This is the ninth of twelve parts of a “book club” reading and discussion of Dave Ramsey’s The Total Money Makeover, where this book on debt reduction is teased apart and looked at in detail. This entry covers the tenth chapter, finishing on page 182. The next entry, covering the eleventh chapter, will appear on Saturday.

When I was growing up, my parents didn’t save any money for me for college. Not because they were neglectful, but mostly because there weren’t resources for such saving.

Where are we at now? I’m doing just fine, with just one college loan remaining, and my parents are safely in retirement, leaving me without worrying about how they’re going to make ends meet.

This experience, when I reflect on it, makes me question the value of college savings. I do understand the benefits of helping my children through school, especially if they realize the value of it. However, looking at things from a post-college perspective, I’m actually much happier that my parents are safely retired than I would be if they had floated my college bill and were still working.

For me, at least, it makes sense to focus on retirement savings and make absolutely sure that it’s covered before even considering college savings. I think we’re there.

What to Expect from College
Many parents seem to expect that once the kids are out the door to college, they’re well on their way to a lucrative career. Ha. On page 169:

If you are sending your kids to college because you want them to be guaranteed a job, success, or wealth, you will be dramatically let down. In some cases, the letdown won’t take long because as soon as they graduate they will move back in with you. Here me on this: college is great, but don’t expect too much from that degree. [...] Because we have turned a college degree into some kind of “genie in a bottle” formula to help us magically win at life, we go to amazingly stupid extremes to get one.

This kind of talk is anathema to some. How dare someone impugn the value of a college education!

Here’s the thing: the actual college education only teaches you a bit of what you’ll actually need to know in the workplace. The value of college comes in other areas: the relationships you build and the skills and ability to actually get through the minefield. The college degree merely says that you were able to navigate the minefield, not that you picked up invaluable knowledge that will help a business make money.

I found that the “cramming” skills I learned in college didn’t pay off until I had secured a job. The relationships I built paid off helped me get my foot in the door for my first big job interview, but I had other opportunities on the table that weren’t connected at all to those relationships. My actual college degree? It was a nice resume filler, but it was not what got me the job and it was not what helped me succeed when I got there.

Devaluing the Pedigree
Page 171 discusses the idea that where your degree comes from doesn’t matter that much:

In some areas of study and in a very few careers, where you graduate will matter, but in most it won’t. Pedigree means less and less in our work culture today.

The panic that people feel about how they “must” get into this certain college is completely overblown, from my perspective. You succeed or fail based on what you do and the relationships you build, not the environment around you. You can flame out just as well at MIT and at your local tiny state school. You can also succeed dramatically at both if you work at it.

I would far rather have a child that went to a small school without a great pedigree, took advantage of all of the opportunities there, built some great relationships with people, and got good grades in an area they’re passionate about than to go to Harvard and flunk out after two semesters.

Pedigree matters less. What matters more is the individual: did they take advantage of their opportunities, or let them idle around them?

College Lifestyle Adjustments
When I was in college, there were two groups of kids. There were the kids with “helicopter parents” who gave them plenty of cash to spend, seemed to stop by the dorms all the time, and would actually call professors on their behalf. There were also the “free” kids, the ones whose parents dropped them off, came and visited on occasion, but mostly let the kids do their own thing.

I was in the latter group. My parents came and visited regularly, especially when I was a freshman, but success was largely up to me. They never contacted a professor, and outside of a $10 or a $20 bill left behind on occasion, they didn’t provide me with funding beyond buying some of my textbooks as my “birthday” or “Christmas” present. I had a job starting my first semester and I kept multiple jobs throughout my college years.

Dave riffs on this on page 171:

[T]hose precious kids can probably get a good degree if they will suffer through lifestyle adjustments and get a job while in school. Work is good for them. In past generations, students lived with relatives, slept in dorms, ate cafeteria food, and endured other hardships to get a degree.

I do not want the path my children have to college to be incredibly easy. For me, the aspects of college where I actually learned things were the areas where I was pushed and challenged. Having everything paid for makes big swaths of college incredibly easy – and many college students, especially those lacking self-motivation, will fill those gaps with gratuitous wastes of time and money.

Obviously, the path shouldn’t be impossible, but no path that is a cake walk is one worth taking.

Tuition Inflation
College tuition goes up by leaps and bounds. On page 174:

College tuition goes up faster than regular inflation. Inflation of goods and services averages about 4 percent per year, while tuition inflation averages about 7 percent per year. When you save for college, you have to make at least 7 percent per year to keep up with the increases.

In other words, if you want your investment today to actually grow faster than the rate of tuition growth, you need to be making more than 7% on your return.

How can you do that? Well, there’s no guaranteed way to get that kind of return. However, if you start early in your child’s life, you have a period of almost twenty years to watch your dollars grow in a long-term investment, which means you can take on more risk than you could if your kid is fourteen.

I have my children’s college savings almost entirely in stocks (the oldest child is three years old). As they get older, I’ll slowly begin to shift their savings towards bonds and safer things, but for now, the potential growth of the stock market and the time frame I have for saving makes stocks a great choice.

Will Baby Life Insurance Work?
I know of several grandparents who have written to The Simple Dollar asking whether buying whole life insurance for their newly-born grandchildren is a good option. I told them no – I suggested starting their grandchild a 529 if they’re saving for college and if they really wanted life insurance they should buy a small term policy for the grandchild. Dave seems to concur on page 174:

Baby life insurance, like Gerber or other Whole Life for babies to save for college, is a joke, averaging less than a 2 percent return.

Whole life insurance is never a good deal. If you’re tempted to invest in it, consider something different. Instead of dumping, say, $100 a month into a whole life policy, buy a similar insurance policy for $10 or so a month, then invest the other $90 or so into a dedicated investment – a 529, a Roth IRA, or even just a taxable account. Put it into index funds through Vanguard (that’s what I do with my dollars) and just sit back.

You will be ahead. Why? The $90 you’re investing in index funds won’t have commissions taken out – the cost of a typical index fund is about 0.2% a year, while whole life funds have commissions so large that they often eat the entirety of your first few years’ worth of contributions.

If you’re thinking about it, get the information and projections from your insurance salesman, step back, and run the numbers yourself. Compare your investment in that policy with an investment in an index fund like VFINX and see where things wind up.

What Kind of Account Should I Use?
On page 175, Dave points towards a Coverdell account:

I suggest funding college, or at least the first step of college, with an Educational Savings Account (ESA), funded in a growth-stock mutual fund.

An ESA is often referred to as a Coverdell, named after the late Senator Paul Coverdell.

I usually recommend a 529. What’s the difference? The Coverdell has the advantage of enabling you to choose your investments on your own instead of choosing among the plans offered by various states. Iowa’s plan, though, is handled by Vanguard, which is who I would choose, anyway.

The big drawback to a Coverdell, from my perspective, is that it has to be used by age thirty or else given to a younger relative. I don’t like this at all, which leans me towards the 529. Many students who go on to graduate school often wind up in school past age thirty; others may make the choice to go back for a different degree after some years in the “real” world. If I invest in my child’s 529 and they have money left after getting that four year degree, I’d like it if that money sat around in case they chose to go back to graduate school or for another degree later on in life. That option is cut off with a Coverdell.

What I hope for is that my children will earn enough scholarships to cover their undergraduate degrees (I earned enough for a majority of my expenses). If that happens, they can keep that 529 for any graduate work they might do.

Do you have any other thoughts on this chapter of The Total Money Makeover? Please share them in the comments – and feel free to respond to any of my impressions as well. After all, a good book club is all about discussion!

On Saturday, we’ll tackle the eleventh chapter – Pay Off the Home Mortgage.

This is the eighth of twelve parts of a “book club” reading and discussion of Dave Ramsey’s The Total Money Makeover, where this book on debt reduction is teased apart and looked at in detail. This entry covers the ninth chapter, finishing on page 167. The next entry, covering the tenth chapter, will appear on Wednesday.

A few weeks ago, I took my three year old son to the theater to see Up. It was his first time in the theater and he loved the movie, particularly the friendly dog character, Dug.

I was much more entranced by the central character, Carl Fredricksen. Much like me, he married an adventurous girl he’d know since he was a child – I couldn’t help but see myself in Carl right off the bat.

Watching him progress forward to retirement – and finally realizing that this is his opportunity to do something he had dreamed about with his wife for their whole lives – really hit me with the idea that retirement isn’t just about stopping your work. It’s about continuing your life’s work, except without the constraints of having to beat the pavement each day.

The Total Money Makeover touches on this theme right off the bat.

Retirement Isn’t the End; It’s Security
On page 152, Ramsey makes the point that retirement means security, not just freedom from work:

When I speak of retirement, I think of security. Security means choices. (That’s why I think retirement means that work is an option.)

I agree wholeheartedly with this perspective, to the point that I no longer think of 401(k) savings or Roth IRA savings as retirement savings. In fact, I often have to change things I write about both accounts for simplification.

If I don’t think of them as retirement accounts, what are they? I think of them as “crossover point accounts” with some very nice tax benefits.

Here’s why I think of them this way. I have two young children. Realistically, I know that, unless a major windfall comes my way, I won’t be reaching my own “crossover point” (the point at which I can survive on my own investments) until after they’re out on their own for at least a few years. This puts me at an age that begins to approach the minimum ages for non-penalized withdrawals from my Roth IRA and my 401(k).

Do I intend to “retire” at 59 1/2? Not at all. I have a lot of plans for my life after the point where I am financially self-sufficient that don’t involve golf and fishing. They involve large volunteer projects and activities that simply wouldn’t be feasible without a large financial cushion. The last thing I want to do is waste away.

The Job You Hate
I really like this bit, from page 152:

If you hate your career path, change it. You should do something with your life that lights your fire and lets you use your gifts. Retirement in America has come to mean “save enough money so I can quite the job I hate.” That is a bad life plan.

This idea really hit home for me at a time when I was becoming unhappy with my career in many ways. Over the course of several years, I went from being very passionate and involved and pushing forward a fascinating project to being a system administrator charged with also maintaining a very large code base, something I absolutely didn’t want to do.

To me, the idea of simply switching careers was anathema. I had invested so much effort into my career at this point that I didn’t want to lose it. I was also trapped financially – I needed that income to keep coming in.

I knew what I wanted to do – creative-oriented work that really got people to think about their lives – but that seemed light years from what I was doing. But the investment I had already made and the financial state I was in kept me mentally locked into the idea of keeping on with it.

Don’t let your life be controlled by the need for a few more dollars. It’s not worth it.

15 Percent?
On page 155, Dave encourages people to invest big in their retirement plans:

The rule is simple: Invest 15 percent of before-tax gross income annually toward retirement.

In other words, your 401(k) contributions plus your Roth IRA contributions should add up to 15% of what you earn before taxes in a year, not what you bring home.

I think that 15% number is a bit loaded in a way that Dave doesn’t discuss. I think he makes an enormous assumption in this book, that people reading it are at the very least over the age of 30. The thought process behind this is simple: if you’ve dug yourself into an enormous debt hole, figured out that this is a problem, and dug yourself out, you’ve likely got quite a few years under your belt already.

The catch is that it’s those under the age of thirty that can really make a killing with retirement savings. If you save 15% a year from age 22 to age 30 for retirement in an account that returns 8%, you’ll make more just from those early years than you would if you started at age 30 and saved until age 65. Thus is the power of compound interest.

I think Dave’s absolutely right – if you’re over 30 and have peanuts saved for retirement, 15% is a requirement. If you’re just getting out of college, 15% would be sweet, but you can have a healthy retirement for less if you’re committed to contributions throughout your entire adult life.

What About Employer Matching?
Dave offers up his thoughts on how to consider employer matching on your 401(k) on page 155:

When calculating your 15 percent, don’t include company matches in your plan. Invest 15 percent of your gross income. If your company matches some or part of your contribution, you can consider it gravy. [...] By the same token, do not use your potential Social Security benefits in your calculations.

Why not include these things in your calculations? We all know about the lack of stability in Social Security – I, for one, have little interest betting my long term stability on it. But why not the matching?

Dave really doesn’t give an argument for why he believes you shouldn’t include it beyond “consider it gravy.” I tend to think the reason that ignoring matching is a good rule of thumb is that quite often employee matching money has special investing rules tied to it.

Another good reason – perhaps even more important – is that it’s better to save more than you need than less than you need. If you wind up at age 60 and have more money than you expect, that’s a good thing (provided, of course, that you’re not negatively affecting your life along the way).

Another interesting question: is investing in your own business worth considering for retirement savings? I don’t think it is. For one, a small business is notoriously unstable. For another, I think a small business functions more as a giant emergency fund than as a retirement account, since it can be tapped regardless of where you are in life. I wouldn’t include any sort of business as part of one’s retirement plan.

At Age Sixty Five…
An interesting fact worth thinking about, from page 164:

The investing you do systematically and consistently over time will make you wealthy. If you play with this by jumping in and out, always finding something more important than investing, you are doomed to be one of those fifty four out of one hundred sixty-five-year-olds still working because you have to work.

When I read that quote, I immediately began thinking of all of the people I know that are close to sixty five years of age and whether they still need to work. According to my math, seven still have to work and six do not. From my little bubble, it looks like that 54% figure is pretty spot-on.

One interesting difference between the two groups is that the working group tends to spend money more easily than the non-working group. The people I know in the working group tend to go on a lot of vacations and have shiny new cars, but their days are still filled with their jobs. The people I know that are not working for an income at age sixty-five are not doing as many expensive things, but instead are involved in things like volunteer work and actually working at their own small business that doesn’t turn a big profit but is a lot of fun for them. They don’t have shiny new cars and they don’t fly to Europe regularly, but they’re doing things they value.

I’d like to be able to go on some trips when I’m that age, but overall, I’d rather be in the group that doesn’t work for a living income then.

The Rose
On page 165, there’s a short parable about a rose growing from a plain seed into a beautiful bloom. The comment on this parable is interesting:

The story of the rose is about human potential and about not being defined by what you do, but rather by who you are. [...] Push with gazelle intensity [on your savings] to bloom, but know that as long as you take the progressive steps, you are winning.

For me, this all comes back to the idea of spending less than you earn – it’s the engine that drives everything that I truly value in life. Spending more than I earn means lots of little trifling goodies right now, but it means pain in the future – something I learned the hard way.

Spending less than I earn, though, is much like planting a seed and watching it grow. At first, it seems painfully slow, as a seedling barely peeks through the soil and seems to grow at a snail’s pace. But if I keep fertilizing it and working with it, it grows.

Before I know it, it’s a large blooming bush and the fragrance of freedom is in the air.

Do you have any other thoughts on this chapter of The Total Money Makeover? Please share them in the comments – and feel free to respond to any of my impressions as well. After all, a good book club is all about discussion!

On Wednesday, we’ll tackle the tenth chapter – College Funding.

This is the seventh of twelve parts of a “book club” reading and discussion of Dave Ramsey’s The Total Money Makeover, where this book on debt reduction is teased apart and looked at in detail. This entry covers the eighth chapter, finishing on page 150. The next entry, covering the ninth chapter, will appear on Saturday.

I’m a big believer in the unpredictability of life (in fact, this unpredictability is a major theme in my upcoming book). Life deals you things you don’t expect all the time, from small (like an unexpected wet diaper on your way out the door) to big (a sudden death of a close relative) and from good (finding a $100 bill in a parking lot) to bad (breaking your big toe after dropping something heavy on it).

Yet, even given that hugely unpredictable nature in life, most people do not have an emergency fund. Many of those who do only have a tiny fund. What happens to them if they lose their job and can’t get another one for a year? What happens if their child is invited to go to a very prestigious music school? What happens if one of them falls down a flight of stairs and has to spend six months in a wheelchair?

The solution to all of these things is a big, fat emergency fund. A big healthy wad of cash in the bank makes all of these problems easily bearable. For Ramsey, this is the next step after your debt snowball is done and all you’re left with is a mortgage – get a big chunk of change in the bank for those rainy days.

How Big?
One big point of contention about emergency funds is how big they should be. Dave offers his opinion on page 133:

A fully funded emergency fund covers three to six months of expense. What would it take for you to live three to six months if you lost your income?

I think it’s key here to point out that by “you,” the quote most likely refers to the full spending of a household – if it doesn’t, then you might be building an emergency fund that’s too small.

Three to six months? Think about how much you spend each month, then multiply that by, say, five. That’s quite a serious chunk of change. For us, it would probably be somewhere in the ballpark of $20,000, with almost half of that being our mortgage and homeowners’ insurance.

Is it enough? I think you have to look at it from the perspective that no amount will cover every possibility that could happen. Instead, you should be seeking an amount that’s large enough to cover every doomsday scenario you can reasonably think of. Consider the people around you and their most desperate moments. How much would they have needed in those situations?

Easy to Access
Dave basically argues for a savings account on page 137:

Keep your emergency fund in something that is liquid. Liquid is a money term that means easy to get into with no penalties. If you would hesitate to use the fund because of the penalties you’ll incur to get it, you have it in the wrong place.

That basically means a savings account. It’s accessible at any time without penalty and it doesn’t fluctuate in value.

Obviously, you want it to be as safe as possible. This eliminates stocks – they’re inherently risky and fluctuate too much. The value of bonds can fluctuate, too, though not nearly as strongly. You don’t want to lose your balance once it’s invested.

At the same time, you want to be able to get at it without a penalty of any kind. Dave argues that this is a black mark against certificates of deposits. I disagree with that. With some careful planning, you can use certificates of deposit in a “ladder” system and never have to crack one. I like this idea because it helps you get a better rate of return and it’s a psychological barrier that keeps you from digging into it.

Dave points towards money market accounts, another little hint that this book was written prior to 2008. Money market accounts might have great returns sometimes, but they’re not as safe as FDIC-insured savings account. Even better, if you hunt around, you can find FDIC-insured savings accounts that have a nicer return than pretty much any money market account and come with the insurance.

Three Months? Six Months? In the Middle?
The entire point of an emergency fund is to absorb risk, and some families are simply more at risk than others. On page 139:

For example, if you earn straight commission or are self-employed, you should use the six months rule. If you are single or you are a one-income married household, you should use the six-month rule because a job loss in your situation is a 100 percent cut in household income. If your job situation is unstable or there are chronic medical problems in the family, you, too, should lean toward the six month rule.

Personally, I feel as though children are a significant risk addition to one’s life. An adult can go out there and get a job. A three year old can’t do the same – they’re wholly dependent on the adult. Thus, if you have kids, I’d lean strongly towards a bigger fund.

I also think that six months isn’t necessarily the maximum. If all of your household income comes from freelancing, you have three kids, and there may be health issues in your future, six months probably isn’t enough. I’d have more than that – a year’s worth, perhaps?

We have about ten months’ worth of purely liquid cash sitting there for emergency purposes right now. That’s an amount that feels right for us, with the majority of our household income coming from freelancing and two children under the age of four.

Is Everybody on Board?
One issue I see readers writing to me about time and time again is the question of what to do when their partner isn’t on board with the financial changes they want to make. Dave hits on this a bit on page 142:

I don’t suggest you clean out your savings [down to $1,000 in order to pay off debt] if everyone isn’t having a Total Money Makeover.

I go further than that: if you’re in a relationship and your partner is not on board with making financial change, you’re wasting your time with it. Their actions will undermine everything you do and you’ll find yourself constantly at odds and angry with each other without making a drop of additional progress. That’s a dangerous recipe, right there.

If your partner is not on board with making some real financial changes, your focus shouldn’t be on charging full steam ahead without your partner. Instead, your focus should be on talking through your situation with your partner. You’ve got to understand where they’re coming from. Just pushing what you want won’t cut the mustard here – they’ll just see you as pushy and you’ll make negative progress, or you’ll get an act that makes it look like they’re on board when they’re really not.

Talk about your money. You’ve got to, or none of this will work.

Women and Men?
Are women more suited to have emergency funds than men? On page 144:

God wired ladies better on this subject than He did us. Their nature causes them to gravitate toward the emergency fund. Somewhere down inside the typical lady is a “security gland,” and when financial stress enters the scene, that gland will spasm.

The argument here is that by their very nature, women are more likely to see the value in an emergency fund than men. Men tend to be task-oriented, while women tend to be process- and security-oriented.

I think there’s actually something to this. I’m all in favor of gender equality, but different does not mean unequal. Different means that each side has traits that are beneficial. Guys are better at focusing in, at breaking down barriers. Women are better at planning and cooperation, at building fortresses of safety. Different attitudes are useful in different situations.

I see this in my own marriage. I’m far better with specific objectives with my children. I thrive on having a series of tasks to do or a game to play or something like that. My wife, on the other hand, seems to thrive more on nurturing. She holds them and is patient when they’re hurt, where I’m much more likely to look for how to solve the problem. When Joe bumps his knee, my wife is more likely to hold him while I go searching for a Band-Aid.

The emergency fund is definitely in her court, not mine. I see the value of it and I contribute to it, but it’s clearly more a part of her elemental nature.

Why Do All This?
If the future is so unpredictable, why waste our lives right now putting so much effort into scrimping and saving and planning for that future? On page 146:

What used to be a huge, life-altering event will become a mere inconvenience. When you are debt-free and aggressively investing to become wealthy, taking a few months off from investing will put a new engine in a car. When I say the emergency fund is Murphy-repellent, that is only partially correct. The reality is that Murphy doesn’t visit as much, but when he does we hardly notice his presence.

A big emergency fund means that the bad events in that unpredictable future don’t wipe away all of the good things you have in your life.

Without an emergency fund, a job loss means panic. It means scrambling madly for work – any work. It means you might lose your home or your car. It’s scary.

With an emergency fund, you can roll with the punches. You can patiently dig for the right job. You can even give your dreams of freelancing a shot right now – after all, you’ve got time.

Without an emergency fund, a dead car means panic. It means you have to throw yourself further in debt, with even more monthly payments than before.

With an emergency fund, you just make the call and fix the problem. No big debts. No monthly payments. Just smooth sailing.

You’re left with unexpected events – but only the good kind.

Do you have any other thoughts on this chapter of The Total Money Makeover? Please share them in the comments – and feel free to respond to any of my impressions as well. After all, a good book club is all about discussion!

On Saturday, we’ll tackle the ninth chapter – Maximize Retirement Investing.

This is the sixth of twelve parts of a “book club” reading and discussion of Dave Ramsey’s The Total Money Makeover, where this book on debt reduction is teased apart and looked at in detail. This entry covers the seventh chapter, finishing on page 132. The next entry, covering the eighth chapter, will appear on Wednesday.

You’ve got a big pile of debts in front of you. They’re scary. The totals of all of the debts takes your breath away when you think about it. You don’t know where to start. You need a plan.

Dave Ramsey calls his plan the “debt snowball,” and it’s based on psychology, not math. If you’re going for pure math, the best way to pay off your debts would be to start with the one with the highest interest rate, since that will save you the most interest per dollar that you pay back.

Dave’s plan is different – he encourages people to pay back their debts from smallest balance to largest balance. The smallest balance debt gives you a “win” as early as possible in your debt repayment – which is a huge psychological boost.

Do I buy it? I played with the numbers a while back and my conclusion was that the difference between the plans – unless you’re talking about enormous debt loads with huge disparities in interest rate – doesn’t save you enough to not try the debt snowball method.

Identify the Enemy
On page 109, Dave makes a worthwhile point about figuring out what you’re working against:

The bottom line is that it is easy to become wealthy if you don’t have any payments. You may get sick of hearing it, but the key to winning any battle is to identify the enemy. The reason I am so passionate about getting rid of debt is that I have seen how many people make huge strides toward being a millionaire in the short time after they get rid of their payments.

I agree with this to a large extent, but I don’t think Ramsey really spells it out fully here or even later in the passage. If your goal is financial freedom, the enemy is unnecessary spending, not the debt. Debt is merely a symptom of that problem.

Let’s say you spend $100 more a month than you bring in without anything in the bank. This behavior means that you’re building up debt. Make a handful of spending changes and now you’re spending $100 less than you bring in. Put that extra $100 towards the debt and it goes away. Then you can start saving that $100 (and probably more, since you don’t have those debt payments to cover) towards a big goal.

It all comes back to getting your spending under control. If you can’t get your spending under control on a consistent basis, all of the debt planning in the world won’t do a thing.

Debt Repayment Is Hard
Ramsey argues that repaying your debts is hard on page 111:

This is the toughest of all the Baby Steps to your Total Money Makeover. It is so hard, but it is so worth it. This step requires the most effort, the most sacrifice, and is where all your broke friends and relatives will make fun of you (or join you).

Is it that hard? I think it’s hard in the sense that when you’re standing there at the starting line of a marathon, the finish line looks impossibly far away. Then you start running and you’re caught up in the race. You get into a rhythm, you’re gliding along, and before you know it, the finish line is there.

Lao-Tzu was absolutely right. “A journey of a thousand miles begins with a single step.”

That first step is the hardest part.

It definitely was the hardest part for me. I knew for a long time that “someday” I’d have to fix my debt problems, but that “someday” was always put off into the future.

Then, finally, I was forced into taking that first step. The fear of not taking a step grew greater than the fear of getting started.

But once I took that first step, the second one was easier, the third one was easier, and before you know it, I’m well along the path and it’s like a slow train coming around the bend, clickety clack.

Math Versus Behavior
The idea of psychology versus numbers comes to a head on page 111:

We have discussed that personal finance is 80 percent behavior and 20 percent head knowledge. The Debt Snowball is designed the way it is because we are more concerned with modifying behavior than correct mathematics. [...] Being a certified nerd, I always used to start with making the math work. I have learned that the math does need to work, but sometimes motivation is more important than math. This is one of these times.

As I mentioned earlier, I ran the math myself, comparing the “optimum” strategy (which means you repay your debts in order of interest rate, highest to lowest) to the “debt snowball” strategy (which means you repay your debts in order of balance, lowest to highest). What I found is that the math difference isn’t that big of a deal if you’re really hitting those debts with a strong force.

At the same time, it’s easy to see situations where the psychological difference is enormous. Let’s say that your smallest debt is your lowest interest debt and your highest interest debt is much bigger. If you throw the kitchen sink at the smaller debt, it goes poof pretty quickly – and that feels good. If you throw the kitchen sink at the bigger debt, it takes a long time for that debt to go poof. It’s a real slog – a painful one.

Some people get irritated if they think they’re doing things in a way that’s even slightly suboptimal and are also self-motivated enough to push through. Frankly, there aren’t too many of those people – those that are out there are probably not considering the “debt snowball.”

So, I think Dave’s plan works quite well.

How It Works In Detail
He lays out the plan in a single paragraph on page 114:

The Debt Snowball method requires you to list all your debts in order of smallest playoff balance to largest. List all your debts except your home; we will get to it in another step. List all of your debts – even loans from Mom and Dad or medical debts that have zero interest. I don’t care if there is interest or not. I don’t care if some have 24 percent interest and others 4 percent. List the debts smallest to largest!

This is a very good first step, but I don’t think it’s quite the final step.

Once you have that list, it’s worthwhile to call up each of your creditors and negotiate a bit. The big move is to ask for a lower rate on each of your credit cards. Some people get paranoid with this, asking things like “What if they cancel my card?” Well, what if they do? If you’re committed to reducing your debt, that shouldn’t be a real problem.

Another step you should take is stopping by your local credit union and seeing what they can do to help you consolidate some of those debts. You might be able to drastically reduce some of the interest rates via a personal loan or some other vehicle. Don’t get involved with a “debt reduction” company – use your local credit union.

Once you’ve tried those things, your list will be different – and easier. Cross off those debts that you consolidated – they’re done! At that point, rewrite your list, again with the debt with the lowest balance on top.

Then comes the hard work – paying them off.

The Big Payoff
Dave explains why it’s a snowball on page 117:

After you list the debts smallest to largest, pay the minimum payment to stay current on all the debts except the smallest. Every dollar you can find from anywhere in your budget goes toward the smallest debt until it is paid. Once the smallest is paid, the payment from that debt, plus any extra “found” money, is added to the next smallest debt. (Trust me, once you get going, you will find money.) Then, when debt number two is paid off, you take the money that you used to pay on number one and number two and you pay it, plus any found money, on number three.

It’s like a snowball rolling down the hill. Your extra payments on that first debt are small, but it’s rolling along. Eventually, it’s paid off, and your extra payment picks up the minimum payment of the first debt. The snowball gets bigger as it rolls. Your next debt is done, and the snowball gets even bigger, picking up another minimum payment.

The part I found interesting here is this one: Trust me, once you get going, you will find money.

This is absolutely true, but it’s something people can scarcely believe when they first start. Once the debt starts slipping away, you start to really get into it. I know I certainly did. Watching the debt getting smaller and smaller is really exciting, and you want next month to be even more awesome. So you start looking for ways to save. You start looking for things to do differently.

And you find them.

After all, you wouldn’t be in debt trouble to begin with if you were spending your money in an optimal fashion.

There’s Not Enough Money To Get Started!
There usually is if you do things the right way. On page 124, after a story about a logjam on a river:

When the dynamite blew, logs and pieces of logs would fly into the air. After working so hard to cut the trees, some of them were a total loss. They had to blow up some of the timber to get the rest of the crop to market. That’s the sacrifice the situation required. Sometimes that is what you have to do with the stopped-up budget. You have to dynamite it. You have to get radical to get the money flowing again.

Radical usually gets people uncomfortable. I know this from experience – people don’t mind frugal tips as long as they’re easy, but I start getting flamed if I suggest something personally challenging. Cancel the cable? You’ll pry the remote from my cold, dead hands. Sell your car? Get a rope.

Here’s the thing, though. When you sit down and rationally consider getting rid of something you consider beyond question, quite often you find that it’s not really a bad move at all to get rid of it. Getting rid of cable is completely unthinkable to many people until they think about it. What are they getting from the cable that isn’t fulfilled by other avenues, like Hulu.com or over-the-air television or a $1 DVD rental once a week?

What about selling a car? I can’t stand the loss of freedom! What freedom? How often do you use the car in a way that isn’t served by the metro or a short walk or a bit more careful planning? Is it really worth the insurance cost to keep it around?

Look at something big. Ditch your house and move into an apartment. Rent out a room. Give up all beverages but water. Sell your television. The impact of a truly big move will be like a tidal wave over your debt – or any other big financial goals you have.

Do you have any other thoughts on this chapter of The Total Money Makeover? Please share them in the comments – and feel free to respond to any of my impressions as well. After all, a good book club is all about discussion!

On Wednesday, we’ll tackle the eighth chapter – Finish the Emergency Fund.

This is the fifth of twelve parts of a “book club” reading and discussion of Dave Ramsey’s The Total Money Makeover, where this book on debt reduction is teased apart and looked at in detail. This entry covers the sixth chapter, finishing on page 108. The next entry, covering the seventh chapter, will appear on Saturday.

One thing that Ramsey excels at is urgency. His entire persona, from his written words in the book to the things he says on the radio, practically demand urgency. “You have to do this now.”

He’s right, though. If you’ve found yourself in a personal finance situation where everything falls apart if you lose your job tomorrow, fixing the problem is urgent. You’re being utterly held hostage by your job and by Lady Luck. Too many people find themselves in this situation and view it as normal.

If you lost your job tomorrow and had the engine fall out of your car the day after that, could you survive for three months without work and still hit all of your bills and get that car on the road? If the answer’s no, it is urgent. You’ve got to change something.

Baby Steps?
Dave lays out the importance of baby steps for pretty much any major life initiative, on page 93:

They way you eat an elephant is one bite at a time. Find something to do and do that with vigor until it is complete; then and only then do you move to the next step. If you try to do everything at once, you will fail. If you woke up this morning and realized you needed to lose 100 pounds, build your cardiovascular system, and tone your muscles, what would you do? If on the first day of your new plan you quit eating, run three miles, and lift all the weight you can lift with every muscle group, you will collapse. If you don’t collapse the first day, wait forty-eight hours for the muscle groups to lock up and the cardio to go crazy, and you will be bingeing on food shortly thereafter.

I’ve written about this phenomenon on my personal blog, where I sometimes write about the challenges I face getting in shape. It’s absolutely true: you’re far better off taking steps that are too small than steps that are too big, because those giant steps are the ones that are likely to make you trip and fall.

This basic idea applies to anything you want to do in life. Want to be a writer? If you get up and start in on a schedule of pumping out 4,000 words a day, you’re going to burn out quickly. Instead, just practice the craft and write short things. My writing practice, to tell the truth, is often on Twitter – can I get across an interesting idea in 140 characters? Doing so improves me as a writer.

Want to be a golfer? If you start playing 72 holes a day, you’re going to get sick of it fast (and probably tear something). Instead, just focus on smaller tasks – go to the driving range for two buckets. Build your skills slowly and don’t burn out.

It’s true over and over again: baby steps work. I think the big reason people don’t do this is that they want results now and then they way overdo it, undoing any good they might have done.

The Power of Clear, Written Goals
Written goals are vital at every stage and in every aspect in life. From page 98:

Brian Tracy, motivational speaker, says, “What does it take to succeed on a big scale? A tremendous God-given talent? Inherited wealth? A decade of postgraduate education? Connections? Fortunately for most of us, what it takes is something very simple and accessible: clear, written goals.” According to Brian Tracy, a study of Harvard graduates found that after two years, the 3 percent who had written goals achieved more financially than the other 97 percent combined!

Writing down your goals makes them real – and makes them powerful.

I’m going to admit something here, something fairly goofy. I usually have somewhere between five and ten personal goals going at any one time. Each of them are very action-specific: “I am going to run a 5K by the end of the year.” “I’m going to write a truly great book.” … and so on.

Each day, I write down each of those goals, pen on paper. Seriously. Doing this every day hammers those goals into my mind and I see those goals in every action I do. Three of my goals are health-related right now and I can’t help but see them when I make a decision about what to eat or what to drink. I look in the fridge, the goals float through my mind, and I choose a spinach salad for lunch instead of a grease-filed choice.

It works. Without this, I wouldn’t have made The Simple Dollar work. I wouldn’t have written a book last year, and I wouldn’t have been well into writing another book this year. I wouldn’t be able to read two challenging books a week. I wouldn’t be a good father – or at least not as involved as I am.

Get Current
There’s a big baby step before you dive in on the $1,000. On page 101:

Before we get to Baby Step One, you will have to do one other thing. You will have to be current with all your creditors. If you are behind on payments, the first goal will be to become current. If you are far behind, do necessities first, which are basic food, shelter, utilities, clothing, and transportation.

If you’re behind on your bills, you have to get caught up before doing anything else. Doing anything else puts the cart completely before the horse.

Many people think it’s “impossible” to get current once they reach a certain disastrous level. That’s usually not true, but you’ve got to be proactive. Call up the people you owe that you’re late with and start negotiating. They’re going to listen because it’s in their best interest to listen – if they don’t, they’re not going to get anything out of the money they owe you if you run away or declare bankruptcy.

No situation is impossible, particularly if you’re willing to step up to the plate and try to take things on head first.

Baby Step One: Save $1,000 Cash As a Starter Emergency Fund
Why $1,000? Why not dive into paying off debts? Dave makes a good case for emergency funds on page 102:

It is going to rain. You need a rainy-day fund. You need an umbrella. Money magazine says that 78% of us will have a major negative event in a given ten-year period of time. The job is downsized, rightsized, reorganized, or you just plain get fired. There’s an unexpected pregnancy [...] Car blows up. Transmission goes out. You bury a loved one. Grown kids move home again. Life happens, so be ready. [...] Now, obviously, $1,000 isn’t going to catch all these big things, but it will catch the little ones until the emergency fund is fully funded.

One of the most frequent things I hear from readers is that they don’t see any reason to not use their credit card as an emergency fund. “I have tons of credit left, so that’s my emergency fund,” they’ll say.

Here’s the problem with that: credit is not cash. Your credit line is completely at the mercy of the credit card company. Sometimes they slash credit limits. Sometimes they outright cancel cards. These things often happen right at the moment when you’re in trouble and most “need” that limit.

On the other hand, cash is constant. A big company can’t take your savings away from you on a numerical whim. If everything goes bad, your credit cards can go poof – but if you’ve saved up an emergency fund, it’s there for you.

What Isn’t an Emergency?
Another “problem” is that people substitute irregular bills for emergencies. On page 104:

Most of America uses credit cards to catch all of life’s “emergencies.” Some of these so-called emergencies are events like Christmas. Christmas is not an emergency; it doesn’t sneak up on you. [...] Your car will need repairs, and your kids will outgrow their clothes. These are not emergencies; they are items that belong in your budget. If you don’t budget for them, they will feel like emergencies.

An expense that you know is coming isn’t an emergency. You know that your car will need maintenance, so an oil change or a minor repair isn’t an emergency. You know your father’s birthday is coming up, so a gift isn’t an emergency.

The real problem here is information management. I think many people wind up treating expected things as emergencies because they simply lose track of that information. They forget that their father’s birthday is coming up, so they don’t put aside cash for it. They forget that their car needs regular maintenance.

What’s the solution to that? Dave points to a budget, but I don’t think that’s really enough for many people. I suggest using a calendar – if an irregular bill is coming up, write it on the calendar. Even better, write a reminder a few weeks ahead of it on the calendar, too. This way, you can see that irregular expense coming and can plan for it instead of going “OH NO!” on the day of the event and just throwing plastic at it.

Get It Fast
On page 105:

Twist and wring out the budget, work extra hours, sell something, or have a garage sale, but quickly get your $1,000. Most of you should hit this step in less than a month. If it looks as though it’s going to take longer, do something radical. Deliver pizzas, work part time, or sell something else. Get crazy. You are way too close to the edge of falling over a major money cliff here.

You’ve got to get hardcore, in other words. I think this works well for a short-term burst – like getting that $1,000 – but it’s not sustainable because to do it you have to upset the apple cart on a lot of behaviors and routines in your life – and that runs completely contrary to the idea of taking little steps.

For me, selling things worked well for this step. I had a big, fat DVD collection full of movies that I rarely watched, so I sold most of them off. I had a ton of video games that I either didn’t enjoy or had already defeated, so I sold them all off. I had a lot of CDs that I knew I’d never listen to again – off they went!

Those moves not only gave me that emergency fund, but it also kicked out some of the debt that was floating around. Even better, it freed up a lot of room in our tiny apartment – eliminating a bunch of non-decorative stuff that just caught dust did wonders for things!

On Saturday, we’ll tackle the seventh chapter – The Debt Snowball.

This is the fourth of twelve parts of a “book club” reading and discussion of Dave Ramsey’s The Total Money Makeover, where this book on debt reduction is teased apart and looked at in detail. This entry covers the fifth chapter, finishing on page 92. The next entry, covering the sixth chapter, will appear on Wednesday.

The first five chapters of The Total Money Makeover don’t actually address Ramsey’s plan at all. Instead, it’s mostly an argument against culture, mostly the idea that the easy availability of debt in our modern life is a serious problem.

I agree with Ramsey in that regard, but I usually find that the root of it is deeper: a lack of personal finance education mixed with a prevalence of awful messages about ourselves delivered by the media. Think about it: did you learn anything about personal finance in school? Also, think about the ads you see – don’t they portray the people in those ads as being somehow better than you?

Together, that’s some awful medicine. Dave, in his own way, takes on both of those factors in this chapter.

Ignorance Isn’t a Four Letter Word
We live in a culture that rewards intelligence and knowledge, and often ignorance is seriously derided when it shouldn’t be. Dave spells it out pretty well on page 78:

In a culture that worships knowledge, to say ignorance about money is an issue makes some people defensive. Don’t be defensive. Ignorance is not a lack of intelligence; it is a lack of know-how.

The idea that ignorance is not a lack of knowledge is vital. Intelligence is the ability to take the knowledge that you have and put it together in interesting ways. Intelligence shines when you read two articles on only vaguely related subjects and are able to put together a completely new idea from those two articles. Intelligence does not mean that you’ve got tons of knowledge in your head. In fact, I’d often make the opposite observation – many of the most intelligent people I know continually respect how little they know and how much they do not know.

I’ll use myself for an example. I don’t know much about world history. I don’t know much about physics. I don’t know much about high-level athletic training. I don’t know much about fixing cars. I don’t know much about plumbing. I don’t know much about complex mathematics. There are countless other areas that I’m willing to admit ignorance in.

Ignorance can be overcome, though. If I so chose, I could spend some time educating myself on plumbing with a good do-it-yourself book or two and some time around the pipes. I could learn more about physics by reading up on the subject and perhaps taking some coursework on it. I could learn more about working on cars by simply trying it. Hard work overcomes ignorance every time.

It’s not shameful to admit you do not know everything – no one does. In fact, I’d argue the opposite – pretending you know everything when you do not is dangerous and harmful to yourself and to others. This same exact logic applies to personal finance – it’s fine to admit that you’re ignorant about money. What’s dangerous is when you choose not to admit it – or you delude yourself into thinking that you truly aren’t ignorant about it.

Overcoming Ignorance About Money (or Anything Else)
Dave’s recipe for overcoming ignorance matches up well with my own feelings on the topic. On page 79:

Overcoming ignorance is easy. First, with no shame, admit that you are not a financial expert because you were never taught. Second, finish this book. Third, go on a lifetime quest to learn more about money. You don’t need to apply to Harvard to get an MBA with a specialization in finance; you don’t have to watch the financial channel instead of a great movie. You do need to read something about money at least once a year. Your actions should show that you care about money by learning something about it.

This really is a strong formula for overcoming general ignorance on a subject. It will not make you a world-beating expert, but it will give you the background you need to actually make that topic work in your everyday life.

Let’s translate it a bit. Pick a topic you’d like to not be ignorant on, then do as follows.

First, with no shame, admit that you are not an expert on that topic because you were never taught or were taught poorly. Second, read a general book on the topic. Third, go on a quest to learn more about the topic. You don’t need to apply to Harvard to get an advanced degree in the topic; you don’t have to watch documentaries or read piles of dry books instead of watching a great movie or reading a fun book. You do need to read something about the topic at least once a year. Your actions should show that you care about the topic by learning something about it.

Sounds like a recipe for getting up to speed to me!

What’s Expected of Us
On pages 81-82:

Peer pressure, cultural expectations, “reasonable standard of living” – I don’t care how you say it, we all need to be accepted by our crowd and our families. The need for approval and respect drives us to do some really insane things. One of the paradoxically dumb things we do is to destroy our finances by buying garbage we can’t afford to try to make ourselves appear wealthy to others.

I fell into this trap big time before my financial turnaround. I constantly tried to buy things to impress others. I’d pay for a huge group to go out to eat. I’d buy gadgets I didn’t even really want simply because it was impressive to have an amazing item. I had to always have the “latest” of everything.

Now? I realized that people didn’t like me because I had the latest things or because I bought dinner. They liked me because I was me. Sure, there were a few hangers-on who didn’t want to hang out with me any more because I wasn’t engaged in whatever activity they were obsessed with, but what was that friendship, really, if that happens?

In fact, it became easier to relate to people once I realized this. I was no longer worried about saying the right thing, having the right thing, or keeping up appearances. People wanted to be around because I was me – and that’s all I needed.

Who cares what the Joneses have? I can either be me, or I can be me with a car I don’t really want and a debt burden making me sad.

What’s Your Jaguar?
I really liked the tale Dave told about owning a Jaguar, starting on page 86:

I had the eye of my heart set on a Jaguar. I “needed” a Jaguar. What I needed was for people to be impressed with my success. What I needed was family raising an eyebrow of approval based on my ability to win. What I yearned for was respect. What I was so shallow to believe was that the car I drove gave me these things.

My Jaguar was food. I felt a constant desire to take people out to eat at my favorite restaurants – often very expensive ones. I’d take my parents out. I’d take my friends out. I’d seek out really expensive amazing places and tell the waiter to just give the whole bill straight to me. I’d tip really big right in front of everyone.

Doing this made me feel like I was important and that I was earning respect. What I found was that mostly I was just making the other people feel sort of awkward. They weren’t there to be shocked by my largesse – they were there because they wanted to go out for a nice evening with someone whose company they enjoyed.

Guess what? I stopped paying for meals for others. Guess what else? Whenever I ask any of my family or friends to actually go out to eat – something I don’t do too often any more – they’re still quite happy to accept and quite happy to fit the bill. In fact, they may be happier – they don’t have that vague sense of discomfort they used to get when I’d grab the bill and throw down the plastic.

The American Nightmare
If you’re jealous of what others have, put yourself in their shoes for a moment. Do you think they are actually able to afford what they have? On page 83:

They present the perfect picture of the American dream that has turned into a nightmare. Behind the perfect hair and the French manicure, there was deep desperation, a sense of futility, an unraveling marriage, and disgust with themselves.

The people that you’re jealous of often have had to make huge sacrifices to get the things you want. The fancy car? It’s often paid for with a huge pile of debt. The amazing career? That person spent a lot of sleepless nights cutting their teeth to get there – and likely has sacrificed a strong relationship with the people around them to get it. That perfect marriage? It’s likely either the result of a lot of maintenance or it’s a facade.

There is no such thing as a free lunch in life. The people that have those things that you’re jealous of have often paid dearly for those things. When you peek behind the mirror a bit, you’ll see the cost they paid – and are likely still paying – to get there. And, quite often, when you look at things as a whole, you find a balance of affairs that you don’t want yourself.

That’s why I gave up so much spending. I once thought I couldn’t imagine life without lots of trips to bookstores and game stores and coffee shops. At the same time, though, I was up at night sick with worry about my debts and leashed to a paperwork-filled career. I had those little oases of seeming happiness, but they were surrounded by lots of unhappiness. If you saw me out and about at the bookstore or at the coffee shop, you might have been jealous – look at that guy with the armload of books and the smile on his face?

But if you saw the worried guy, sitting there writing computer code at eleven at night, then not sleeping at two in the morning because he was worried about the bills… then you might get a different picture of things.

A Useful Lesson from Twelve-Step Programs
On page 91, Ramsey points out a worthwhile lesson from twelve step programs:

The Twelve Steppers have it right. They say, “Continuing to do the same thing over and over again and expecting a different result is the definition of insanity.”

If you’re trying to succeed in life – or in some specific aspect of life – and you keep failing at it or never getting anywhere, you probably need to change your approach.

Obviously, Dave is referring to money issues here. If you keep doing the same things you’re doing and you’re not getting ahead financially, you need to make some changes.

But it’s true for everything. Let’s say you’re a writer and you’ve finished a book. You’re trying to get it published but you’ve received twenty rejection letters. You need to change something. Why not give away the book in bite-sized increments? Why not chunk it down into 1,000 word segments and blog the entire book? Why not put that book aside for a while, write something new, and look at it later? The key here is that what you’re doing isn’t working, so you need to try something else. Getting a steady stream of rejection is never the road to success.

On Wednesday, we’ll tackle the sixth chapter – Save $1,000 Fast.

The idea of debt snowballing is a popular one: it pushes you to get rid of your debts and get on a financially stable playing field, plus it encourages you to behave in a frugal fashion because you’re setting aside such a large, steady block of money each month to eliminate those debts.

What’s a debt snowball? From an earlier post:

A debt snowball (or similar arrangement) is simply a debt repayment plan that specifies the order in which you should pay off your debts. Typically, there is some logic in the order – in Dave Ramsey’s original debt snowball, the debts were ordered from smallest to largest, for example. You then add up the minimum payments for this snowball, add an additional amount to that total, and then treat that dollar amount as your “debt bill” for the month.

From this “debt bill,” you make the minimum payments on all of your debts, then use the remainder to make extra payment on whichever debt is on top of the list. When that one is paid off, you don’t reduce the total of your “debt bill” – instead, you just have a larger remainder to tackle whatever debt is now on top of the list. Eventually, you’ll be using the whole “debt bill” amount to tackle that final debt – and it will melt away quite quickly.

The concept of the “debt snowball” was first popularized by the radio host Dave Ramsey, and his plan is probably best described in his excellent book The Total Money Makeover.

But, as I mentioned before, there’s a big problem with the whole debt snowballing idea and that’s security.

Debt snowballing requires you to roll a large amount of your income each month into debt repayment, and if you get through the entire plan without any problems, it works like a charm. But life rarely works that way. People lose their jobs. People switch careers. People have children unexpectedly. People fall in love and get married. People get hit by trucks. Things happen, in other words, and if you’ve tied up all of your money in getting out of debt and left almost nothing liquid for yourself, those things can really derail your dreams.

So here’s my alternate plan, one I’ve been using for the last two years to handle larger debts. Instead of paying extra debt payments each month, I instead roll a certain amount each month into my emergency fund savings account. When I have enough in that emergency fund account to pay off my next debt and leave enough in the emergency fund so that I’m comfortable (six months’ worth of living expenses), I pull that cash out and pay off the debt. I’m actually pretty close to doing this right now to pay off one of our outstanding debts.

I tried other plans for a while because this plan does have flaws, but the benefits of doing it this way kept bringing me back. Here’s how both sides of the coin look.

A debt snowball savings account offers more security Instead of having your cash wrapped up in extra debt payments, it’s easily available in cash form from your savings account if you need it for an emergency. Lose your job? It’ll be much easier to survive with cash in the account than with lower debts. The same goes for almost every kind of emergency you can think of – having the cash is much better than having lower debt.

A debt snowball savings account offers more life possibilities Similarly, with the money available to you, you have much more freedom when it comes to making choices about your life. Want to switch careers or have a child? You’re not lashed to the debt snowball routine, giving you room to make these choices without sweating it.

A debt snowball savings account slows your net worth improvement Financially, this method isn’t nearly as effective as actually paying down the debts. The 3% you might earn in a savings account is far lower than the 7% or more you’d get from eliminating debts. That difference adds up to a lot of money over time.

A debt snowball savings account makes it easier to spend If you have a big wad of cash just sitting there, it’s easier to talk yourself into spending a little bit more. The debt snowball savings account requires you to have plenty of diligence and discipline; if you don’t, it won’t be very effective.

For me, the net balance is a positive for the savings account. It enabled me to switch careers and have a second child without sweating every dime. Since I have some degree of discipline (I’m far from perfect, but we are spending far less than we earn), I’m not tempted to tap into the money. The only part that itches at me is the loss in net worth growth, but I view it as almost being a form of insurance, and that slower growth is the fee I’m paying for this insurance against whatever may come.

The balance on the whole may be different for you. Give it some thought and come to your own conclusions based on your own situation. For example, if you’re single and are more concerned about financial independence than anything else, a normal debt snowball may be the highly preferred choice.

In a recent discussion about why I’m looking at paying off debt in the short term over investing, a reader mentioned Dave Ramsey’s book The Total Money Makeover, which basically encourages everyone to follow these seven steps to financial freedom:

1. $1,000 to start an emergency fund
2. Pay off all debt (except the home) using a 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 by investing

These steps were debated rather vigorously in the comments, with some people thinking that these were a great idea and others discarding them as rubbish. I thought I would give my general thoughts on them, especially as they apply to our personal situation.

First of all, in April 2006 we were at step zero on this plan. We hadn’t done any of these, a few of our bills were late, and we were feeling rather desperate. The culprit? Overspending.

Since then, we built up our $1,000 emergency fund, paid off all of our debts except our student loans and our mortgage, moved into a house, got four months’ worth of living expenses built up, started putting more than 15% into our retirement plans, and started a well-funded 529 for both of our kids. In other words, we completed steps one, three, four, and five of Dave’s plan, and largely completed step two (we still have a few student loans, but no consumer debt).

Thus, my real decision was between jumping ahead to Dave’s seventh step or going back and finishing up step two and working on step six. I think that most people would agree that steps one through five make a lot of sense – build an emergency fund, get rid of all of your high-interest debt, build a strong retirement plan, and fund college for your children. After that, it gets a little bit hairy.

For the long term, it usually makes sense to jump into investing at that point, if your only debt is your mortgage (in our case, we lumped student loans in with the mortgage because they’re fixed rate loans below 8%). With a time horizon of better than ten years, making minimum payments on your loans and investing for the long term will net you more money.

However, investing first assumes that you are not considering any significant lifestyle changes and are planning on steady income. The rules change in our case, because we are strongly leaning toward a stay-at-home option for one or the other of us. Thus, even though we have a long time horizon, our shorter-term goals (being a stay-at-home parent for a short period) have more urgency than our longer-term goals – our children are only young once, and when they’re in school, we both plan on working again. We still plan on looking for that country estate, but it’s worth it to us to push it off for a few years so we can provide a strong personal foundation for life for our children.

Because of that, focusing on debt reduction, as per Dave’s plan, makes more sense to us. It reduces our monthly bills by a significant factor (eliminating all of the student loans before one of us stays at home will reduce our bill load quite a bit) and our “investment” in debt repayment does pay 7-8% guaranteed (depending on the interest rate of the student loan).

So what about Dave? Dave Ramsey’s plan is a brilliant starting point, particularly if you’re completely unsure about what to do with your financial situation, but it is not gospel. Different situations require different plans – there is no “one size fits all” financial planning solution. If someone tries to sell you one, run away fast.

The debt turnaround that my wife and I experienced over the last year and a half opened this door for us. Without really discovering frugal living and the value and need to get out of debt, we would never be in a situation where we could realistically consider one of us making a major life change. Regardless of the decision we make here, our foundation is far, far more solid than it was eighteen months ago.