Stage 1 : Dave Ramsey And the Destruction of Debt
Preface
Personal Finance has been a topic that continues to reverberate across the internet. In the past year alone, I have personally read more articles, bought more books, and subscribed to more YouTube channels discussing this topic than at any point in my life. For lack of a better word, I’ve become obsessed with the intricacies of personal finance. As a result, I have learned a lot about topics that are routinely discussed by investment strategists, stock analysts, and business moguls.
It seems like everyone is talking about ways to make money through “side-hustles”, create long-term wealth through stock investments, or simply get rid of the stress of debt. However, I have noticed that a vast majority of those writing on this topic tend to focus on only pieces of the programs that the true masters have developed. They usually focus on what they consider the “best” parts of those programs and ignore the rest.
I’d like to take a more fundamental approach. I intend to present a series of articles that explore the core principles outlined by the most influential financial experts. Programs that have stood the test of time. I hope these exposés will help inspire you to learn more about how to get yourself closer to financial freedom and to discover new ways to go about achieving your goals.
Dave Ramsey and The Destruction of Debt
Since 1992, Ramsey Solutions has been in the business of “providing biblically based, common-sense education and empowerment that gives HOPE to everyone in every walk of life.” Today, Ramsey Solutions is one of the top finance education companies in the world and has generated more statistics on Millionaires than any other. This corporation has lived up to its mission and continues to deliver basic common-sense education daily.
At the foundation of this influential company rests 7 “baby-steps” to getting out of debt and becoming financially free. These steps are Dave Ramsey’s claim to fame and they have continued to be a prominent starting point for anyone looking to turn their financial ship around.
With that said, let’s take a look at the “Ramsey Method.”
Baby Step 1: Save $1,000 to start an Emergency Fund
The first step to any successful financial guide is to stop the bleeding. By creating an emergency fund, you are accomplishing two things simultaneously:
- The accumulation of additional debt is stopped (i.e. the bleeding has ended).
- A small safety barrier is created minimizing the thoughts of hopelessness.
Once completed, an emergency fund is only used for…well…emergencies. These would include anything that would torpedo any chance of staying afloat. For example, if a tree limb falls on to your roof and causes a leak. You’d need to pull from your fund to get that fixed quickly because if left alone, it could push you out of your home for an indefinite amount of time or cost you a ton of money further down the road.
However, if the worst happens and money is removed from the fund it is imperative that the money is replenished before moving on to the next step.
Additionally, the $1,000 emergency fund is designed to give a small sense of security while also delivering a healthy amount of stress to keep you motivated during the process of becoming debt-free.
Remember, sacrifices are temporary, but require intentionality to overcome.
Baby Step 2: Pay off Debt using the Debt Snowball Method
This step was designed with the destruction of debt in mind. Its sole purpose is to eliminate all debts (excluding a home mortgage), while also acknowledging how painful defeating debt can truly be. This is the bread and butter of Ramsey’s Method and is the step that requires the most sacrifices to achieve.
The first part is to develop a monthly budget. This will be your guiding light through the dark times ahead.
The focus on building a budget is to make sure all unnecessary expenses are cut out. This means the daily luxury of getting Starbucks coffee every morning before work or school is no longer viable. Instead, it is time to “throw out everything but the kitchen sink.”
The more that’s cut, the quicker the debt will disappear.
The next part is where the magic happens. It is the part of the plan where debt is destroyed once and for all.
Simply put, the Debt Snowball method is the theory that works by tackling the lowest loan amounts first (excluding a home mortgage). As each loan amount is paid off, the payment amount for that debt is rolled into the payment amount for the next and so on…
Like a snowball rolling down a hill… getting larger and larger… the accumulating payments help to destroy your debts in greater and greater amounts.
As a result, as each loan or credit card is paid off, the results move faster, and the more the excitement you feel grows. Over time, someone with thousands of dollars in debt can become debt-free. By turning debt destruction into a game, Dave Ramsey has ensured that you focus on eliminating your debt for good and maintain that same determination over the long term.
The more debts you pay off…the quicker debt destruction occurs.
Baby Step 3: Save 3 to 6 months of expenses for emergencies
Following the sacrifices of Baby Step 2, step 3 allows for the upgrade of your emergency fund. This is the time where you solidify your safety net into something strong enough to weather any storm. The key is to list all of your monthly expenditures on everything that leaves your account — subscriptions, utility bills, a mortgage payment, etc.
Once every expense that occurs in a month is listed the total should be added up and multiplied by either 3 or 6 months to give you the amount you should work to amass. This part of the step is a personal choice and is completed based on your individual risk tolerance or target fund goal.
Either way, an emergency fund must be able to withstand loss in employment, a long-term injury, or extended leave to care for a family member.
Once created, the fund should be hidden in an account that is never checked or accessed unless it is for an emergency. Maintaining a strong backup of funds is how Dave Ramsey keeps people from falling back into debt.
Baby Step 4: Invest 15% of your household income into Roth IRAs and pre-tax retirement funds
Now that we are out of debt and finally at a positive net worth it is time to work on fortifying your retirement savings. As a result, step 4 focuses on the building of that lifeboat. Most importantly, we get to work on making our net worth sky rocket!
The first goal is to max out any employee sponsored 401(k) account so that you receive the full employer match. Hopefully, your employer includes a sponsored match, which means that the company will add money to your retirement account so long as you put in the minimum required percentage. Usually, an employer will put in the same percentage you put in yourself (i.e. matching your contributions). Therefore, it is wise to put as much money into this account as possible. It is important to note, that unless an employer sponsors a Roth 401(k) account, all contributions will be pre-tax dollars resulting in a tax shelter rather than full tax protection.
Either way, investing in a 401(k) is recommended due to the ease and consistency of the investments. With employer plans, you are given the ability to pull money directly from your paycheck which eliminates the possibility of missed contributions. Additionally, 401(k)’s have the potential to receive greater contribution amounts than other retirement accounts.
The second goal is to open and fully fund a Roth IRA account.
With this type of investment vehicle, an owner will contribute after-tax dollars for the benefit of tax protection in the future. Simply put, because after-tax money is used the US government gives you a promise that you will not have to pay any additional taxes on that money or its capital gains. Therefore, whatever goes in will be free from Uncle Sam’s hands.
Prior to investing in anything it is important to remember that step 4 calls for the contribution of at least 15% of your household income. Once this minimum is reached, the next step should be started.
** Disclaimer: All investments contain risk. It never hurts to consult with a trustworthy financial advisor for professional assistance.**
Baby Step 5: Save for Your Children’s College Fund
*This step can be skipped for now, if you have no children currently on the horizon*
Now that you have gotten rid of your debt and started investing for your future it is time to start preparing for your children’s as well. Step 5 focuses on creating and funding a college or school fund for your kids.
The two most common types of accounts used are 529 college savings plans or ESAs (Education Savings Accounts). Whichever you choose, make sure to research which investment vehicle is right for you.
Planning for your children’s future is just as important as working on your own.
Baby Step 6: Pay off your Home Early
Now it’s time to tackle the biggest and last debt you have…your home. To most Americans, the biggest expense is a monthly home mortgage. As a result, a majority of their household income is directed to this payment.
Step 6 is intended to remove this burden from your life.
The plan is simple, pay what additional amount you can towards the home mortgage. Refinance if needed to a 15-year, fixed rate loan or make additional payments on the 30-year loan. In any case, the focus should be on eliminating the last debt you have.
For help on figuring out what amount will be the best, check out Dave Ramsey’s Home Mortgage Payment Calculator… its free!
Baby Step 7: Build Wealth and Give
Now it’s time for the finale. This is the step that Dave has been working with you to achieve.
Step 7 is when you maximize everything you can. The focus here is on moving your financial ship as far away from the cliff of debt as possible. Once you have secured a financially free future, it is time to give back to the community and help inspire others to dig themselves out of debt like you did.
The Takeaway
Dave Ramsey’s Baby Steps have become a solution for so many people trying to forever rid themselves of debt and amass a significant net worth. As a result of Ramsey’s Method, these Baby Steps have been spread to thousands of people in need of HOPE.
If you’re looking for a sure-fire way to rid yourself of financial stress and move on to your future goals…look no further than Dave Ramsey’s Baby Steps. As with any plan, it has to be followed faithfully to see success, but if you do this, success under Ramsey’s Method is practically guaranteed.
To learn more about the Baby Steps in greater detail, check out Dave Ramsey’s book — The Total Money Makeover.
Originally published at freedomsreach.com on February 11, 2019.
