For all you Dave Ramsey die hards out there, you probably won’t like this post… But I felt like I needed to share about where and why I disagree with Dave Ramsey. For those of you who don’t know who Dave Ramsey is, he is a personal finance guru who has written multiple books and has a daily talk show radio program. He preaches getting out of debt, paying all cash for everything, and building wealth. Using his 7 baby step method, he encourages people to get out and stay out of debt. His tips are very much common sense, and kind of leave an “oh duh” moment for his listeners and callers. While his tips and methods are helpful in getting people out of debt and building wealth, there are some things I don’t quite agree with.
For reference, below are his 7 baby steps:
1. Save a starter emergency fund of $1,000
2. Pay off all debts except the house
3. Save for a fully funded emergency fund of 3-6 months of expenses
4. Contribute 15% of your income to retirement funds
5. Save for child’s college education
6. Pay off the house early
7. Build wealth and give
First off, Dave Ramsey hates credit cards. He says you should never use one, and if you have one, cut it up and throw it away. I have spoken about this before in a previous post (Responsibly Using a Credit Card) and I do not quite agree with him. You need to use credit cards to be able to build your credit. Why do you need a credit score? If you plan to buy a house, rent an apartment for example, the bank or landlord will pull up your credit score to find out how well you do with borrowing money and paying things on time.
Rather than cutting up our credit cards and never using one, Jacob and I do use credit cards responsibly. We benefit from the perks and rewards of using credit cards, this also helps build our credit, and then we pay off the balance in full every month! We have never paid a dime in credit card interest. If you are smart about using credit as a tool, I have no problem with anyone using a credit card! Just make sure you are doing so responsibly and paying it off each and every month!
Now Jacob and I are on baby step 2 as we work to pay off our student loan debt. We already have our emergency fund saved and put away which is an ease of mind. But rather than $1,000 we decided to do $3,000. Dave lives in Nashville where everything is a bit cheaper than Portland. $1,000 wouldn’t even cover a month of rent for a one bedroom apartment in Portland. Also, my car is very old and so we like to have some extra cash in case my car decides to kick the bucket.
It’s so important to have your emergency fund. I understand that Dave only says $1,000 so that you can hit it hard on your debt, but you also need to do what you’re comfortable with. If you don’t think $1,000 is enough, do a little bit more. I think $3,000 is perfect for us and it gives me an ease of mind. Remember that the big emergency fund is coming in baby step 3 so you don’t need to save $15,000. It needs to be smaller, yet also make you feel secure.
The Debt Snowball
When in baby step number 2, Dave talks about using the debt snowball to pay off debt. Dave says that everyone should list all their debts (except the house) from balance smallest to largest. You make minimums on all your debts and chuck extra money at that smallest debt balance. Once that first and smallest debt is done, you then take that extra money and apply it to your next listed debt! This is an awesome tool to get debt paid off. This method also allows you small wins as you celebrate the successes along the way. A $500 debt will get paid off very quickly and will be such a celebration and encouragement as you pay off you next debt. It might feel discouraging to you if you are working on paying off a $20,000 debt for years before seeing the balance hit zero.
Now this debt snowball method is awesome, but there’s another method that I would rather use. The debt Avalanche has you list your debts and interest amounts and organize them from highest to lowest interest rate, paying off the highest interest debt first. While you might not get that winning or accomplishing psychological feeling that comes with paying off small debts with the debt snowball, the debt Avalanche makes more sense mathematically. You will pay less in interest using this method. For me, this makes more sense because I know that I’m paying off debt either way, and like to know that I’m paying less in interest. If you need those psychological wins, it’s totally fine to use the debt snowball. Both are great and will get your debts paid off!
Here is some more information on Debt Snowball v. Debt Avalanche.
Saving for Retirement
Now this is probably the biggest problem I have with Dave’s plan. He says to put 15% of your income to investing for retirement, but he says not to start this until you have all your debts paid off and have that larger emergency fund. I understand not putting too much to retirement so you can kick those debts faster, but I also see some problems with this.
Some companies will do a 401k contribution match which is so valuable. This is literally free money! My and Jacob’s employers match a percentage of income to contribute additionally to our 401k investment. I see this as a huge benefit. I don’t want to miss out on FREE money! Even though we are paying off debt, we contribute up to the percentage of the match to get that additional employer match. It’s pretty easy to just have that taken out of our checks every other week, and this will be a great return in the future.
The best things you can do for your retirement is to start early and keep investing. Time will allow interest to accrue, and your interest will grow more interest! Since I’m only 22 and have been contributing for a year already, this will be a great return when I am retirement age! Once Jacob and I are debt free, we will contribute 15% to retirement, including company 401k plans and Roth IRAs but for now, it’s great for us to take advantage of our employer match while we’re still paying off those debts.
How to Live Life in Baby Step 2
When you’re working on paying off all your debts, Dave tells people not to ever go out to a restaurant and never go on a vacation. While it makes sense so that you can put extra to your debts, it will drive you crazy. Even Jacob and I cut our budget very tight on those extra fun items, but you have to still have some fun in life. We budget $30 a month for eating out (Yes, this is like one meal out) and $50 a month to a vacation budget.
I believe that these extras really do need to be scaled back when you’re on baby step 2, but if you’re working hard and never get a reward, you might “relapse” on your financial plan. Give yourself a little bit of fun while you’re paying off debt. It’s important to reward yourself along the way.
Buying a House
Dave has many suggestions for buying a house. His first suggestion is to buy a house in all cash. Yup. Good luck with that. If you’re like the rest of us and have to take out a mortgage, he tells everyone to put down 20% and take out a 15 year fixed rate mortgage with a monthly payment to be no more than 25% of your take home pay.
All of these are good tips, but honestly not very realistic… Especially in our area of Portland, Oregon. Maybe in Tennessee, but not Portland! The truth is, you are most likely going to have to take out a mortgage. 20% down would be wonderful, but that’s a lot of money to save for a decent starter home in Portland. And his 15 year fixed rate mortgage payment making up 25% of your income? It would look like this: If you made $70,000 and put down 20% of the house amount, you’d put down a total of $40,000 and have a monthly payment of $1,125. This could buy you a house worth $200,000. Please let me know if you find a house in the greater Portland area worth $200,000 and isn’t half burned down.
As you can see, this just isn’t really that realistic. If you are able to do this, that is so awesome and will set you up so well financially! But if your mortgage is a 30 year fixed rate and is 25% of your take home pay, you will be just fine. Work at paying a little extra to it every month and it will be done before the 30 years is up!
All in all, Dave really does have great advice on how to handle money–and I am really not trying to hate on him. His principles are foundational and will be great for your financial journey through life, but also realize that your circumstances are always going to be a little bit different. Don’t get so hung up on being “legalistic” with the Dave Ramsey plan that you forget to enjoy life along the way, or don’t buy a house until you’re 45. What I suggest is to use his baby steps as frame work and guidelines, but don’t stress yourself out into following it exactly! If you are smart about your money and make a plan, you will learn what’s best for you and be wonderfully successful with your finances.