For Parents

How to Teach Your Kids About Personal Loans

Personal loans can be a great financial tool, but they are also dangerous. Here’s how to break it down for your kids.


Remember the first time you stepped into the world of finances? It’s a jungle out there, and it’s your job to guide your kids through it. You’ve taught them about saving and budgeting, but what about loans? Don’t fret!

Here’s your guide to teaching your little ones about personal loans. It’s not as daunting as you think. So, buckle up, and let’s demystify the world of personal loans together.

Teaching Your Kids the Basics of Personal Loans and the Types of Personal Loans

Starting with the basics, you’ll want to explain what a personal loan is before diving into the different types. A personal loan, you’ll tell them, is money borrowed from a bank, credit union, or online lender that you repay in fixed monthly payments, or installments, typically over two to five years. It’s important to emphasize that the lender charges interest on the loan, so they’ll be paying back more than they borrowed.

Next, you’ll introduce the types of personal loans. There are secured and unsecured loans. Secured loans are backed by collateral, like a car or home. If they don’t repay the loan, the lender can take the collateral. On the other hand, unsecured loans don’t require collateral, but they typically have higher interest rates because the lender’s risk is higher.

Finally, teach them about fixed-rate and variable-rate loans. Fixed-rate loans have the same interest rate for the life of the loan, while variable-rate loans can change over time.

Education is the key to responsible borrowing, and it starts with understanding the basics.

Breaking Down the Financials of a Personal Loan and What They Mean

Now, you’re going to tackle the five key financial aspects of a personal loan: the principal, interest rate, term, monthly payment, and total repayment amount.

The principal is the amount you borrow. It’s the base from which all other costs are calculated. For example, if you borrow $10,000, that’s your principal.

The interest rate is the cost of borrowing. It’s expressed as a percentage of the principal. If your interest rate is 5%, you’ll pay $500 a year in interest on a $10,000 loan.

The term is how long you have to pay back the loan. A shorter term means higher monthly payments, but you’ll pay less in total interest.

Your monthly payment is what you’ll pay each month to reduce your principal and cover interest costs. It’s calculated using your principal, interest rate, and term.

The total repayment amount is the total you’ll have paid by the end of your term, including both principal and interest. It shows the real cost of your loan.

Understanding these key aspects will equip you to make informed decisions about personal loans.

When to Get a Personal Loan

Where do you turn when you’re faced with a financial emergency or a large, unexpected expense, and could a personal loan be the right solution? It’s a question worth asking, and a personal loan can indeed be a suitable option in certain situations.

You need to understand when it’s appropriate to consider a personal loan. Here are four key moments:

  1. Consolidating Debts: If you’re dealing with multiple debts, a personal loan could be used to consolidate them into a single payment, potentially at a lower interest rate.
  2. Emergency Expenses: Unexpected medical bills or home repairs can put you in a financial pinch. A personal loan can help cover these costs.
  3. Large Purchases: Whether it’s a car, a wedding, or a home renovation, a personal loan can make large, upfront costs more manageable.
  4. Improving Credit Score: If you have credit card debt, moving it to a personal loan can improve your credit utilization ratio, boosting your credit score.

However, it’s crucial to borrow responsibly. Make sure you’re capable of making the repayments and that the loan won’t put you in further financial hardship.

What to Watch Out For With Personal Loans

While personal loans can be a financial lifeline, you should remain vigilant and be aware of the potential pitfalls and risks associated with them. This is a crucial lesson to teach your kids as they navigate their financial journeys.

High interest rates are one of the major concerns when it comes to personal loans. It’s important to stress to your kids that not all loans are created equal, and some can come with exceedingly high rates. They should always compare rates before deciding on a loan.

Next, watch out for hidden fees. Some lenders may charge origination fees, late payment fees, or prepayment penalties. Make sure your kids understand these terms and know to read the fine print before signing any agreement.

Finally, be wary of scams. Unfortunately, there are unscrupulous lenders out there who prey on people in need of quick cash. Teach your kids to verify the legitimacy of a lender before providing any personal information.

How You Can Set a Good Example as a Parent

As a parent, you’re in a prime position to model responsible borrowing practices for your kids. They’re watching your every move, so it’s important that you demonstrate good financial habits.

Here are four ways you can set a good example:

  1. Pay Bills On Time: Show your kids that you always pay your bills on time. Let them see you marking due dates on the calendar and making payments. This will teach them about the importance of timely payments and avoiding late fees.
  2. Avoid Unnecessary Loans: Don’t take out loans for frivolous reasons. Make sure your kids understand that loans should only be used for necessary expenses or investments, like a home or education.
  3. Communicate About Money: Discuss your financial decisions with your kids. When you’re considering a loan, talk about why you need it, how you plan to repay it, and what the consequences could be if you don’t.
  4. Prioritize Saving: Teach them the importance of saving money. Show them that it’s better to save up for something rather than borrowing money to buy it immediately.

Make It Personal

As a parent, you have the power to shape your kids’ financial future. By teaching them about personal loans, you’re arming them with knowledge that will serve them their entire life.

Don’t worry if you’re not a financial expert; your experiences, mistakes, and successes are valuable lessons, too.

Remember, it’s not just about lending and interest rates; it’s about instilling sound financial habits.

It’s never too early or too late to start.

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About the Author

David McCurrach

David McCurrach is the founder of Kids' Money. Following a career working in finance for several banks and credit unions, David started Kids' Money in 1995 and has since published three books on kids' financial literacy and allowance programs.

Last updated on: October 3, 2023