Debt Elimination: The Pros and Cons of Dave Ramsey’s Baby Steps

Many folks looking for a way to get out of debt and achieve financial freedom eventually gravitate to financial expert Dave Ramsey’s Baby Steps program.

One thing is certain: There is no denying Ramsey’s seven-step plan has helped many people get out of debt over the years. However, I still believe it offers plenty of dubious advice.

So what, exactly, are Dave’s seven baby steps?

Well, here they are — along with a very brief assessment of each (so pay close attention because there may be a test at the end of the article):

Step 1. Save $1000 to start an emergency fund.

Ramsey’s Reasoning: Establishing a $1000 emergency fund will protect you from acquiring new debt due to unforeseen circumstances while you’re working off existing debt.
Do I agree with Dave? No.
Why or why not? From a purely financial perspective, as long as you still have available credit to tap in an emergency, you’d be better off immediately paying down high-interest credit card debt than taking time to build an emergency fund. Otherwise, you’re needlessly shelling out additional interest to your creditors.
My two cents:  Assuming I was deep in debt but still had $2000 in available credit, I’d skip this step completely and rely on my credit card to cover future emergencies in the off-chance Murphy struck.

Step 2. Pay off all non-mortgage debt using the Debt Snowball method.

Ramsey’s Reasoning: Paying off debt is all about staying motivated; the debt snowball provides the inspiration required to keep yourself committed to the debt-elimination process.
Do I agree with Dave? No.
Why or why not? Even Ramsey admits that his debt snowball method makes no sense when it comes to paying off your debts as efficiently and quickly as possible. That’s because it retires IOUs from smallest balance to largest, without regard to interest rates, in order to create the illusion you’re making quicker progress. In fact, you’ll be financially better off if you pay down debts with the highest interest rate first.
My two cents: If you’re truly committed to getting out of debt, why squander your hard-earned money by relying on the psychological gimmickry of the debt snowball? I know I’ll get a lot of flack for saying this, but everyone who is truly determined to get out of debt already has the fortitude required to get it done — no matter what method they use. Some folks just don’t realize it because they lack self-confidence. It’s all about the mindset, folks.

Step 3. Save three to six months of expenses in a money market account.

Ramsey’s Reasoning: Once your non-mortgage debt is retired, it’s time to focus on building enough savings to provide a financial buffer to handle unforeseen life events.
Do I agree with Dave? Yes.
Why or why not? It’s hard to argue against the importance of a robust emergency fund to handle major financial setbacks resulting from the loss of a job, health issues, and accidents.
My two cents: If I have any quibbles here, it’s just that I prefer to keep my emergency and rainy day savings in a high-yield account for better transaction flexibility.

Step 4. Invest 15 percent of household income into Roth IRAs and pre-tax retirement.

Ramsey’s Reasoning: After you’ve paid off the last of your non-mortgage debt, it’s time to focus on your long-term financial security in retirement.
Do I agree with Dave? Yes … and no.
Why or why not? Like many financial rules of thumb, Ramsey’s 15-percent one-size-fits-all recommendation cannot be reasonably applied across a broad spectrum of individual circumstances. As for capping those contributions at 15 percent in order to ensure the mortgage is paid off early and the kids’ college savings accounts are properly funded, well, that’s not such a cut-and-dried assumption for everyone either.
My two cents: Among other things, the amount of money you ultimately decide to contribute towards your retirement depends on the age you start saving and your target retirement age. Older folks starting late may need to contribute more; twenty-somethings just starting out probably can get away with less.

Step 5. Save money for the kids’ college fund(s).

Ramsey’s Reasoning: I can only assume Ramsey believes parents are obligated to pay for their kids’ college educations.
Do I agree with Dave? No.
Why or why not? Simply put, my kids’ college degrees won’t help me during my retirement.
My two cents: My kids’ college educations are their responsibility, not mine. I worked hard to pay for my college education; they can do the same. That’s not to say I won’t help them out a bit when the time comes. Then again, if they end up trying to earn a college degree that’s not worth the money, all bets are off.

Step 6. Pay off the home mortgage early.

Ramsey’s Reasoning: Free-and-clear home ownership, of course.
Do I agree with Dave? No … and yes.
Why or why not? Believe it or not, there are times when it makes sense to not pay off the mortgage early — even when you have the money to do so.
My two cents: One of the most popular arguments for paying off the mortgage is that it provides peace of mind. Fair enough. However, that emotional reasoning overlooks the fact that those with low-interest loans who anticipate high inflation down the road — people like me, for instance — have an equally valid reason for keeping their mortgage as long as possible, due to the eroding value of the dollar.

Step 7. Build wealth and give.

Ramsey’s Reasoning: Build enough cash reserves for charitable contributions and inheritances.
Do I agree with Dave? Yes … and no.
Why or why not? Come on now. Who doesn’t believe that giving money to charity is a good thing? Oh, yeah; this guy doesn’t.
My two cents: Despite what Scrooge thinks, our society depends on charitable donations. On the other hand, I’m not as sold on the virtues of working to fund my kids’ inheritance.

As you can see, I believe Ramsey’s Baby Steps plan is far from perfect.

Because he tries to tackle debt from an emotional perspective, the plan’s initial steps are financially inefficient. Even worse, the latter four steps are riddled with broad-based assumptions that may or may not be in your best financial interests depending upon your individual circumstances.

That being said, while I disagree in whole or in part with most of Dave Ramsey’s Seven Baby Steps, that’s not to say his plan won’t work for you — at least when it comes to debt elimination.

Photo Credit: Chalky Lives

Comments

    • 2

      Len Penzo says

      I’m glad people find it works for them too, nansuelee. But like I said, I suspect most of those folks would have succeeded anyway no matter what method they used since they had to be motivated to eliminate their debt in the first place. They just didn’t realize it at the time.

  1. 3

    says

    I find these baby steps to be a bit front-loaded. It takes so long just to get through step 2. I realize this is a money plan for life, but I think some could get frustrated by the slow progress. I’ve listened to Dave for many years and I’m still technically on step 2 for 4 more months.

  2. 4

    says

    I think the big thing is getting committed. Until you are willing to face the mirror, admit you are the problem and make changes, nothing works.

    • 5

      Len Penzo says

      I’m with you, Dr. Dean. “Get committed” should be “Step 0″ (that’s with respect to getting out of debt, not putting yourself in a mental ward)!

      In fact, I’ll submit that everyone who successfully got out of debt using the debt snowball did so only because they had already accomplished the unwritten “Step 0″ before — or shortly after — they started.

      I am confident that folks who set their mind to it and really embrace that step will succeed — and save money in the process — by avoiding the debt snowball method.

  3. 6

    says

    I’m glad you wrote this post Len. I am tired of seeing everyone insist on Ramsey’s advice just because it has worked for so many people. The part about creating an emergency fund while still in debt just doesn’t make sense to me. The same thing with paying off smaller debts first. I think in the desire to help as many people as possible he just makes too many generalizations. People don’t all fit into one financial profile though. Everyone’s circumstances are different and different strategies will work with different people.

    • 7

      Len Penzo says

      I hear ya. For a lot of folks who refuse to take Dave’s plan at face value, the generalizations in steps 4 through 7 can have more unintended long-term financial effects than steps 1 and 2. For that reason alone, I wish he would simply cut his Baby Steps to a 3-step plan.

    • 8

      Common Sense says

      Your tired of people insisting on Ramsey’s advice because it has worked on so many people? That’s the most ignorant thing I’ve ever herd. That’s like saying your going to walk to work because your tired of everyone saying driving is faster. Your a moron. And the reason you save a small emergency fund while your trying to get out of debt, is so when an emergency happens(and one most likely will), even if its small you don’t go into more debt!!! Did you forget your trying to get out of debt?? There’s is good and bad to both sides I agree, but your argument is just plain rediculous.

  4. 11

    says

    Quite honestly I understand why Ramsey deals in generalities.. because he has to. He’s teaching his methods to thousands of people, and he can’t possibly tailor advice to each and every situation. Because of that he has to come up with general advice that will work for most situations – and go from there.

    On the debt snowball, i think you’re right that it isn’t the best possible way to get out of debt, mathematically. On the other hand, it is pretty effective – in part because it takes into account the psychological impact of paying off smaller debts quicker. And let’s be honest, a lot of people aren’t in debt because they’re good at doing math, or finding the most efficient way for getting out of debt. They’re there because they’re not very good at doing the right thing mathematically. And for many of them the “psychological gimmickry” may be just what they need. To me, whatever method works best for actually getting people out of debt – is the most effective one. Whether the debt snowball is it – I don’t know, but have seen it work extremely well through for folks when others haven’t clicked.

    Steps 4-7, I’m inclined to agree with you a bit more on – that there are more cases where i’d be inclined to agree less with Ramsey, especially when it comes to assumptions about investing, and college funding for kids..

    • 12

      Len Penzo says

      I completely agree with your assessment, Peter, on talking in generalities. It’s just that I don’t agree with most of Dave’s generalities. :-)

      There is no arguing that many many people have used Dave’s Baby Steps plan to get out of debt. Somewhat ironically though, I firmly believe that most of those success stories had almost nothing to do with Dave’s plan — and almost everything to do with a “Step 0″ that the debtors accomplished either prior to, or shortly after becoming acquainted with Dave’s plan: truly committing themselves to get out of debt.

  5. 13

    Kyle says

    Great post. This is one of the best comprehensive top level overviews of Ramseys Baby Steps I’ve seen. I think your assessments are solid. I also agree that it is a shame so many people plow head first into this plan without first deciding for themselves whether or not each step is valid for them based upon their circumstances. I think the real moral of the story that you allude to but should have included for clarity is that people in debt should do a little more research on their own before committing to this plan.

  6. 14

    says

    I completely agree with your thoughts on college. I saved up college funds for my two kids and neither one is attending. I wish I had saved that money in my retirement fund instead. I have some friends who are practically going broke funding their kid’s educations. I worked my own way through college and so did my Mom and all of my brothers and sisters. We all have degrees and have done pretty well.

    Students will have 40-50 years to earn, but their parents may only be 10-20 years from retirement. Unless parents are in a good position to pay for their kid’s college educations, they may wind up living with them when they are old.

    • 15

      Len Penzo says

      “Students will have 40-50 years to earn, but their parents may only be 10-20 years from retirement.”

      Amen, Bret. That’s a great way to look at it.

  7. 16

    says

    I think Dave Ramsey’s plan is far from optimal, but it works for many people. Many people need the psychological gimmick to start paying down their debt. If they were rational, financially responsible people, they wouldn’t have built up a bunch of debts.
    I think saving for college is a good thing. Even if my kid doesn’t go to college, I can change the beneficiary to his cousin or something like that.

    • 17

      Len Penzo says

      As I see it, the real issue with respect to colleges is that tuitions have gone through the roof over the past 30 years because of government-backed loans. Over the past 30 years, inflation-adjusted tuition and fees have tripled while aid has quadrupled. As long as the federal government continues to loan ever larger sums of money for school tuitions, colleges will continue to ride the gravy train and raise their rates. It’s not rocket science, folks — but we still act like it’s a big mystery. But I digress.

      • 18

        says

        The cost to attend college is stupid. What else is there to say? I’ve got student loans up to my eyeballs, and a science degree that apparently isn’t “enough” to get a job. So, what are my options? Work at Home Depot, or go back to school? A Bachelor’s Degree, even in a field that isn’t fluff, just doesn’t seem to matter as much these days, and the cost to aquire one is just stupid. Meh…thanks for ruffling my feathers Len.

  8. 19

    says

    just being a layman in financial planning i can’t say much but it seems that we’re missing a very important step in this process, the reason.
    isn’t one of the biggest reason we go this far into debt trying to “keep up with the Joneses”?

    wouldn’t the first step be to take inventory and downgrade the life style we are living thus matching the life style to the income we have? this would free up additional moneys to pay off those debts.

    • 20

      Len Penzo says

      For those who buy in to any sincere effort directed at eliminating their debt, I believe that is a tacit step, Griper.

  9. 21

    says

    Why the heck would anyone want to pay off a ~5% 30 year amortized mortgage. With inflation at 3-4% a year (according to the Gov.), you’re practically borrowing the money for free.

    If you incorporate mortgage planning in conjunction with rental property, you have an asset class that is hard to beat.

    I understand people want “peace of mind”, but the even if you own your house “free and clear” the min. you don’t pay your property taxes, you find out that you really don’t “own” the house – ha ha!. Preach on Len, people don’t realize, but the riches people in the world are also the most in debt. I doubt there are many “debt free” multi-millionaires, you need leverage to scale (just my opinion).

    great post!!

    AG

    • 22

      Shawn says

      Most multi-millionaires are debt free. I’m not talking the sport stars or movie stars. I’m talking about the self made millionaires that are generally small business owners, living in modest homes in modest neighborhoods.

  10. 23

    Tom says

    To be honest you and Dave both are dealing in generalities. Dave says the only way is to pay off the smallest debt regardless of interest rate, you say pay off highest interest rate first regardless. As a FPU grad I can relate to what you both say. I went smallest to largest, it just so happened that the smallest of my debt had one of the highest rates. My point being Dave’s plan is a guideline for lost souls. I can honestly say I had my mind made up before I started that I was going to be debt free Your baby step zero theory is absolutely correct.

    What it all comes down to is motivation, and if Ramsey motivates people let him motivate.

    One of the things I disagree with Ramsey on is cutting up ALL of you credit cards. As part of his process I did eliminate most of my cards, but I did keep one. Using your debit card in place of your credit card in all situations is a bad idea. For instance Gas stations freeze a certain amount on your card (debit or credit) every time you swipe it. you can get in trouble in a hurry there. Plus you have more charge back liablities with a Debit card.

  11. 25

    Michelle says

    I started using Dave’s advice but then my dad convinced me to pay down my debt the correct way. But I still credit Dave for starting me down the path of getting out of debt. Now that I’ve taken the time to listen to other POVs and do my own research, I understand all the arguments for and against.

  12. 26

    says

    I agree with a lot of your criticism of DR. Personally my husband and I are not following his steps as we have some different priorities, not being middle-aged homeowners, but I can appreciate that he helps a lot of people.

    I have one other thought though. From what I’ve seen, doesn’t the strategy of paying off higher-interest debt first pretty well correspond with the strategy of paying off the lowest balance first? I’m thinking like, house is the largest and smallest rate probably, student loans or car is next, and credit cards are probably the smallest and highest. I don’t know if you agree that’s a general pattern?

    • 27

      Len Penzo says

      Not necessarily.

      Also, keep in mind that since the mortgage is “good” debt, some people (like me) with a low-interest rate home loan may decide that it is in their best interest to NOT pay it off as quickly as possible.

  13. 28

    Karen Alexander says

    As someone who has been financially savvy most of my life, it was difficult to get my husband n board. (Even though my job is a financial educator). It wasn’t until we went to FPU with our church that I was able to get my husband on board. Dave’s style of using humor along with some frank talk about debt made my husband see the light. I believe that everyone’s situation is different, and you should take any financial advice and evaluate it to see if it makes sense for your situation.

  14. 29

    says

    I disagree about the college education (to a point). I can’t tell you how grateful I am to my parents for paying for my college eduction. I know that I was lucky to have so much help, and looking back on that time, I’m not sure where I would have ended up if I had to pay for it all myself.

    I certainly agree that parents aren’t obligated to pay for their kids’ college education (especially with the job situation the way it is today). However, I think that there is nothing wrong with doing so. My parents did it for me, and I plan on doing so for my (future) kids when the time comes.

    However, I don’t believe in an “anything goes” attitude. I think parents should put stipulations on paying for college education. For me it was living at home and going to a commuter university. I still got a great education from a highly rated school, but at a fraction of the cost. I know many parents would bend over backwards to pay for their kid to go to an out of state, expensive university when staying at home like I did would be just as rewarding to their kid’s future.

    To parents paying for college eduction with no restrictions, I would say no. To parents paying for college eduction with some reasonable expectations attached, I would definitely say yes.

  15. 30

    deRuiter says

    Dear Len, Ramsey has a “baby step 0″ which is to destroy and cancel all one’s credit cards. A person following the Ramsey plan MUST save up the thousand dollar emergency fund, because he / she has no credit cards. This actually is helpful to a lot of people who would find many more low level “emergencies” and use the plastic when not really necessary. By having no credit cards, and the thousand dollar emergency fund, it’s more likely that non emergencies would not be looked at as real emergencies. A person who has accomplished baby step one is more likely to hang on to the cash as it seems “real” vs use plastic which doesn’t seem real to a lot of people who tend to spend more with plastic than currency. Len, you have more self discipline than a lot of recently reformed or want to reform over spenders. The Ramsey plan is a crutch whih has helped many people climb out of debt. It may not be the “best” plan to experts, but it does work for thousands of people. If they all end up with no debt, a paid in full house, large emergency fund, then Dave Ramsey has performed miracles for the multitude. Down south when you get to the ginn with your cotton, they don’t ask, “What route did you use to get here?”, they say, “How good is your cotton?” It’s the result which counts!

    • 31

      Len Penzo says

      If Ramsey’s method is the only way folks can get out of debt, then great.

      However, Dave is doing a disservice to those folks who do possess the fortitude and determination to get out of debt but blindly follow his plan simply because they don’t know any better.

      • 32

        Shawn says

        It may not be the only way, but it’s more about a lifestyle change then just getting out of debt. Dave presents a different way of looking at debt. If people could do math then most wouldn’t be in the debt they are in. If Dave can get people to change their habits they likely won’t go back in debt, ever.

  16. 33

    says

    Agree with “Save three to six months of expenses in a money market account.”

    It makes sense to have some money put away for the ‘what if?’ situations. Wherever it’s kept it needs to be earning interest, as low as the rates are right now, and be easily accessible.

  17. 34

    says

    I like your honest breakdown of Dave Ramsey’s baby steps. I love listening to the show on iTunes and on the radio, but when I was completely uneducated about money, I used the steps as a guideline. Just to get me started in the right direction. Then I still mixed in some of my own smarts (or dumbs if the they were mistakes..lol). I didn’t just blindly follow his advice, since it’s very general. I like to figure things out for myself, and find out if something really works for me or not. DR’s steps are a good starting place, but by no means a hard-fast set of rules for everyone.

  18. 35

    drjackk says

    If you pay off your house, there are too many people who can steal it from you. The IRS can attach it, you can lose it to taxes, you can have a law suit as deep pockets. NEVER pay off your morgage. As long as you and the bank own it, only the bank can take it.

  19. 36

    MamaC says

    While I agree logically with a lot of the comments you have made, I think you have somewhat failed to see the value of what DR is doing. As the CFO of my household, I struggled for years trying to get my husband on board with a debt reduction plan and to sit down with me and be engaged about the budget. Neither of us are incredibly disciplined, and I felt lost when it came to the bigger picture of personal finance.

    DR got my husband on board and gave me a sense of empowerment. Do I follow the plan perfectly? No, because as you have pointed out, it needs to be tailored to individual circumstances. I am now meticulous about our money. I faithfully follow your blog and others. I would not say I am “gazelle intense”, but I have clearly defined goals and a plan to achieve them. I finally have a realistic and working budget, a sense of hope, and a whole lot more knowledge than when I started.

    I think some people just need someone to throw them a rope and tell them they can do it. I am thankful that DR did that for us. I’m also thankful for your emails in my inbox that help keep me motivated and learning!

  20. 37

    Joe says

    I agree with some of the criticism regarding the snowball, but if you start with the smaller debts and cap them off quickly, then it adds to the amount you can use for the higher debt amounts. If you start with the highest interest rate, regardless of dollar amount, it could be a significant time before you are able to make more than a minimum payment on the highest rate whereas paying off the lower balance frees up more cash quicker. Hence, the snowball.

    To each their own, but my wife and I paid off her car, one of my student loans and 2 of my personal loans (a grand total of about $34k) in 2 years when if I’d started with my $18k loan with the 14.99 rate, I would still be paying my $350 minimum payments because at the time, I couldn’t afford to pay more.

  21. 38

    Mark says

    I am aware that this is an older article, but I don’t see much of a reason to lambast the order on step #2. I did some basic amortizations comparing DR’s debt snowball method and your recommended highest interest first method. It was essentially a wash, though the DR method had a very slight edge. This looked at 3 credit cards with different balances and rates, two auto loans with different balances and rates, a no-interest medical bill, a student loan and a mortgage. I would be glad to send you the excel sheet if you would like.

    • 39

      Len Penzo says

      It all depends on the individual, Mark. The math ensures that DR’s method leads to more interest paid over time. The longer it takes to pay off the loans, the higher the balances, and the wider the interest disparities, the greater the impact will be.

  22. 40

    CC says

    Here’s my review of your review of Dave Ramsey:

    >From a purely financial perspective, as long as you still have available credit to tap in an emergency, you’d be better off immediately paying down high-interest credit card debt than taking time to build an emergency fund.

    You’re saying I should pay off debt … but be willing to get more debt in an emergency? Not smart. Relying too much on debt is what gets people into excessive debt to begin with, so Ramsey’s recommendation is based on the idea of NOT looking at debt as the solution to every financial crisis.

    > Even Ramsey admits that his debt snowball method makes no sense when it comes to paying off your debts as efficiently and quickly as possible.

    Ramsey admits that his debt snowball method makes no sense FROM THE TRADITIONAL FINANCIAL/MATHEMATICAL PERSPECTIVE. You’re missing or ignoring his point entirely: he argues that behavior is generally more important than knowledge. Quickly paying off a small debt scores someone major psychological victory points and keeps them motivated.

    >Like many financial rules of thumb, Ramsey’s 15-percent one-size-fits-all recommendation cannot be reasonably applied across a broad spectrum of individual circumstances.

    On his radio show, Ramsey commonly recommends that older people consider investing more. But he bases the 15% recommendation on research showing that that the first wave of retirees who relied on 401ks and IRAs but saved less than 10-15% were usually in big financial trouble. So the 15% recommendation is good advice for most people.

    >I can only assume Ramsey believes parents are obligated to pay for their kids’ college educations.

    He believes no such thing. He places this item on his list AFTER saving for retirement for a good reason: lots of people practically bankrupt themselves to put their kids through college. Ramsey wants to see those people take care of themselves first and THEN save for college IF THEY CAN AFFORD IT so they’re not deeply in debt as they approach retirement. In fact, Ramsey constantly rails against high tuition, student loans and urges people to attend cheaper state schools.

    >Simply put, my kids’ college degrees won’t help me during my retirement.

    Don’t be so sure. They might shove you in a cheap nursing home because (a) you go into retirement with debt because you think it’s clever to keep a mortgage, and your net wealth is nil; (b) they can’t afford to send you to a quality nursing home because they trouble keeping up with their student loan payments because you cleverly advised them to not pay off their debts as quickly as possible.

    >Believe it or not, there are times when it makes sense to not pay off the mortgage early – even when you have the money to do so.

    Ramsey has discussed his reasons for making this recommendation on his show on numerous occasions. If you think it’s a good idea to keep your mortgage as long as possible, maybe you should listen and hear some clever, wealthy guy on the verge of tears because he’s approaching retirement with a mortgage and his clever financial plan has backfired and he’s facing foreclosure in his late 50s. As Ramsey says all the time, clever plans like yours typically fail to account for risk, and 100% of foreclosed homes have a mortgage.

    • 41

      Len Penzo says

      Here’s my comments to your review of my review, CC:

      1. Yes, that is what I am saying. If you are committed to getting out of debt, then why would you waste time paying down the debt (especially at 29% interest) by building a $1000 emergency fund first? Let’s face it, if you already suffer from a large debt burden, what’s the big deal about going in debt for another $1000? Also, consider that most people rarely tap their emergency fund in the first place — which is another good reason to start paying down your existing debt and reducing those interest payments ASAP.

      2. And I’m arguing that commitment is a precursor to behavior. Once you’ve made the commitment to get out of debt, everything else is moot.

      3. Okay, but rules of thumb are just that, and often do more harm than good.

      4. I’m glad to hear that.

      5. Cute, CC. I appreciate your zeal to pay off all debt; I used to think like you too. Of course, being debt free is noble. However, financially savvy individuals who are in control of their finances and spend far less than they earn (folks like me), understand that it’s usually financially advantageous to carry low-interest debt — especially when it is amortized over many years.

      6. Yes, the best laid plans of mice and men can go awry, CC; but I’m an engineer — almost every decision I make includes a pragmatic assessment of the risks. I also understand how to hedge those risks. Most people who carry low-interest debt have a back-up plan or two in place to cover their, um, assets. I suspect most people Mr. Ramsey features neither properly assess those risks, or hedge them.

      Thanks for taking the time to make your case and defend Dave’s snowball.

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