Dave Ramsey, Baby Steps, and Me
April 15, 2008 – 8:05 pmIf you’ve browsed the top personal finance blogs you’d probably agree that most people have a love/hate opinion on Dave Ramsey. Some think he’s a Bible-thumping crazy man, some think he’s bad at math, and others are big fans. For those of you unfamiliar with Dave, he’s a national talk radio host that encourages people to get out of debt and work their way up the “baby steps” to reach financial freedom.
A great overview of the baby steps can be found here, but the basics are as follows:
- save a $1000 emergency fund
- pay off all non-mortgage debt
- save a full emergency fund of 3-6 months of expenses
- invest 15% of your income for retirement, preferably in Roth IRA’s and/or 401k’s
- start saving for college for the kiddos
- pay off your home early
- build wealth by investing in mutual funds and give
Let me start out by saying that I have a great deal of respect for Dave, as a businessman, Christian, and someone who has helped thousands of people.
I don’t agree with everything he teaches, but to me it’s “common sense for the masses”, and as such has to be easy to understand and implement. Dave’s baby steps and teachings have help an enormous number of people, and I think as a starting point it is a great methodology to follow.
On the flip side of this coin, my view is that personal finance is “personal”, and as such advice in a perfect world should be personalized to your individual situation. This is a key benefit to working directly with a financial planner. I don’t have a financial advisor myself, but if I did I would seek out a fee-only certified financial planner (CFP designation) that both my wife and I trust and who has a believe system similar to mine (i.e. I would have a hard time working with a financial advisor that recommends in getting and keeping the largest mortgage you can possible afford to make use of that leverage to invest in securities).
I’m fine with most of Dave’s advice, but I differ in several areas as well. Here is a brief snapshot of what I think:
Credit Cards
I don’t need to destroy my credit cards. I haven’t struggled much with credit card debt (after getting out of a small amount of CC debt), so I think the benefits outweigh the risks. I do agree that I am taking a risk in keeping credit cards, and I am willing to accept that risk. If credit cards start to become a temptation for me or an issue I will cut them up.
I also receive a small benefit from rewards programs when I use my credit cards. Most rewards programs pay about 1%, so this by no means is justification for carrying a credit card balance. It’s a nice perk though IF you are willing to take the risk of using credit cards AND you have the discipline and history of paying your bill on time every time.
I haven’t investigated this fully, but I believe my insurance rates would go up if I had a poor (or zero) credit score.
Mortgages
I’m fine with a 30-year fixed mortgage (versus the recommended 15-year fixed). I have the discipline to pay it off early on my own, and therefore I am reducing my risk by allowing for smaller required monthly payments if an unexpected job loss occurred.
I do agree that you should pay your mortgage (and other debt) off early, regardless of whether you can theoretically earn a spread between your loan interest rate and your investment rate of return. Paying off debt is risk-free. Investing in the stock market is NOT risk free. Once you pay off your debts you should have plenty of money to invest any way you see fit.
New Cars
I’ve never bought a new car, but then again I’m not a “car guy”. A car is simply transportation for me, and I have a short commute. I would much rather spend my money elsewhere. If you want to buy a new car and it does not put a strain on your family finances to do it, then that is your decision. Just realize that you are giving up quite a bit in future for a new car now. Plus a new car depreciates very quickly and as such is not a good “investment” financially speaking.
Giving
I believe in the tithe (giving the first 10% of all income and gains), and that God instructs us to do this for our benefit. I believe that God is the owner of everything (even the remaining 90%), but I do struggle with and often think about giving frequently. I would say that I give more out of discipline and obedience at the moment than out of a cheerful spirit, but I’m working on this part of me. I also believe you should give above and beyond the tithe as you feel led.
Investing
Dave’s advice strikes me relatively conservative on most fronts. Pay off your house early, never ever use a credit card, etc. However, he assumes a 12% or more return on average from stocks and a 4% inflation rate! Although these claims are not unfounded, my issue is that, for his primary audience, his advice sets aggressive expectations. His books also assume an 8% real rate of return (12% return – 4% inflation). Although this is doable over the long term, there have also been long stretches of time where real returns did not measure up to this standard. As for me and my long term planning, I would recommend being a little more conservative when trying to figure out when you’ll be able to have a nest egg of a certain value.
Asset Allocation
Dave recommends placing 25% of your assets in the following four types of mutual funds: Growth, Aggressive Growth, Growth and Income, and International. This seems somewhat reasonable, but for a relatively conservative advisor I question the bond mix. Where are the bonds Dave? I’ve heard Dave say that bonds are a poor hedge against inflation, which is true historically when judged against stocks, but I find it odd that Dave’s recommended portfolio omits bonds. Of course the Growth and Income fund might include some bonds, but typically these types of funds hold more high-yield stocks than bonds, so at most the proposed portfolio is probably 90% stocks and 10% bonds.
I don’t have a huge issue with this advice, but for me personally I’d rather have a discrete percentage of my portfolio in fixed income securities (cash, bonds, and/or treasury bills).
Gold
I agree with Dave that gold is not that great of an investment. I know gold is going through the roof at the moment (April, 2008), but I’m not a big fan of holding gold or any commodities in my portfolio.
Life Insurance
Term life insurance makes sense, in my unofficial opinion, for most people. You’re paying only for the death benefit, so it’s inexpensive compared to whole or universal life insurance. Once again I have the discipline to save outside of my life insurance policies, so combining life insurance and investment vehicles seems silly to me.
I think that pretty much sums it up. If I missed anything let me know in a comment to this post.
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3 Responses to “Dave Ramsey, Baby Steps, and Me”
Great write-up! I think DR’s baby Steps have some great qualities to them, but like anything else, it needs to be applied based on the individual situation. With money (like most things), there is no one-size-fits-all solution.
By Patrick on Apr 15, 2008