The Thinking Person’s Guide to Dave Ramsey: Reasonable Baby Step Modifications

As we discussed in the two prior posts in this series, Dave Ramsey’s (DR’s) program for getting out of debt and building wealth works very well for some people but may be inappropriate for those who don’t agree with all of the underlying principles.  The next two posts are intended for people are curious about following the Baby Steps loosely but who want to know what some reasonable modifications may be.  In this post, we will explore many Baby Step modifications that you can make while preserving the overall progression.  In the next post, we will explore how to swap the order of the Baby Steps to best suit the desires of the participant – for instance, moving on to a later step without having fully completed an earlier one.


toddler on beachDave Ramsey’s Baby Steps are:

1. $1,000 to start an Emergency Fund

2. Pay off all debt using the Debt Snowball

3. 3 to 6 months of expenses in savings

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

5. College funding for children

6. Pay off home early

7. Build wealth and give!


Again, in this post we will preserve the order of the Baby Steps but go into detail about how DR wants each step to be completed as well as what some tweaks could be.



1. The Baby Emergency Fund


This step is widely accepted in financial circles.  Even during a period of intense debt payoff, most people agree that it is a great idea to keep some money on hand to cover small emergencies to prevent you from sliding back into debt.  According to DR, the emergency fund size is supposed to be $1,000 for everyone but very low-income people ($20,000 per year or less), for whom $500 is recommended.


Many people get tripped up at this step because they don’t want to reduce their accessible savings to $1,000 and put the rest of the savings toward their debt.  They can’t sleep well at night without $X in the bank.  The best way to modify this step is to decide on a larger Baby Emergency Fund to keep available, particularly if your normal household expenses are much higher than average.  People with a certain need for security may need to go outside their comfort zones during this phase, though – the point is to pay down the debt very quickly and then rebuild a full emergency fund, and keeping too much money in the Baby Emergency Fund will stall that purpose.


If your pay or expenses swing wildly more than the average person, I also think it’s reasonable to increase your Baby Emergency Fund size.  For instance, self-employed individuals may want to keep more savings on hand to practice income smoothing.  Certainly anyone who can anticipate the likelihood of an emergency, like a job loss or a baby on the way, should keep more savings on hand, and in fact for those cases DR recommends paying only the minimums on your debt until the period of possible emergency passes.


A few people would argue that it is not necessary to keep any money on hand for emergencies and that everything should be put toward debt repayment, particularly if that debt is high-interest.  Even if you don’t keep any cash on hand month-to-month, you still need a plan for which line of credit to tap (preferably low-interest) in case you do have a small car repair, medical expense, or other emergency.


2. Pay Off All Debt


The method DR recommends for prioritizing debt payoff is called the Debt Snowball: You list all of your debts in order of ascending balance, pay the minimums on all and throw all extra money at the debt with the smallest balance first.  Once that debt has been paid off, you take that debt’s minimum payment plus the extra money and put it toward the debt with the second smallest balance, etc.  This prioritization has been shown to be the quickest payoff method empirically because of the effect on the participant’s psychology.


The other popular method of prioritizing debt payments is called the Debt Avalanche.  You list all of your debts in order of descending interest rate, pay the minimums on all and throw all extra money at the debt with the highest interest rate.  When that debt is gone, you move to the debt with the next lower interest rate.  This method will result in the fastest debt payoff for people who are motivated more by numbers than psychology.


While you certainly don’t have to focus on only one debt at a time, it makes a lot of sense to limit your focus in that way.  As for the method for ordering your debt, each method is appropriate for different kinds of people.


However, there are other factors to take into consideration when prioritizing your debt list:

  • Are any of your student loans eligible for forgiveness?  If you want to take advantage, move those to the end of the list and don’t pay more than the minimum.
  • Are any of your debts at a variable interest rate?  You could move those debts forward or back in your list depending on which way you expect interest rates to move (in the current climate of low interest rates, you might move your variable interest rate debt to a higher priority because the interest rate may increase soon).
  • What is your relationship to each of the lenders?  If you have loans from family, do you want those eliminated to normalize your relationship or do you want to pay those back slowest because of your flexible terms?  Are any of your lenders a pain in the behind to work with?


3. Full-Sized Emergency Fund


DR recommends three to six months of expenses for a full emergency fund.  This recommendation is commensurate with what many PF people said before 2008, but often since then you will hear them recommending six to twelve months of expenses.  (Of course, there are still some people who, as mentioned above, advocate a line of credit serving as an emergency fund.)


Using a certain number of months of expenses to decide emergency fund size fundamentally assumes that the emergency you are protecting against is income loss.  You could also choose to enumerate all the vital ‘things’ in your life that could break (your body, your house, your car, etc.) and add up the deductibles you would have to pay to fix them and use that figure as your target emergency fund size.  Or could come up with an alternative way of calculating the size – the point is just to have an amount of money immediately available that makes you feel comfortable that you could weather an emergency that is reasonable for your household.


4. Invest 15% of Income for Retirement


While a 15% savings rate is a great starting place, determining what your retirement savings rate should be is a very individualized and nuanced process.  You can make a rough estimate of it for yourself by triangulating how much money you expect to need in retirement, how many years you plan to work, and the expected rate of return (net expenses) on your investments.  The clearer your retirement picture becomes (and the closer), the more you will likely benefit from meeting with a fee-only financial advisor to determine if you are on track.


Here is a non-exhaustive list of factors that will sway that 15% recommended savings rate higher or lower:

  • current retirement savings balance
  • how far in the future you expect to retire
  • whether you plan to draw down your retirement savings or live off of returns
  • your life expectancy post-retirement
  • your risk tolerance (i.e. what rate of return you expect on your investments)
  • what type of tax-advantaged accounts you have available to you (pre-tax vs. post-tax, retirement vs. HSA or other)
  • what you will receive in pensions and/or Social Security
  • what percentage of your pre-retirement income your post-retirement expenses will be
  • your tax bracket now and your expected tax bracket in retirement
  • whether you receive an employer match on your retirement contributions


If you don’t have a better way to determine your retirement savings rate, I think DR’s 15% suggestion is a good starting place, though young, aggressive participants may not need to save that much and participants nearing retirement with a low balance may need to save quite a bit more.



5. Save for Kids’ College


This step is so ill-defined that there are no specifics to be critical of.  Determining how much to save for your children’s college educations and setting up a saving rate may be a graspable question if they are only a few years away from college (or if you are determined to contribute no more than $Y per child), but seems almost impossible for a young child both because of their uncertain academic future and because of the high, unstable tuition inflation rate.  DR nearly insists that children attend a university in their states’ public system, so that makes the calculation easier, but that’s not necessarily the right choice for every child.


I’ll just say that step #5 is a great place to save for a variety of long-term goals, like your ‘dream.’



6. Pay Off Your Mortgage Early


As this step is so simple, again there aren’t really modifications to suggest that don’t involve moving this step relative to other steps (which I will cover in the next post in this series).


7. Build Wealth and Give


This step is often not even mentioned in the Baby Steps.  By paying down debt and saving, you are building wealth all throughout the steps.  DR also expects Christians to tithe throughout the steps, so they are giving all along as well.  What this step really means is to diversify the methods by which you build wealth and give.


During the steps wealth-building has only occurred through debt reduction, saving into retirement accounts, and paying off the mortgage.  In step seven, wealth-building could include buying other types of assets like taxable investments or real estate.


Step seven is also when DR will suggest that Christians begin to give/resume giving above the tithe (offerings).  Instead of all your giving going to your local church, you can branch out to give to other people and organizations that you want to support.





It seems that step two is the most controversial in terms of people suggesting using the debt avalanche method instead of the debt snowball method.  The steps regarding emergency fund size also warrant some scrutiny, especially for people who don’t immediately accept the $1,000 and 3-6 months expenses figures for whatever reason.  Step four is a good starting point, but as retirement draws closer it will be necessary to become more nuanced about the proper savings rate. Step six is quite straightforward.  Steps five and seven are open to enough interpretation that people can make of it what they want to.


These are the reasonable modifications you can make to the Baby Steps while still preserving their order relative to one another.  Next week, we will discuss modifications that involve changing the order of the Baby Steps.  In the following week, we will discuss why DR’s approach to saving for the long-term is misleading.



Which Baby Step would you accept as DR recommends and which would you choose to modify?  Have you switched the order of your prioritized debts away from either the Debt Snowball or the Debt Avalanche methods and for what reason?  What factors have influenced your retirement savings rate?


photo from Free Digital Photos


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19 Responses to "The Thinking Person’s Guide to Dave Ramsey: Reasonable Baby Step Modifications"

  1. dojo says:

    At the end of the day I think it’s important for people to understand 1. the need to have an emergency fund and 2. to strive to become debt free. How they’re doing it is less relevant, as long as they keep their eyes on the prize 😉
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    1. Emily says:

      I think that people just need to find a system that works for them, so I’m throwing lots of ideas out and I hope one will stick with each reader who is looking for a system!

  2. Great breakdown again, Emily. I agree that the method of debt repayment is the source of some debate, though I think the evidence suggests that the snowball method actually is the most effective when looking at the average behavior (as always, YMMV).

    I personally think step 6 is the most controversial in PF circles, though we did like Dave suggested and just attacked our mortgage, paying it off less than 3 years from the start date of the loan. There are HUGE opportunity costs from our approach, but I honestly do not have regrets. I love being debt free and wouldn’t have it any other way.
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    1. Emily says:

      Step 6 is the most controversial in terms of where it appears in the Baby Steps (the subject of next week’s post), not so much how to carry it out (the subject of this week’s post). Don’t get ahead of me! 😉 I’m glad you don’t have regrets about paying off your mortgage – and if you ever did, you could take out another one!

  3. I’m more of a debt avalanche person because I have loans from before Bush’s loan extension expired and after so my loans from 03-06 are low interest while all loans made the 06-07 school year and following have a much higher interest rate and grad school loans permanently became fixed at a high rate. My husband, on the other hand, graduated the year they all expired, so we just keep paying the minimums on his and focus on my high interest ones. I agree that the snowball method works when the interest rates are relatively the same (like with credit card debt) but when you’ve got $20,000 @ 6.55% vs. $4,000 @ 1.55$, paying that small debt off early is a waste of money in my book.
    Tara @ Streets Ahead Living recently posted..Just because it’s “natural” doesn’t mean it’s healthy!

    1. Emily says:

      I agree with you. Those balances are large enough that you’re not going to get a quick win no matter which one you choose – it’s not like it’s a couple hundred dollars.

  4. Richard says:

    Big Ramsey no-no’s, but for step 2: there’s the option to refinance, do balance transfers, consolidate, or otherwise restructure debt to achieve better overall interest rates or lower payments.

    Also, I never understood his clinging to 15-year mortgages. You can pre-pay a 30-year just as fast as a 15, and a 30-year has lower minimum payments during times of emergency.

    1. Richard says:

      Also, there has got to be an exception for pay-day loans. Sell everything you own and spend down the whole baby emergency fund to $0 if you’re paying 25% per month for a rip-off title loan.

      1. Emily says:

        Maybe there is when he counsels people one-on-one. I did hear a caller this week who was dealing with payday loans and he inquired whether she had an open line of credit she could use to pay off the payday loans. I’ve heard him talk about transferring very high-interest debt to lower-interest a few times, but I think even then after making the transfer you’re supposed to go back to step 1.

    2. Emily says:

      Good point about the option of restructuring debt. It’s not something I really think about because sometimes those offers are scammy and I think it does have a negative psychological effect – though for those numbers-motivated people it could be a better option. But it should be brought up.

      That DR advocates for a 15-year (or shorter) mortgage makes a lot of sense to me. He wants you to make the decision ONE TIME to pay the higher mortgage payment, not to have to be tempted to pay the 30-year rate every month. But assuming that you’re paying more than the minimum either way (step 6), maybe it’s just that the 30-year mortgage would have a higher interest rate?

  5. I have a BIG problem with the $1k emergency fund he suggests. This year was the first year I had an emergency fund and I will tell you even $5k isn’t enough. There are too many things that can go wrong at once and the last thing I would want to do is charge a $2k unexpected expense to a credit card. I also don’t agree with paying off your mortgage early, especially if it’s at a low rate. If it’s at a higher rate it might make sense to refinance. There’s too much to be gained imo by having access to such cheap rates. Anyway I do need to get around to reading DR’s book, it’s on our bookshelf but I haven’t touched it so I will reserve most of my opinions for after I actually read what he has to say.
    DC @ Young Adult Money recently posted..Three Ways to Take Your Business to the Next Level in the New Year

    1. Emily says:

      I think the fact that any small to moderate EF would be inadequate in the face of a serious emergency is actually an argument for going with the smaller balance and throwing everything at paying down the debt. It’s an 80/20 solution. You can never be secure in every situation. But we all have to do what allows us sleep at night, and sometimes that forces the choice between a smaller EF and a longer journey out of debt.

      I agree with you about the mortgage if the rate is favorable. That’s one area that really comes down to feelings for many people.

      TMM takes only a few hours to read so it won’t be a big time committment!

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