher or caretaker, you may also have concerns about credit card commercials that send children the message that the "priceless" moments in life cannot be achieved without first using a credit card to make luxury purchases, such as vacations and expensive dinners. When you teach your children about credit cards, of foremost importance is making sure they know that owning a credit card isn't the same thing as having money in the bank, and that when they use a credit card, they are accruing debt.
Step 1
Explain to your kids that a credit card represents unsecured, borrowed money characterized by a revolving (changing) monthly balance that can be paid off over a long period of time. Make sure that they know about "annual percentage rate" (APR)--charges applied to a credit card account balance by a bank or lending institution, as well as how interest is calculated over time (see Tips). This means that whatever is charged to the card will end up costing more than it would had cash been used to pay for the good or service. Also, some card issuers charge an annual fee simply for the privilege of having a credit card.
Step 2
Tell your children why using credit cards can benefit them years down the line and how to use them appropriately. Keeping charges to a minimum and making payments on time tells prospective lenders that the credit card user can be trusted to repay debt. According to the financial experts at Credit.com, charging no more than ten percent of the available line of credit positively affects credit history. But even more important is making payments on time every month. An exemplary credit history will be important when your child wants to take out a loan for something important, such as college tuition, a car, a home or to start their own business.
Step 3
Teach your child what should and should not be charged to a credit card. Impulse purchases made during a shopping spree are a particularly dangerous way of racking up debt. The financial experts at Credit.com note that luxury goods and services, such as gifts, recreation and entertainment (movie tickets and eating out), should never be charged to a personal credit card. Similarly, a credit card shouldn't be used to pay for vacations--a debit card or travelers checks can be used instead. Explain to your children that they should make sure they are able to pay off credit card charges within two months. Not only does this prevent unnecessary finance charges, it teaches your child appropriate debt-management strategies.
Step 4
Show your children a copy of your credit report from Experian, Equifax or TransUnion so they can see how these types of debts appear. If credit card debt goes unpaid and is charged off by the creditor or sent to a collections agency, this can put a big black mark on a credit report for seven years, warns the Federal Reserve Bank. Tell your children that if they fail to repay the debt, this can greatly hinder their ability to get a loan when they need it the most. Or, if they do get a loan, they will pay a much higher interest rate than they would had had they paid off the credit card debt. It's also important to tell your children that if they don't pay off a credit card balance, the bank that gave them the card can sue them in court. A judge may even allow the creditor to garnish (take money out of) a paycheck until credit card debt is repaid.
Step 5
Stress to your children how easy it is to get mired down by credit card debt. CreditCards.com cites an April 2009 Nilson Report indicating that the average credit card holder had outstanding balances totaling almost $11,000. It may be helpful to show your child a simplified version of your household's budget so that he or she can get a realistic picture of how much discretionary income is available to spend on entertainment, recreation, clothing, toys and other things the child might want but not necessarily need. This teaches your child the value of living within his means without getting into credit card debt.
Tips and Warnings
- Teach kids about how credit card charges can end up costing them far more than what they would have paid in cash using the following example: If a minimum two percent payment is made every month on a $3,000 account balance with an APR of 21 percent, it would take 70 years to pay off the debt. The total amount paid in interest would equal $18,200.
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