I am not convinced that kids will nag their parents enough to make them pay to upgrade - I suspect most parents will just be happy to let their kid play with the free version.
Regarding "nag their parents" -- be careful, be very careful, you are treading on sore thumbs here. If my preschooler starts nagging me about IAP prompted by whatever ad mechanism that is in the game, the app gets promptly deleted and it gets 1 star rating and a review with a warning to other parents.
As I said in another comment, while I do not like to say "no" to my kid, I really hate him being used as a pressure point for milking parents for IAP money. If your app is respectful towards the parents, I will gladly pay you and probably more than you think.
I doubt that you're a parent. No fault of yours. But here is what happens. Your kid will play the free version and then she will master the free part. You'll see that she enjoys it and you won't hesitate paying for the paid version or the in-app purchase upgrades.
She went through the free version in a zippy and kept playing it over and over again. I took her iPad, disable Restriction and bought the paid version.
We worry about this as well, actually. In fact it's been interesting to get the comments pushing back on IAP, because our concern to date has been that we gave away too much content for free. What's interesting about that Flurry article I linked to is that it's a fraction of the market that's driving the majority of the IAP revenue...so even if most parents don't go for the in-app purchase option, the ones that do should (we hope!) help us keep our lights on.
Have you considered going straight for the paid option
( ie. no free content ) and seeing how much demand you have? I think the app looks a lot better than most of the stuff already out there, and the price point would reassure parents that they are getting a high-quality product for their kids.
We've tried a premium-only approach with previous apps and we've gotten feedback that our users like the option to try before they buy - which is what led us to IAP.
Also, when we've tried a premium-only approach our apps have been made available for jailbroken devices within a couple of weeks, with little chance to directly monetize these pirated free copies of our apps. See, for example: http://theikidsblog.com/blog/2010/11/30/arr-there-be-pirates...
This time around our approach was to build a premium product, price it accordingly and let people try it out via the free version. It's hard to know what the best way to handle it is - but that's definitely part of the fun of the wild west of mobile apps these days..and as I mentioned in an earlier comment, the freemium model seems to have a lot of traction..
