We’re pretty certain you’ve heard of those bracelets that have the initials WWJD as in What Would Jesus Do. You might have even heard of the bracelets that New Orleaneans were wearing several years ago with the initials WWBD as in What Would (Drew) Brees Do. But today, if you’re struggling with debt, you might want to get a bracelet with the letters, WWDRD as in What Would Dave Ramsey Do.
The third most popular
If you’ve never heard of Dave Ramsey, you are the member of a small minority. He is a financial expert that has the third most popular radio program in America right behind Rush Limbaugh and Sean Hannity. In fact, more than 7.7 million people tune into his radio broadcast every week. He also makes live appearances such as the one he has planned for November in a 3000-seat arena in New Jersey.
What Dave teaches
The tips Dave teaches for managing money basically boil down to.
- Hate debt like the plague
- Budget carefully
- Start a $1000 emergency fund
- Use “snowballing” to pay off your debts
- Put three to six months of living expenses into savings
- Cut up your credit cards
- Invest 15% of your household’s income into pre-tax retirement programs and Roth IRAs
- Pay off your home early
- Fund college for your kids
- Build wealth and donate to worthwhile charities
Snowballing your debts
Dave is credited with having come up with this strategy for paying off debt and it’s a good one. The way it works is that you list all of your debts, including your mortgage (if you have one), in order from the one with the smallest balance down to the one with the largest. You then do everything possible to pay off the debt that has the smallest balance. When you’ve paid it off, you will have new money available that you can put to work paying off the card with the second smallest balance and so on. The reason why Dave recommends this is that he believes – and we agree – that when you pay off the debt that has the smallest balance, you’ll see that you’re making progress in zeroing out your debts and this will help keep you on track in paying off the rest of them. Where snowballing comes from is that as you pay off a debt, you will gain momentum like a snowball rolling downhill. And you will have an increasing amount of money available – again like a snowball gathers snow. Dave even offers a free snowball tool that could help you quickly organize your debts and get started paying them off.
Here’s a video where Dave himself explains more about how you snowball debt.
Just makes sense
The rest of what Dave Ramsey would do or teach is pretty self-explanatory. The idea that you should have an emergency fund, three to six months of expenses in savings and funding your children’s college education is not only self-explanatory but also just makes good common sense.
It also makes good sense to pay off your house as quickly as possible. And this might be easier than you think. There are at least six ways to do this.
- Add an extra $500 or $600 to all of your payments. Just make sure that all the money is applied to your principal, not your interest or your escrow account. This will definitely free up money sooner than later.
- Make extra payments. If you can make an extra payment several times a year, this might be more difficult than paying a little extra each month but has the same benefits. You can make this less painful by making a payment every two weeks instead of once a month. If you do this, you should be able to knock off at least six years from a 30-year mortgage.
- Pay a lump sum. If you get a money gift, a bonus, an inheritance or a tax refund use the money to make an extra payment on your mortgage. Alternately, you could put the money into a savings account and then arrange to have automatic withdrawals made from it to your mortgage loan. That way you would have the best of both worlds, money in your savings account and money being applied to pay down your mortgage.
- Refinance to speed up the process. If you can refinance your mortgage, you should have a lower monthly payment and could then use the money you’ve freed up to make extra payments. The biggest issue here is called “declining home values,” and your loan-to-value ratio. Plus you’ll need to have a good credit score. But if you were able to get a new 15-year mortgage in place of that existing 30-year mortgage, you would definitely be out of debt much quicker.
- Reduce your housing costs. Would downsizing or selling your home and moving to a smaller one make sense? That will depend largely on how old you are and how old are your children. But if it would make sense, you could end up with a more affordable home and a much lower monthly payment.
- Use your retirement savings. The idea of using money from your retirement fund to pay off your house has become increasingly popular recently due to pending legislation in Congress that would waive the early withdrawal penalty if you take money out of a retirement account and use it to pay off a home loan. However, this might not make sense depending on how much you have in your retirement account. And definitely, don’t do it if there is a possibility your home could be foreclosed.
What Dave doesn’t do
Dave might be very big on the idea of using the snowball strategy to pay off debts but there are other ways to do this that might make sense – depending on your financial situation. As an example of these, you might use the avalanche method where you begin by paying off the debt that has the highest interest rate. Second, you could get a second job and use the money to pay off your debts. Third, you could borrow from your retirement fund and use the money to pay off your debts rather than to pay down your mortgage. And fourth, you might declare bankruptcy, which would discharge all or most of your unsecured debts (like credit card debts) but is basically an option of last resort because of what it would do to your credit for the next 7 to 10 years.