Total Money Makeover by Dave Ramsey was really a life changing book for me when I first read it 2 years ago. I've since read it about half a dozen times and each time I learn something new and get inspired all over again. If you don't already know, Dave Ramsey teaches about getting out of debt. He has what he calls his 7 "Baby Steps." In The Total Money Makeover he goes over those steps from getting out of debt to building wealth.
1. $1000 Emergency Fund
The first step is to build a one thousand dollar emergency fund. You have to stop using credit when things go wrong so the first step is to get a small cushion between yourself and the world.
2. Get out of Debt
The second step is to get out all of your debt except for your house. Pay off car loans, college loans, credit card debt, and anyone else you owe money. Dave’s method is to start with the smallest debt and move up. He calls it the Debt Snowball. If you do this, you quickly get positive reinforcement to help keep you motivated. Each debt you pay off also frees up more money each month to pay down the next debt.
3. 3 to 6 Month Emergency Fund
The next step is to save up 3 to 6 months worth of expenses. This will give you a bigger cushion from the world, and give you some peace of mind. If you have 6 months of expenses saved losing your job doesn't have to be as scary as it is now.
4. Retirement
Dave suggests putting 15% of your gross pay into Roth IRA’s and 401k’s. Don't start this until after you are out of debt and have an emergency fund. Those are too important to wait.
5. Kid’s College
If you have kids or are planning to have kids, this is the point where you need to start saving for their college. If you don’t, you can move on to step 6, which is…
6. Pay off the Mortgage
Next pay it off the house as fast as you can. This doesn't have to take 30 years. The average for people following Dave's plan is about 7 years. Just think how much freer you would feel with six months of expenses in the bank and no mortgage payments.
7. Spend, Save, Give
Dave says money is for 3 things. It is for having fun, building wealth, and giving away. When you get to this step you can start to build real wealth and be very generous.
I would highly suggest heading to Amazon and picking up a copy of Dave Ramsey's The Total Money Makeover
if you don't have one yet.
2 comments:
I like the general idea, but step 2 is not a good idea. Building confidence in paying off your debt is supposed to be a magic bullet to people getting their finances in order? No. This is what you should do:
Arrange your debt in descending order of interest (ie: highest interest first), REGARDLESS OF THE AMOUNT OWED ON THE CARD. Pay off your debt from the top down. Why? Because even if you have $10 on a card that charges 20% interest, moving the money to a card that charges 10% interest will cost you money, albeit very little in this example. Simply pay the minimum balance on all of your debts each month, except for the one with the highest interest which you will throw all of your extra money at.
I agree that it makes the most sense mathematically to pay off high interest debts first. However as Dave says, if we always did things that made the most math sense we wouldn't be in debt. The reasons for paying small loans off first are psychological. It gives people small victories to build on and it also improves monthly cash flow which is a great motivating factor.
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