If you have ever listened to Dave Ramsey on the radio or watched clips from his show on YouTube you may be somewhat familiar with the Baby Steps. At first glance they either look like 1) an over-simplified, underdeveloped idea that seems to bring no new ideas to the table or 2) a lofty aspirational dream that sends you into the fetal position with paralyzing fear over where to begin or how in the world could I ever get past Step Two! Sound about right? Here’s an explanation on how each step works:
Baby Step 1: Save $1,000
for Your Starter Emergency Fund
In this first step, your goal is to save $1,000 as fast as you can. Your emergency fund will cover those unexpected life events you can’t plan for. And there are plenty of them. You don’t want to dig a deeper hole while you’re trying to work your way out of debt!
Baby Step 2: Pay Off All Debt
(Except the House) Using the Debt Snowball
Next, it’s time to pay off the cars, the credit cards and the student loans. Start by listing all of your debts except for your mortgage. Put them in order by balance from smallest to largest—regardless of interest rate. Pay minimum payments on everything but the little one. Attack that one with a vengeance. Once it’s gone, take that payment and put it toward the second-smallest debt, making minimum payments on the rest. That’s what’s called the debt snowball method, and you’ll use it to knock out your debts one by one.
Baby Step 3: Save 3–6 Months
of Expenses in a Fully Funded Emergency Fund
You’ve paid off your debt! Don’t slow down now. Take that money you were throwing at your debt and build a fully funded emergency fund that covers 3–6 months of your expenses. This will protect you against life’s bigger surprises, like the loss of a job or your car breaking down, without slipping back into debt.
Baby Step 4: Invest 15% of Your
Household Income in Retirement
It’s time to get serious about retirement—no matter your age. Take 15% of your gross household income and start investing it into your retirement. Start with your company’s 401(k) plan and invest up to the full employer match. Then invest the rest into Roth IRAs—one for you and one for your spouse (if you’re married).
Baby Step 5: Save for Your
Children’s College Fund
By this step, you’ve paid off all debts (except the house) and started saving for retirement. Next, it’s time to save for your children’s college expenses (that is, if they make it through Algebra II and Chemistry unscathed). We recommend 529 college savings plans or ESAs (Education Savings Accounts).
Baby Step 6: Pay Off Your Home Early
Now, bring it all home. Baby Step 6 is the big dog! Your mortgage is the only thing between you and complete freedom from debt. Can you imagine your life with no house payment? Any extra money you can put toward your mortgage could save you tens (or even hundreds) of thousands of dollars in interest.
Baby Step 7: Build Wealth and Give
You know what people with no debt can do? Anything they want! The last step is the most fun. You can live and give like no one else. Keep building wealth and become outrageously generous, all while leaving an inheritance for your kids and their kids. Now that’s what we call leaving a legacy!