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What Aussies get wrong about money (and schools don’t help)

This means we can confirm, in general, youre a money smart bunch. The average mark was 75 per cent, and about one in 10 achieved a perfect score. Only 6 per cent failed the test.

Of course, we cant know at what personal expense came the acquisition of your individual money smarts.

Because money mistakes, as most of us have discovered through painful experience, are costly. And we learnt little explicitly about managing our finances at school.

Thats still my fear for our legion of current students, though there are incredible official efforts to educate them in the world of money.

Ive observed in schools, both through students performance on my test and simply talking to hundreds of them, that there are three critical holes in the information they receive. These are holes that if you are a parent, you must fill if your child is ever to become a fully functioning adult.

1. How interest rates work

Actually they have probably encountered this in some form in maths or business. But they are highly unlikely to appreciate the make-or-break application of it: how interest rates can wallop your wealth or boost your bottom-line.

In what I call Albert Einsteins Theory of Relative Worth, he famously said of compound interest that: He [or she] who understands it, earns it ??? he [or she] who doesnt ??? pays it. Oh and he dubbed it the 8th wonder of the world.

You can break that down for your child thus:

* If you invest $6 a day from the age of 15, at an average return of 8 per cent, youll be a millionaire by 60. Whats more, $900,000 of that will be from investment returns – or free money.

* If you borrow $500,000 on a mortgage charging 6 per cent interest, and take the full (say) 25 years that a lender wants to repay it, youll lose almost the same again in loan interest. So theres almost $500,000 available to you by repaying it faster.

2. The different types of debt

Spending money you dont have is bad – ideally wed save the full whack for our houses, avoiding the need even for comparatively cheap mortgages. And thats the point: some forms of debt are OK and others are dreadful.

Our children – virtually the moment they leave the school gates – will be tempted with personal loans (only slightly more expensive and also with a maximum loan term) all the way through to pay-day loans and rent-to-buy deals (so extortionately expensive they can ruin the future).

They also need to know the extreme dangers of credit cards, which theyve probably seen you nonchalantly flash their whole lives. The interest rates are stupid high – an average 18 per cent – and minimum repayments set so low that you can be trapped in debt forever. The penny-drop 2c worth to impart? If your son or daughter puts a $4500 gap year on the average credit card and pays just the minimum, they wont clear it for 44 years – and it will cost them another $12,500 in interest.

Whats more, our new American-style of credit score system means todays youth are far more at risk of stuffing up their credit rating than we were (and be sure to tell your student they will be fully liable for leases or utilities in their name, no matter who lives in the house).

3. The secret to financial success

[Drum roll please]??? DONT stick with the one bank, especially not the one that has shamelessly marketed to them through school banking and Dollarmites. My six-year-old recently came home with a story about a nice man from a bank whod come to explain money to his Year 1 class. He couldnt remember which bank, but apparently the man had spent a good portion of the allotted time highlighting the black and unique mustard colour of the banks logo – and my kid now jumps up and down with excitement whenever he sees it. Re-education is underway!

To your child, explain my research that going with any Big Four bank for your debts will set you back an average $123,000 EXTRA in interest. Of course, this is why banks devote so much money to free education.

If for no other reason than pure self-interest – you want your kids to eventually move out, right? – you need to impart the three missing money messages yourself.

How Fairfax readers fared on the test

Adults overall results for my basic money quiz might have been decent but splitting the data by money topic reveals distinct vulnerabilities – and opportunities for improvement. On a school scale, this is how the more than 27,000 respondents fared on the specific knowledge necessary for real-world success.

A Investment safety

Spreading your money as broadly as possible, or diversifying, keeps it safe – if one investment tanks, you have plenty of others to buoy your portfolio.

This was a controversial question because almost two in three people answered that it was safest to spread your money among several promising investments, whereas the answer we were looking for was 10 because it was the most diversified option on the list. (Our thinking was that several was less than 10). Fewer than one in three gave the answer we were looking for and there were some complaints it was ambiguous because several is not an exact number. So, if we give the people who answered several the benefit of the doubt and combine the two together, thats 96 per cent of readers who understand the principle of diversification. Well done!

B+ Risk reward interplay

Hurray! We are well across the fact that if an investment carries a higher potential return, that almost always means it carries a higher risk. It may even be possible to lose your money – and that realisation is essential to safe and sensible investment.

B Inflation

More than eight out 10 appreciate the impact of inflation on buying power ??? possibly because wages inflation in our economy has been running so low for so long. Even so, nearly 4500 people answered incorrectly.

B Compounding

What most of us learned in school about interest/investment compounding seems to be paying off, but perhaps without an appreciation of the ultimate interest cost when you borrow. More than 5000 people wanted to pay higher interest on their debts. See the main story for how this message is still largely missing in education and Einsteins insights.

C+ Asset prices

It is of some relief that many people still recognise that 15 per cent property price growth is high ??? particularly when people in Sydney and Melbourne have been living through years of it. That growth could certainly be repeated but 8 per cent is more normal.

C The financial system

Granted, this is complex. Its also something you need to get right if you are to squeeze the maximum out of your hard-earned dollars. Special note: there is no direct link between the Reserve Banks moves and what you pay on your mortgage or earn on your savings. Thats why staying nimble and being prepared to move banks is so critical. And remember the lesson about all debt NOT being created equal.

F? No, as a nation we didnt fail any one particular area. But – in my best teachers voice – theres more effort required on investment and our financial system. The great and interactive Investing Challenge on ASICs MoneySmart.gov.au (which I am delighted to present), is an easy way for adults and older students alike to learn.

Nicole Pedersen-McKinnon is a commentator and educator who presents her Smart Money Start, fun financial literacy incursion, in high schools around Australia. Follow Nicole on Facebook at Nicole Pedersen-McKinnon Money.

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