Anyone who enjoys engaging in the fantasy “My kid could have a lot more money some day than I do!” should read Make Your Kid A Millionaire – 11 Easy Ways Anyone Can Secure A Child’s Financial Future, by Kevin McKinley.

I know I engage in that fantasy, which is why I took pains, and some pleasure, to teach my eight year old about purchasing her first public shares in a company, and then about compounding returns with her allowance.

McKinley’s book builds on the following, true, premise: kids and parents of young children rarely have much money.  But the advantage they do have actually trumps money: They have time.

Time is the key ingredient to successfully exploiting the magic of compound interest.  Enough time, plus a compounding return, makes anyone a millionaire.

And while we parents of young children generally feel unable to set aside savings on a monthly basis, McKinley rightly points out that we really could do it, if we decided to prioritize a little bit of savings over a little bit of luxury.

Painful, Powerful Prioritization Process

On the issue of eeking out savings to put away for our children, I appreciate his suggested step called the “Painful, Powerful Prioritization Process,” which is to fill out a monthly budget and then for each item in the non-priority column say out-loud to yourself “Spending $143 per month on my cell phone is more important to me than sending my child to college.” Or “having my nails done professionally means more to me than making my child financially independent.” [1]

As someone in complete agreement with McKinley’s premise, naturally I enjoy this book. A few of his specific techniques deserve special mention.

Roth IRA

I’ve written about this before, but the topic deserves repeating.  The inter-generational tax-free wealth machine you can create simply and cheaply with the Roth IRA is almost too good.  As McKinley writes, and I wholeheartedly agree:

I can’t emphasize strongly enough how potent an investment tool the Roth IRA is.  There is virtually no other investment vehicle that is as flexible, available, and convenient, and that offers the potential for growth over the long term without incurring federal taxation!

Creating retirement accounts for minors

McKinley employed his infant daughter as a ‘model’ for marketing and promotional materials for his book, and he includes a picture of her in the introduction.  He paid his daughter $2,000 for her trouble, giving her earned income that year.

Fortunately his infant daughter did not have the ability to blow her $2,000 in earnings on upmarket juice boxes and Ermenegildo Zegna cashmere-silk blend snuggly blankets, so McKinley opened up a $2,000 Roth IRA for his daughter.

As McKinley points out, many parents of small children have the opportunity to employ our children, pay them a “fair” wage, and then shepherd those annual earnings into a retirement account. [2]

Once our kids are teenagers, and have the ability to earn money outside of the house babysitting or doing chores for neighbors, those earning too can be funneled into a retirement account.  Did seventeen year-old Johnny already blow his summer restaurant dishwasher job’s paycheck on frivolous things?  It’s not illegal, if you as a parent have the extra money, to fully fund Johnny’s IRA that year, up to the amount of his earnings.

Because these retirement accounts created for our children may grow unimpeded for 50 years or so, until their retirement, the power of compound interest really helps.

One summer’s $5,000 in dishwashing earnings, growing for 50 years at 7% annual rate, becomes $147,285.  That’s not millionaire status for one summer’s work in a smelly kitchen, but it ain’t nothin’ neither.

401K wisdom

McKinley drives home the point we all need to teach our kids – heck, we all need to teach ourselves – that almost nothing beats 401K participation.  Especially when we’re young and poor.

Stop me if you’ve heard this one before, but the time to fully fund your 401K plan is during your first job, while you’re still in your twenties – when you can least afford it.  I’m sorry, but it’s true.

Worker A, who funds his plan for his first ten working years – say age 22 to 32 will come out ahead of worker B, who skips the first ten years but funds his plan in equal annual amounts for the thirty years following age 32 – assuming an even annual compound return.  It ain’t fair, but it’s simple math.

Estate Planning

I know the least about this area, but I learned quite a bit in the Chapter titled “Protecting your child’s wealth from your child.”  The two goals seem to be a) reduce your tax bill, and b) do not give too much, too soon, to kids.  Since McKinley’s a financial planner, and I’m not, I’ll assume his advice is solid for folks for whom this is an issue.

While I endorse this book, I have a few quibbles as well.

Assumed rate of return

The compound interest formula…

 [which you'll remember is FV = PV *(1+ Y)^N where:

FV = Future Value (how much money you’ll eventually have)

PV = Present Value (how much money you’ll start with)

Y = Yield, or Rate of Return, or Interest Rate (all equivalent ideas, usually expressed in annual terms)

N = Number of compounding periods (for example, number of years)]

…depends a great deal on what you assume Y, or rate of return, will be.  McKinley wrote Make Your Kid A Millionaire in the sweet, innocent, days of the early 2000s so perhaps may be forgiven for assuming a 10% return whenever he shows the power of compound interest.

Were he to write this book today, I suspect McKinley would assume a more modest 5-7% return on risky equities over the long run.  I know I would, even though this makes millionaire status less achievable.  Unfortunately “Help your kid build a healthy six-figure nest egg!” has less of a ring to it.

Zero coupon bonds

In his chapter on setting aside funds for kids but retaining control over the money, McKinley suggests investing in zero coupon bonds.  This strikes me as both overly complex for most people, as well as a way to earn a terrible return on your long-term money.  Until interest rates change dramatically, and until purchasing zero coupon bonds becomes dramatically easier, I would not endorse this plan.

Variable Annuities

McKinley advocates using these as a kind of retirement plan for kids.  I can’t agree.  The extra layer of fees, opacity, and complexity, in my opinion, overwhelm any advantages that variable annuities have over traditional tax-sheltered retirement plans.  Variable Annuities also violate my basic principal of insurance: use insurance products only for risk-transfer, not for investing.

These few quibbles aside, I still enjoyed this book and learned quite a few things.  Parents of young children, this one’s worth it.