Dave Ramsey created the 7 Baby Steps back in the early 1990’s. If you are unfamiliar with Dave Ramsey or his 7 Baby Steps, read about them here. He touted how his process was the best way to become debt free and achieve financial peace. This was almost 30 years ago, and in that time, he continued to research and study millionairres. Today, he still promotes his baby steps. While his baby steps are very effective and successful, I am going to tell you how I believe his baby steps could be better.
BABY STEP #1
Save $1000 for an Emergency – The point of this is to give you a small cushion that allows you to pay off your debt in baby step 2. $1000 does not cut it anymore. I am not the first to say this and Dave Ramsey has responded to others who have told him $1000 is not enough. His response? He says that no number is ever enough and it is all psychological. You can easily spend more than $1000 on a car or home repair. Depending on where you live, a visit to the hospital emergency room could cost you more than $1000. Remember that Dave created these baby steps in the early 1990’s. When you consider inflation over 30 years, you should be saving at least $2000 for an emergency expense. With a family, I would aim to an additional $1000 per family member.
BABY STEP #2
Pay Off All Debt – Dave Ramsey promotes the debt snowball method to pay off all of your debt, except your mortgage. Debt snowball is when you take your smallest debt, regardless of the interest rate, and pay it off first. Then you move on to the next largest debt. His reasoning for this is that you will feel the momentum of paying off your debt and gain confidence in the process. Since the 1990’s, loan amounts and credit card debt have significantly increased. Credit cards were not so common back then. You can save so much more money if you pay off your high interest loans/credit first, regardless of the balance.
BABY STEP #3
Pay into a 3-6 Month Emergency Fund – Dave Ramsey’s 3rd step promotes that you save 3-6 months of your expenses into a liquid money market account after you pay off your debt. This will help you out in times where you may lose your job or have a very large emergency expense. This relates to the first step in that 3-6 months is not enough anymore. At the minimum, you should save 6 months and keep it liquid. I would feel more comfortable with 12 months of savings. In addition, the money market accounts of today offer very low rates and high fees. In many cases, an online savings account will offer higher interest with little to no fees. Read my post on the Five Alternatives to the Savings Account.
BABY STEP #4
Invest 15% of Your Household Income Towards Your Retirement – Dave is somewhat vague with this step. His website and many articles on the Baby Steps will tell you to meet the 401k employer match. Meanwhile in his YouTube videos, he promotes the Traditional and Roth IRA’s over 401k’s. There are many different ways to invest and the best investing option for you will differ based on your situation. I believe Dave should offer more clarity around this topic.
BABY STEP #5
Plan for College – I am all for college, but this step does not apply to everyone. Education is not as affordable as it was in the 90’s. This step probably applies to less than half of Dave’s readers today. In addition he does not tell us how much we should save for college. Is $20,000 reasonable or should we aim for $200,000? If this step applies to you, I suggest you read my post on 16 ways you can Avoid Student Loan Debt.
BABY STEP #6
Pay Off Your Mortgage Early – I agree with this step, but I believe this takes priority over saving for college. I would group this in with Baby Step #2. You can save faster by paying off your mortgage and avoid thousands of dollars in mortgage interest in the process. Specifically, I recommend Velocity Banking. This step does not apply for those who rent. Owning a home is not for everyone. Are renters expected to skip Baby Step #6, or does Dave recommend something else for renters?
BABY STEP #7
Build Wealth and Give – This is the only step I fully agree with. Once your debt (house included) is paid off and you have an emergency savings fund, you can start growing your net worth through investing and giving back through donations and community service.
