Dave Ramsey: tone down the debt free screams

Dave Ramsey is one of the most well known financial gurus and he has a simple mantra. Follow 7 simple steps; even a baby could do it. Here’s my take.

1: Create a $1,000 Emergency Fund.

This is not very controversial. The first step in building wealth is having some cash on hand so that you can afford to lose your lunch money. A grand is a solid attainable goal.

2: Pay off all non-mortgage debt with the smallest first.

This is the critical controversial step. The mathematically incorrect “Debt Snowball” does wonders for “gazelle” intensity. You defeat a loan quick. Progress is made. Cash flow opens up.

But for those docs with a half million in refinanced ~3.5% school loans, does it make sense to only have a grand in the bank and turn down ~25% tax deferred retirement accounts? Dave argues you need to keep your focus on your “debt emergency”. Many smart people need that financial focus. But what if you focused on net worth progress instead?

Also key for Dave is to forever shun debt from your life. This means no more student loans or credit cards. He evens says think twice before getting a mortgage, though he allows 20% down 15 year plans. He argues that even medical school can be paid with scholarships or at least through “easy” military service. I agree their is a limit to a future doc taking on several multiples of their expected income in loans, but Dave doesn’t understand medical training at all.

Credit cards are still worth the convenience. Yes the studies show most spend more with a card but I don’t think buying a few hundred dollars of groceries with cash is practical nor does a debit card make you spend less. Plus I save 2% with my cash back card which with $50k spending in a year you save a grand!

3: Save 3 to 6 months of expenses.

This is also well accepted among financial advisors. For Dave, this means cash in a savings account. For docs with student loans Dave would excuse you from this since you still on his baby step 2. For those who are loan free, I would hope that have some Roth IRA savings which in a severe pinch its principal can be raided, or if not taxable savings. I like I Bonds that are accessible after 1 year for the super conservative. So in the end, I don’t think docs ever need this in a cash account.

Though docs have career security, they don’t truly have job security. It might not be best to stay in your current practice forever or if work politics pushed you out suddenly, licenses or credentialing can take a good 3 months.

4: Invest 15% of household income into retirement funds.

This is also a good ballpark figure. Docs who often don’t make anything in their 20s should consider WCI’s 20% rule. Also most docs should get beyond retirement funds.

5: Fund college for any children.

Dave thinks you should pass on to the next generation the debt shunning. I don’t think this is a bad thing, but a rule? No. Especially not before owning your own home. The best thing you can do for your children is taking care of yourself. Docs usually have the ability to bless their children in this way. But should we give our children everything? When is it spoiling them? The Millionaire Next Door book warns about make your own family welfare system. Educating children in the home is more important than paying for the dorm and degree. If you do, consider a 529 especially if you get a state tax deduction.

6: Pay off the mortgage early.

Many argue that you should reach financial independence by investing prior to worrying about the mortgage. But you have to know Dave’s bio: he was an overstretched real estate investor who went bankrupt when he couldn’t pay the mortgages. I believe in following the math while being honest with your risk level. Yes you can make more usually in the stock market. But usually you want to have some less risky fixed income like bonds. If you have bonds making less than your mortgage rate, why not risk a little cash flow for the higher guaranteed return?

7: Build wealth and give.

Ok great. But how? Dave suggests high-cost advisors from which he gets a kickback who then sets you up in fee-loaded mutual funds. Dave doesn’t believe in index funds. He thinks he knows the guys who consistently beat the average, despite studies showing time and again they don’t exist!

I love Dave’s focus on giving. Just why is this the last step? I believe giving is a habit, just like spending within your means, that needs to be practiced from day one.

Are you a Dave follower? Was I too hard on this guy who has helped so many?

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