I’ve written about budgeting in the past and I’ve made references to some of Dave Ramsey’s financial planning methods without dropping his name. I did this because I didn’t want to be confrontational, but the fact of the matter is some (not all) of his methods are out-of-date and unrealistic for the modern millennial in today’s world.
You can’t expect what worked back in 1992 (the year Dave created the 7 steps) to work today in the same way. If you’re lucky they don’t do anything bad and if you’re unlucky then you’ll find it’ll delay your financial goals by years.
And this bothers me because I see hoards of people blindly following everything he is advising. Especially his 7 baby steps, so today I want to list the limitations and flaws of each step.
Hopefully this allows people to start thinking more critically about what steps they should follow and which steps they might need to modify for their own needs.
Now, to take initiative in your personal finance is the best thing you can do, and listening to Dave Ramsey for financial planning advice isn’t going to do anything “horribly” bad. Since doing something is almost always better than doing nothing.
But blindly following advice without first understanding if its relevant to your situation can end up making life unnecessarily hard.
What are The 7 Baby Steps Dave Ramsey Promotes?
- Save $1000 before paying off debt
- Use the debt snowball to pay off all your debt
- Have 3-6 months of expenses in savings
- Put 15% of your income towards retirement
- Have a college fund for your kids
- Pay off your home early
- Build wealth and give back
What’s so bad about each step?
Dave is famous for his no BS approach in telling you as it is about your finances, which means his methods are also rather rigid. They haven’t changed much since 1992 and anyone who is good at managing money will tell you; managing money is not a set it and forget it endeavour. The way you treat your money should reflect the times and your situation.
And well, its safe to say we’re not in 1992 anymore. Times have well and truly changed and everyone’s personal situation has also changed.
The way you approach debt management and financial planning should also change. So let’s go over each step below and make it more relevant to today.
Save $1000 before paying off your debt
$1000 is short change in todays world. And I’m not saying this in a i’m-so-bougie-I’m-unaware-of-how-real-people-live kind of way.
But $1000 in any currency is simply not enough to give you the needed safety net this baby step is aiming to give people.
The washer broke and you need a new one, the car light needs to be fixed at the garage, three weddings are happening in the same month and so on and so on. Life happens and when it does, $1000 is not enough.
Another big flaw with this step is that it doesn’t take into account your debt’s interest rates. I don’t know how long it takes for you to save, because I don’t know how much money you make. So when Dave Ramsey tells you to save before you even start paying off your debt, to me that’s the same as telling some people to rake up more debt.
A better Dave Ramsey baby step
Understand how much you can save within 1 month. If you cannot save a substantial amount within one month then you should forget about doing things consecutively. Instead you need to approach your financial planning on multiple levels simultaneously
This means paying off your debt from day 1 as well as putting some money aside for emergencies.
Waiting months before you start paying off any kind of debt, but especially high interest debt can easily delay your whole financial goals by years. Which leads me to the next step.
Pay off debt with the debt snowball
The debt snowball method is to pay off your debt according to each debt’s balance. You start by focusing on the smallest balance while only paying the minimum for all your other debts, and end with your biggest one…
*heavy sigh* I don’t know where to begin with this piece of personal finance advice. I don’t see how this was good even back in 1992, let alone decades later.
You can find yourself in more debt by ignoring interest rates and not taking them into account when approaching debt management. High interest rates can add up fast, which makes paying off debt feel like a never ending pursuit.
If I have one debt at $2000 with 3% interest, $5000 with 10% interest and $40,000 with 32% interest. I have to be really stupid to still payoff my lowest balance first. By the time I pay off $2000, my other 2 will have raked up more than $2000 in interest.
A better Dave Ramsey baby step
A more effective way of paying off debt would be to consolidate your debt into one so you have an overall lower interest rate.
This makes it a lot easier to manage, and calculate what you owe as well as how much you’re paying. You can reach out to your bank on how you can refinance your debt. Most banks are more than happy to work with you on this because they rather a person not default on a loan.
Tip: You should make sure the new interest rate after consolidating all your debt will save you money. If it doesn’t then you’re better off keeping your debts separate.
Have 3 – 6 months of expenses saved up
The idea is to have 3-6 months of time to get yourself back on your feet if, in the worse case scenario you lose your job.
The idea is great, its just, how many people do you know personally who took longer than 3 months to find a new job when they got unexpectedly fired? Quite a number right.
A better Dave Ramsey baby step
Every industry is different and every economy I also different. Only you can make an informed decision on how many months is suitable, but I can safely say 6 months is the minimum and not the maximum.
Don’t be shy to even go for 12 months of savings. This doesn’t mean you have to save all 12 months before you move on to the next step, but it does mean you need to be very honest with yourself. “how fast can I regain my income if it suddenly dropped to zero and I’m left with only my savings?”
Just answer this one question honestly and you’re good to go.
Put 15% of your income towards retirement
This step is more geared towards people located in USA, where employers can match your contributions to a retirement fund. I’m not an expert in USA retirement funds and so I won’t even attempt to comment on this.
On to the next step!
Have a college fund for your kids
Again, Dave Ramsey’s exact financial advice when it comes to college is a more USA focused method. So I don’t feel like I can comment directly on this step. College funds have tax deferred from what I understand, which sounds great.
However, like any fund that exist, they are aimed at individuals that aren’t the most financially confident. Which also means most people who can afford to use a fund are better off if they educate themselves and gain some confidence.
Pay off your home early
A mortgage is going to be the biggest debt you have in your life. Or at least it should be. And it doesn’t matter how nice your bank was to you, interest on a mortgage is going to cut deep.
Paying off your mortgage even one year earlier than intended will save you hundreds or even thousands in interest payments. (this will depend entirely on your mortgage amount and interest rate)
BUT ultimately I don’t think paying off a mortgage early is worth it most of the time unless you plan to retire soon and want the financial peace of mind. For everyone else who is still working and is able to cover the monthly payments…I say don’t stress over it.
Great if you can, but not a big loss if you cannot. In fact, if you play your cards right, a mortgage can have many benefits.
Most governments around the world provide nice tax deductions on mortgages as well as the interest incurred. Another big win is the property market trends in the past decade or so.
Property markets around the world have gained in value so fast that having a long mortgage at a good rate is almost like making money with someone else’s money. Getting a mortgage allows you to invest faster and keep more of your investment after you sell.
Putting a small downpayment and getting a big mortgage might sound stressful, but with the right market conditions, you can make money with a smaller investment on your part.
Build wealth and give back
Well after you have the basics covered, Dave recommends you to build off it and give back, which makes perfect sense.
The only tweak I would make is to not wait until you complete all previous 6 steps to do this. Dave Ramsey’s baby steps is laid out in a very rigid structure, but life is rarely so organised. n most cases, life just doesn’t wait and if you want expedited results then you need to be approaching all aspects of your financial planning simultaneously.