Smart Money Smart Kids: Raising the Next Generation to Win With Money

by Dave Ramsey

  Busting the College Debt Myth

  As a culture, we have thrown up our hands and surrendered to a lie. College advisors, financial aid officers, high school counselors, students, and even parents have bought into the lie that you can’t be a student without student loans. We hear that signing up for tens of thousands of dollars in debt is the only way to get through school.

  But the great news is that there’s hope. There is a way for your child to get an excellent education without going into debt. It doesn’t matter if your kid is heading to college next fall and you have nothing saved or if he’s still in diapers and you have eighteen years to save. There are ways to get this done, but it’s going to take some hard work—for both you and your student. The debt-free college plan isn’t always easy, but it is definitely the best way in the long run. It all comes down to five things: parent planning, school choice, financial aid, working while in school, and your student living a reasonable lifestyle.

  PLANNING AHEAD: THE PARENTS’ ROLE

  DAVE: I have talked to hundreds, possibly thousands, of parents over the years about when and how they should contribute to their kids’ college expenses. This is such an emotional issue for so many parents. I’ve talked to single moms who are working two jobs just to keep food on the table, but they’re guilt-ridden because they aren’t able to put money away in a college account. It’s like there’s an assumption that “good” parents pay for college or take out loans for their kids, period. This is ridiculous! Yes, there are some great ways to save for college, but college saving still has to make sense in your overall financial plan. Let’s try to take some of the emotion out of the discussion and look at how you, as the parent, can help pay for your child’s education.

  When to Start Saving

  If your kids are young and you’ve got a while before they graduate from high school, there are some great ways to save money for college. Yes, you need to be putting money aside for their education every month as part of your budget, but there are some ground rules to remember. First, only start saving when you’re financially ready. That means you’re out of debt, you have a full emergency fund of three to six months of expenses, and you’re contributing 15 percent of your income into retirement. Only then should you start putting money away for college.

  I want to repeat that just in case I lost you: You have to start funding your retirement before you save for your kids’ college. You can do both at the same time if you’re able, but if it comes down to one or the other, you have to take care of your retirement. College may or may not happen for your child, but you will definitely retire one day. And when you do, you’re going to need some money to take care of yourself. Your child will have plenty of ways to pay for college, but there’s only one way for you to prepare for retirement, and that’s to save money today. You’re not a bad parent for taking care of your retirement first; you’re actually being wise.

  First: The Education Savings Account

  The first $2,000 per year you save should be put in an ESA, an Education Savings Account. I recommend putting it into a good growth stock mutual fund. Your broker can set up the $166.66 to come out of your checking account monthly. If you start that account when your child is born and the mutual fund grows at 12 percent per year (about what the market has averaged), you, yourself, will have put in only $2,000 for eighteen years, totaling $36,000, but the account will have grown to about $126,000. The ESA is the Roth IRA of college savings in that it grows tax free, so the $90,000 of growth the account experienced in our example above has zero taxes, which will save about $30,000.

  Second: The 529 Plan

  The good 529 plans are simply the big brothers of the ESA. They also grow tax free, but you can put more into them. But remember, there are bad 529 plans. Stay away from plans that fix or control your investment options. You also need to stay away from the prepaid state tuition plans. With those, you are counting on the state to manage money well, and we all know how well the government handles money. Also, your return when you prepay for something is based only on the inflation rate of the item. So with tuition inflation averaging around 7 percent per year, that is all you will make on your money. If you are going to do a 529, then only do the kind you can put into a growth stock mutual fund and that allows you to control and move the investment.

  But what if my child gets scholarships? Is my money trapped in a 529? No. Current law allows you to draw out an amount equal to the scholarship with no taxes or penalties. So you get the tax-free growth, and you didn’t even spend the money on education.

  Three Nevers

  The ESA and 529 plans are great tools to save up and pay for college, and if you’re able to put that into your monthly budget, then by all means do it! But there are three things you should never even consider when figuring out how to help your kids pay for school.

  First, debt should never be an option. The first part of the chapter focused on all the trouble student loans are causing this generation, and we definitely want to avoid that. But we also don’t want to put a whole generation of parents in debt because they decided to take out loans on behalf of their kids. Heading into retirement with $30,000 or more in brand-new debt will totally crack and scramble your nest egg. Your lifestyle and options at retirement will be limited, and you’ll be the one carrying those student loans—possibly to your grave. Don’t do it!

  Second, never cosign a student loan for your child. If you do, you’ll undo all the money training we’ve covered in this book. You’ll show her that, when it comes down to it, you actually do believe debt is an option. Besides, cosigning a loan will change your relationship. You’ll both be in debt together, and that puts a huge strain on the relationship. If she can’t make the payments, you’ll be responsible for them. Imagine Thanksgiving dinner if you’re sitting there next to your child after making a year’s worth of student loan payments because she couldn’t (or wouldn’t) pay. Imagine the resentment on your part. Imagine the guilt and shame—or worse, entitlement—on her part. Don’t jeopardize your relationship with your child. Nothing is worth that price!

  Third—and this is something I’ve seen so many parents do—never, never cash out your retirement accounts to pay for your child’s college expenses. Dumb, dumb, dumb! Remember, your retirement is 100 percent up to you, but your kids have plenty of ways to pay for school that we will cover in the following pages.

  Who Is Responsible for Paying for College?

  RACHEL: The ESA and 529 work great if your kids are young, you’re out of debt and saving for retirement, and you have several years to save for college. But what if you have a high school senior and no idea how to pay for higher education? That’s a tough situation, but it’s not just a money problem; this is a huge emotional hurdle for a lot of parents. This comes down to a question of responsibility: Who is ultimately responsible for paying your child’s college bills? Here’s a hint: It’s not you.

  College is not an entitlement. Your child does not deserve to have his higher education paid for (completely or in part) by you. You have clothed him, fed him, and given him a safe place to live for eighteen years. If little Johnny wants to go to college and you’re not in a position to help him, then he can do it on his own. He can go to school 100 percent debt free if he’s willing to work for it. We’re going to cover several ways for him to do that in this chapter, but debt will not be one of them.

  Of course, I don’t want you to surprise your teenager with this news on the night of his high school graduation. Tell him early in his teen years how much (if any) you plan to pay toward his college education. Talk to him about the different things he needs to do while in high school so he’ll be ready with his portion. Remember, the two big savings goals for a teen in high school are paying cash for a car and paying cash for college. Saving up and paying for his own car is a huge lesson in hard work and independence; doing that for college really kicks everything up a notch because it gives him the chance to invest in his own future.

  If you�
��re able to pay part of the tuition, then get creative in how you share the tuition costs. I spoke with one student recently whose parents told her they could cover half the tuition costs. She worked all spring and summer to pay her fall tuition, and her parents paid the spring tuition each year. I thought that was a great way to work together, and it also gave the student some time each spring and summer to save up a pile of money for that fall’s tuition. Knowing she had to come up with the tuition money every other semester kept her focused and working instead of sitting around wondering when her parents’ money would run out.

  The point I am making here is that, at age eighteen, your child is technically an adult and should take responsibility for her own life. That doesn’t mean you shouldn’t help if you can; I think it’s a huge blessing to be able to pay for a child’s education. But it does mean you shouldn’t feel guilty if you can’t pay. This is a crucial time in your child’s life, and it’s probably the first real opportunity you have to see what she’s going to do with the financial lessons you’ve been teaching her up to this point.

  CHOOSING A SCHOOL

  Choosing a college or university might be the most critical part of graduating debt free. This one decision will shape so much of your child’s future—and I’m not necessarily talking about what school’s name is on the diploma. The biggest key is to choose a school that your child can afford. And by “afford,” I mean the same thing I mean when I talk about affording a car or any other purchase. It means your kid can actually pay for it; it doesn’t mean your child thinks she can afford the monthly payments. Too many students (and parents) lose sight of the fact that a college education is a major purchase, just like a car or a house. It’s not a right; it’s a purchase. So you need to treat it like a big purchase and shop around!

  DAVE: I am convinced that we don’t have a student loan crisis in America as much as we have a parenting crisis. As my children grew into adults, it was easy to assume that because they were full-size humans, their decision-making skills and wisdom had kept up with their physical growth. We all know that isn’t the case. As parents, we want our kids to act mature and make their own decisions, yet too many of us let them wander off into a minefield with no direction. If you hired an eighteen-year-old to work in a company you own, you would assume he had no training and no experience, and you’d never even consider letting him make major decisions on a $100,000–200,000 project by himself. If you were to do that, you would be a fool, and anyone looking in from the outside would assume the poor new kid is being set up for failure.

  Yet this is exactly what parents do every day with their children when deciding what college they should attend and what field of study they should enter. We abandon our children to their best efforts, and our federal government will guarantee their debt even though they have no collateral, no experience, no wisdom, and generally no clue. Then we as a society stand back and say we have a student loan crisis. No! We have a parenting crisis and a foolish government. The result is a student loan debacle where a twenty-six-year-old racks up $120,000 in debt to get a master’s degree in German Polka History, and he ends up working at a burger joint.

  You must lovingly guide your “grown” teen in his college choice and field of study. Keep the lines of communication open, and be ready to pull the money away if necessary to save him from himself. Don’t finance insanity and call that blessing your child.

  A dad called my show one day distraught because his seventeen-year-old son had selected a college that was very expensive, and the dad could not figure out how he was going to pay for it. This father said to me, “What am I going to do? My son told me this is the school he is going to go to.” Whoa! Who is running the household here? My response was that this was a parenting problem, because my seventeen-year-old doesn’t tell me anything.

  Don’t Cross the State Line

  RACHEL: As my brother, sister, and I got older, Mom and Dad started having the college talk with us. My parents obviously live what they preach, so we were blessed that they were able to save up for all three of us to go to college. Dad told all of us early on that he and Mom would pay for our college, but it wouldn’t be a blank check. He said we had to keep our grades up, graduate in four years (anything over that was up to us), and go to an in-state public university. Of course, as the semi-rebel child of the family, I told him I wanted to go to Auburn University instead of staying in Tennessee. He said, “Okay, you better start saving. Mom and I will still pay the in-state amount, but you have to cover the difference.” As I started researching tuition amounts, you can imagine that my findings were a bit discouraging. Today the average cost of tuition and fees at an in-state public university is $8,655 per year. If you were to step over the state line and attend a public school in that state, the cost would almost triple to $21,706.4 So I humbly went back to my parents and told them I would start applying to Tennessee schools. All three Ramsey kids went to a public state school, and we all stayed in Tennessee to do it.

  Mom and Dad could have afforded to send us anywhere we wanted to go. But having the money to go anywhere didn’t mean it was a good idea. Now, as an adult, I realize there is almost never a reason to justify spending three times as much to go to another state. When I travel and speak at colleges, it drives me crazy when a student tells me he took out student loans so he could get a degree that’s exactly the same as what he could have gotten in his home state for a third of the cost. Not smart. I am glad my parents taught me the common-sense approach to choosing a college.

  The only time it might make sense for your child to leave her home state for college is if she’s going to a school in a neighboring state that has a reciprocity deal with yours. Reciprocity is an agreement between some states that reduces or waives the out-of-state premium for students in nearby states. For example, Minnesota has reciprocity agreements with Wisconsin, North Dakota, and South Dakota. That means students from those states could go to a Minnesota public college and pay at or around in-state tuition.

  Private vs. State College

  DAVE: Your child can get an incredible education and have a wonderful college experience at a private school, but it comes at a price. The average cost of a private college is just under $30,000 per year. That’s almost four times what he’d pay at an in-state public school. Is the education your child could get at a private school four times more valuable than what he’d get at a state school? Will a diploma from that small private school immediately make your future graduate four times more marketable when he hits the job market than a degree from a state university would?

  Degree or Pedigree?

  If you have unlimited funds or a free-ride scholarship, then by all means send your child wherever you want. I am not mad at private schools. There is a wonderful university in Nashville called Vanderbilt, a southern school with an Ivy League feel. Academically, it is a great school; however, tuition costs almost ten times more than the University of Tennessee, a public school. Is Vanderbilt better academically? Probably. Is it ten times better, and do their graduates earn ten times more? No. So to go deeply in debt for the pedigree to go with the degree is absolutely nuts.

  There are hundreds of people on my team, and I have hired thousands of people for real jobs that pay real money since starting my company. To this day, I have never hired someone based on where he or she went to school. I have used lawyers to do work for me thousands of times in business, and I don’t know where any of them went to law school. And I have never asked to see my doctor’s diploma right before he started a procedure to confirm that his med school was a good one. It is mythology that a “good school” guarantees you’ll earn more money or get more jobs. Sure, there are some jobs where people consider pedigree, but they are so few that you can’t make your decisions based on that information. The Wall Street Journal recently published a study showing that more CEOs and board members of Fortune 500 companies graduated from state schools than from so-called prestigious universities.5

  Again, I am not agai
nst private schools. I have a good friend whose daughter just got a full ride to Harvard. She should go! One of my family members got a full ride to Vanderbilt for undergraduate studies. He should go! Another friend who is a multimillionaire sent his daughter to his alma mater, a very expensive Christian university, and he paid cash. That is awesome! I have no beef with anyone attending these schools. But never let anyone, especially your own child, convince you that it is worth going $100,000–200,000 into debt just to get a pedigree.

  Junior Pedigree: Private Elementary and High Schools

  Many parents, including Sharon and me, have had to choose between sending their child to private versus public schools for elementary, middle, and high school. There are three major factors families consider in making this decision. One is safety. Parents may feel the public school their child is zoned for just isn’t safe. The second factor is academics. Parents may believe a private school has superior academics to the public school. And then the third factor is spiritual environment. For instance, a Christian—Protestant or Catholic—may want their kids in a Christian school for the spiritual environment that school offers.

  Those are three really good reasons to consider a private school. But to automatically assume that private schools are the only way to raise your children well is absolutely absurd, and to assume that your child will be more successful if he attends a private school is ridiculous. There’s just no credible research to prove this.