What Are the Alternatives to Dave Ramsey Baby Steps?

If you’ve ever searched personal finance or financial planning on Google, then you’ve probably heard of Dave Ramsey’s baby steps before. It’s one of the most popular frameworks for paying off debt, saving money, and attaining financial freedom. 

These series of baby steps have helped millions of people to modify their behavior when it comes to money. Here’s a brief rundown of Dave Ramsey’s baby steps: 

  1. Save $1,000 for your starter emergency fund
  2. Pay off all your debt using the debt snowball method (excluding your home) 
  3. Set up a fund that covers three to six months of expenses
  4. Invest 15% of your household income towards retirement 
  5. Save for your children’s college 
  6. Pay off your home early 
  7. Build wealth and give generously 

These steps are solid financial advice, at least, on the surface. But it doesn’t hold when applied as a one-size-fits-all solution. 

This guide will give you alternatives to these baby steps, explaining why some points don’t work. 

Let’s begin. 

Step 1: Your Income Should Determine Your Initial Emergency Fund 

Dave Ramsey draws a firm line in the sand when it comes to the $1,000 starter emergency fund. 

First of all, we entirely agree that you need to start an emergency saving before tackling your debt. You don’t know what lies ahead, so it’s better to prepare by having a safety net. 

However, the amount you need or can practicably put aside will depend on your income most of the time. For example, let’s assume you make $40,000 each year. You may not have the capacity to set aside $1,000 immediately. 

But assuming you make $120,000 per year, you may even want to increase the $1,000 starter emergency fund right away. So it might not make sense for many people to put a set dollar amount towards emergency funds. 

A better way would be to calculate a set percentage for starter emergency funds based on your income and (or) expenses.

Let’s Not Forget About Inflation 

Dave created the baby steps in the early 90s, and back then, $1,000 was sufficient to start your emergency fund. However, even if you set the $1,000 amount, it would not be enough in 2021 if you factor in inflation. 

Ideally, if you want to stick to baby step one, we recommend increasing your emergency fund to at least $1,500-$2,000. If your budget is spread too thin, target $1,500. 

Step 2: The Debt Snowball Method Doesn’t Factor In Interest Rates 

The debt snowball method is an excellent debt payoff method. It’s perfect for people who struggle with debt management. Consider the debt snowball method if you need quick wins and immediate results to feel you’re still in control. 

The debt snowball method helps you pay off your debt from the smallest to the largest. It enables you to gain momentum as you clear off each balance. However, this method doesn’t factor in interest rates.  

For example, what if the smaller debts you have have zero interest rates? Wouldn’t it be better to first focus on the student debts with the highest interest rates? 

Yes. You may indeed feel like you’re not making significant progress. But, ultimately, you’ll save lots of money as a result. Even if you opt for student loan forgiveness, ignoring higher interest rates means more money in interest in the entire debt repayment plan. 

We understand that people lose motivation quickly when they don’t see progress. So if you’re one of them, follow Dave Ramsey’s step two. But if you’re determined and unlikely to give up, consider the debt avalanche method, where you focus on high-interest rates first. 

Step 3: Cover Your Starter Emergency Fund And 3-6 Months Expenses Simultaneously 

In baby step three, Dave treats setting up an emergency fund and getting funds to cover 3-6 months of expenses as two different actions. But it’s better to tackle them as one action. 

Here’s what we mean.

Build up your emergency fund so that, with time, it could cover at least three to six months of your expenses. Don’t wait to pay off your debt before you fully fund your emergency savings. However, keep in mind not to separate your emergency funds from your other goals. 

For example, you can take the principal amount of your Roth IRA any time without penalty. In other words, you could use your retirement fund as a de facto emergency fund, but only in rare and extreme cases. 

Step 4: For Some People, Investing 15% In Retirement May Be Too Small Or Too Much

Before we proceed with this point, let’s clarify some things. First of all, there’s no one-size-fits-all strategy when it comes to financial planning. It’s not possible to set a specific percentage that works for everyone’s retirement investments.

Ultimately, how much you invest in your retirement will depend on your expenses, income, and financial goals. For example, some people can’t set aside 15% of their gross income for retirement. 

Alternatively, some people intend to retire early, so they invest about 25% of their income. So it’s advisable to choose a percentage that works for your circumstances. 

Also, when you follow baby step four, you may be losing up to a 100% return on your money. Here’s why. 

How Can You Get A 100% Return On Your Money? 

It’s usually common for your employer to match 3% or more in a pre-tax retirement account. When that happens, you can contribute the full employer match before you begin paying off your debt. 

But why? 

If you pay the match (that’s a 100% return on your investment), it’ll grow with compound interest. Besides, since the wages and inflation don’t keep as they once did, putting 15% into your retirement may not be enough. 

Now, don’t get us wrong. 15% is a good number to aim for, but why take chances on your golden years? The 15% may not be enough now as it did in the 1990s (where Dave developed the baby steps). 

A realistic percentage to comfortably live by in retirement is about 18%-20% of your income. But if it doesn’t work for you, choose the one that works for your situation. 

Step 5: You Can Increase Your Children’s College Fund 

Like the emergency funds, Dave Ramsey treats baby step five as a distinct action, different from other finance strategies. What you can do is increase your children’s college fund with something else. 

For example, let’s say you had a newborn baby in your 36-40s. By the time your child gets ready for college, you’ll be nearing retirement. In such a situation, you can use a Roth IRA to accomplish two things with one action. Or, as they say, kill two birds with one stone. 

Combining your college savings and retirement could help your student have more funds ready for college. Unless, of course, you plan for your kid to take out student loans. Then later, opt for public or private student loans relief. 

But before you proceed, it’s always best to finish school without student loans. However, if you must, consider your plans carefully. 

Please note: FAFSA doesn’t calculate retirement savings when deciding whether or not your child is eligible for financial aid. However, they include traditional college savings plans such as a 529 plan. 

Step 6: Paying Off Your Home Early Is Good. But It May Cost You In Tax Season 

According to Dave Ramsey, you should pay off your mortgage when you pay off your total debt and fully invest in retirement. After that, he recommends you pay your home in cash and avoid a mortgage altogether. 

However, looking at it realistically, it won’t be possible for most Americans to attain this goal immediately. So Dave also advises that you get a conventional 15-year loan if you decide to go in for a mortgage. 

Now, we understand Dave’s perspective on this point. Mathematically, it makes sense to invest that extra cash instead of paying your house off early.

You’ve already invested 18% of your income; what’s more critical to you? A house paid off with no mortgage debt or making 8% extra on the money and paying a mortgage for another 15 or more years? 

Mathematically, it makes more sense to invest the money. But as we all know, life doesn’t work out mathematically. You’ll have financial peace and security to handle any issue concerning money if you have no mortgage or monthly house payment. 

What About The Taxes? 

You can get several benefits when you invest those funds while you maintain the mortgage a bit longer. 

One of the impressive benefits of keeping your mortgage is the potential to get a massive tax write-off. For example, let’s say your income is at its highest peak. Your primary objective should be to decrease your tax burden as much as you can.

You can clear off the home’s interest when it’s time to do your taxes when it comes to mortgages. So in all, it’s up to you to decide which route works best for you. 

Sometimes, it’s wiser to keep your mortgage a bit longer. So take the necessary action based on your current situation. 

Step 7: Build Wealth And Give 

We can’t argue with this point. Building wealth should be one of the top goals of a long-term financial plan. Now, many people don’t see how building wealth and giving money away creates wealth. But the last point comes from Dave’s Christian approach, where you give generously to people. 

For example, the company gave $800,000 to their team on Christmas; $1,000 each for 800 people. That’s because they believe in random acts of kindness. But regardless of your belief, giving can be beneficial for you. 

For example, giving to charity is a great way to decrease your tax burden, establish more tax write-offs, and use your money for good causes at the same time. 

Final Thoughts 

 In all, we agree with most of what Dave Ramsey preaches. Besides, his company has helped millions of people to come out and stay out of debt. But, unfortunately, his baby steps don’t work for everyone. So, if you’re one of them, use this guide to help you pay off your debt. 

Remember, as you start your financial journey, you’ll face obstacles on your way. However, you can get through whatever comes at you if only you don’t give up. If you feel you’re in a tight position, always consult financial experts. 

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