Dave Ramsey is a world-renown personal finance expert. He has helped millions of people using what is widely regarded as The Dave Ramsey Baby Steps.
These are the simple steps that he recommends to get your finances in order.
The baby steps actually helped me pay off of $52,000 of consumer debt in just 18 months.
In this article, I am going to go over each step in detail. I’ll explain how they are vital to speeding up your path to financial freedom.
What Are Dave Ramsey’s Baby Steps?
- Step 1 – $1,000 in an Emergency Fund
- Step 2 – Pay off debt using the Debt Snowball
- Step 3 – 3 to 6 months of expenses in savings
- Step 4 – Invest 15% of income into retirement
- Step 5 – Fund College for children
- Step 6 – Pay off your home early
- Step 7 – Build wealth and give a bunch away
Ready to learn more details of each step? Let’s go!
The Breakdown of Each Step
I want to help you figure out where you are in the process. This is important. Let’s start with a breakdown of what each baby step entails. See where you’re at and jump in on the step from there.
Baby Step 1: Save $1,000
Dave calls this step the “baby emergency fund.” It might seem silly to start by socking a grand in the bank. After all, you could be putting that money toward reducing debt. But Dave has some good logic behind this first baby step:
“Unexpected expenses happen to everyone. And for some reason, they tend to happen more when you’ve just committed to getting out of debt. In order to avoid being tempted to use your credit cards to handle these unexpected costs, save a quick $1,000 and put it aside as a buffer from those emergencies.”
So what happens if you’re paying off debt and you have an emergency? Use some of the money in your starter emergency fund. Stop paying extra on your debt for now. Pay cash for your emergency from the fund. Then, put any extra money into a high yield savings account until it reaches $1,000 again.
After it’s at $1,000 again, you can resume the debt snowball. Handling emergencies this way will help ensure that your credit card balances continue to go down. They won’t go up due to emergencies.
Bonus: The starter emergency fund serves as training ground for paying for emergencies in cash. It helps you develop a habit of saving money too. At some point, you’ll grow your emergency fund to a higher balance.
After you do that, you can start making your money work for you. How?
Baby Step 2: Pay Off Debt
The debt avalanche (paying off debts according to the highest interest rate) will save money in the long run. However, the debt snowball is often a better choice for debt payoff. Why? Because it keeps people motivated.
Getting debt free is a long journey for many. The debt snowball gives you quick wins from the start. The quick wins can motivate you to stay the course.
What is the debt snowball method?
Here is how its works:
- List your debts from smallest to largest
- Make the minimum payment on all debts, except the smallest one
- Put any extra funds toward the smallest debt until it’s paid in full
- Tackle the next smallest debt on your list with all your extra cash
- Repeat this until it all debts are paid off
Bonus: Being able to mark those smaller debts as “Paid in Full” faster will motivate you. It’ll give you faith that you can indeed win the battle against debt.
Download the Debt Snowball form here.
Baby Step 3: Finish the Emergency Fund
Ramsey’s next suggested baby step is to increase your emergency fund. You’ll save until it contains 3 to 6 months’ worth of household expenses. It might seem daunting to save that much money.
However, Ramsey has a method for doing it quickly. If you’ve finished Baby Step 2, you are free of consumer debt. The only debt you have left should be mortgage debt.
Next, you’ll take the money you were using to pay down debt. Don’t coast on your new, smaller payments. Instead, take the money and make a “payment” to yourself. Use the money that you were putting toward your debt snowball.
Make regular savings account deposits with it. Doing so should help you finish your emergency fund faster.
A 3 to 6 month emergency fund will keep you and your family protected. You’ll have a nice buffer against major financial emergencies. Troubles such as job layoffs and major home repairs won’t require credit cards. Instead, you’ll pay for them with cash.
Bonus: Developing a habit of saving BIG money will make you into a rock star saver. It’ll make it easier for you to save for big things. We put money into a separate countdown fund for expected major expenses.
Then we can pay cash for things like cars and vacations. Learning how to save big money helped us do that.
Baby Step 4: Maximize Retirement Investing
Look at you now! Your consumer debt is gone. You have an emergency fund that’s fully funded. It contains 3 to 6 months’ worth of expenses. Next, Ramsey suggests maxing out your retirement investing.
For 2020 this means contributing up to the legal maximum allowed by the IRS. That maximum is $19,500 a year for 401(k)’s and $6,000 a year for IRAs.
Ramsey suggests saving 15% of your income.
If you can do that without going over the IRS limits, go for it. Note that those 50 and over can add more cash to retirement accounts.
- $6,500 to their 401(k)
- $1,000 to their IRA holdings.
These are called “catch-up” contributions. If you can make them, do it. Maxing out your retirement investing helps ensure your golden years will be secure. The more you save, the more comfortable you’ll be.
Baby Step 5: Fund Kids’ College
There’s one thing I like about the college section of the Total Money Makeover book. Ramsey is clear that college doesn’t guarantee career success for your kids.
He goes into great detail about how important it is to calculate the cost vs. the benefit of college. Do this before you send your kid out to spend $25,000 a year on schooling.
It’s important during this step to talk with your spouse. Decide how much money you can afford to set aside for your kids’ education.
The dollar amount is up to you. Be sure you research the different college saving options too. Make sure what you plan to contribute to your kids’ college educations is affordable for your family.
In addition, make your plan clear to your kids. They should know what to expect from you where college financing help is concerned.
As a final tip, consider college alternatives. You may end up saving big money in the process.
Here are some ideas:
Consider Trade School
Your child may be happier in a trade school. He or she might be better suited for a trade.
There is a shortage of workers in fields like:
- Heating, ventilation and air conditioning
And other trades. Because of the shortage, trade schools are often cheap. And they’re paying large salaries to those working in trade industries. Talk to your child regarding their interests. They might prefer a trade over a desk job.
Take Some Classes at a Community College
Your child may be able to complete general classes at a community school. Community colleges are cheaper than universities. See if your child can take some classes at a community college. But check with his/her university to ensure the credits will be able to transfer.
Foundations and companies everywhere offer scholarships. Your local college financial aid office can help too. Scholarships can go a long way toward paying for college costs.
Using these tips can help you minimize college debt. Or you may be able to avoid it altogether.
Baby Step 6: Pay Off Home Mortgage
So you’ve paid off all of your consumer debt. You’ve got a fully funded emergency fund. You’re contributing at least 15 percent of your income toward retirement.
In addition, you have a plan for contributing to your kids’ college educations. What’s next? It’s time to pay off the mortgage faster.
Can you imagine being mortgage free? Not owing anybody anything? They say the grass feels different under your feet when you own your home. Now it’s time to find out.
You’ve created a solid budget so that you know where your money goes. Now take all of your extra funds. This includes funds that were going toward your debt snowball. And the amount you were putting in your emergency fund.
Put it all toward that mortgage loan. Get it paid off in full as soon as possible. Put any extra money toward the mortgage loan too.
Extra money could include:
- Tax refunds
- Work bonuses
- Overtime pay
And any other money you don’t usually get. Since it’s unexpected money, you won’t miss it. Don’t spend it on other stuff. Instead, use it to get that mortgage gone.
The less interest you pay to the bank, the more money you have. You can give it to worthy causes and use it to fulfill your dreams. It’s your job to find out what those dreams are. Which leads to Baby Step #7.
Baby Step 7: Build Wealth and Give
Here’s the best step! At least in my humble opinion. You don’t owe money to anyone. And you’ve got a nice stockpile of savings. What does that mean? It’s time to start building some serious wealth.
That wealth-building can come in a variety of forms. You can invest in mutual funds. Or, you can invest in real estate. If you want, you can sock the money away in a high-interest earning bank.
The goal is to put as much money as possible toward whatever your financial goals are. That might mean traveling the world. Or it might mean building your dream home. Maybe you want to live life as a philanthropist.
You’re completely debt free. Now you’re working at having amassed a serious amount of wealth. The world is your oyster, and your dreams are unlimited. How does that sound? Good?
Start working the baby steps in your life today. Work toward achieving all of your life’s goals.
Have you started working on the Dave Ramsey Baby Steps? If so, what was your experience like? Leave me a comment below!