Dave Ramsey believes that by following his Seven Baby Steps people can achieve Financial Peace. Eliminating debt, saving for the future and paying off your home are all financially important goals, but trying to do them all at once will dilute your efforts. The Baby Steps plan works by focusing all your energy--and income--on one of these goals at a time.

Baby Step 1: $1,000 in an emergency fund

You might be tempted to skip this step and jump to paying off your debt, but DON’T. The emergency fund is your ‘Murphy Repellent’; it will keep you on track and out of debt when the inevitable emergency arises.

Some exceptions to the $1,000 limit are allowed. If your income is below average, a $500 emergency fund might be more appropriate; if you are a single income family or have a significantly higher than average income, you may want a larger emergency fund. The goal is to quickly save an amount to handle an average emergency without going into debt.

Baby Step 2: Pay off all debt except the house with the debt snowball

Now is the action step; time to pay off the debt! Dave’s plan has you list all of your non-mortgage debt from smallest to largest. Make minimum payments to all of your debts but the lowest; apply all extra money to pay down this debt first. The math might suggest you pay the highest interest loan first, but, the psychological boost of a few quick wins will keep you motivated to knock out the debt.

When the first debt is paid in full, add the previous minimum payment and all extra money to the next debt. You really start to see the payment grow and your snowball becomes bigger and bigger!

Baby Step 3: Three to six months of savings in a fully funded emergency fund

One of the forum regulars has dubbed BS3 as the beginning of Baby Step You! Your money is now working for you instead of flowing out to creditors.

With this step, you are expanding your BS1 emergency fund to an amount equal to three to six months of expenses. Whether you pick three months, six months, or somewhere in between, and the expenses you include is personal, yet no one complains about saving more than they need.

Much like BS1, this money is to keep Murphy away, and turn emergencies into inconveniences.

Baby Step 4: Invest 15% of your household income for your retirement

Now that you’ve paid your debts and saved up an emergency fund, it’s time to start planning for your future by investing 15% of your family’s income. Dave has recommendations on fund allocation and retirement vehicles, but it is always wise to seek professional advice to ensure you make the best choice for your situation.

Baby Step 5: College funding for children

Once you’re retirement savings is at 15% of your income, it’s time to consider saving for your children’s education. College funding is full of choices: kids can get scholarships, they can work, they can attend community colleges, they can find work/co-op programs, and many other options. The only option off the table in Dave’s plan is student loans. If you plan to pay for some or all of your children’s college expenses, this is the baby step in which you begin to save. Notice that college saving is after your retirement savings; it is important to take care of your own future so you won’t be dependent on your children for a dignified retirement.
Depending on your income and expenses, you may be able to fund BS4 at 15% and save for college funding concurrently.

Baby Step 6: Pay off your home early

Any money left after funding BS 4 and BS5 is applied to your mortgage, because having a paid off home is one of the pillars of Financial Peace.

Much like BS5, BS6 comes after retirement savings because reversing the order could give you a paid for house at the expense of a dignified retirement.

Baby Step 7: Build wealth and give

This final step is the payoff for all your dedication. You’ve paid off all your debt--including your home--and have a great emergency fund. All of the cash flow that used to go toward debt reduction and house payments is now available for you to “live like no one else”!

Following these steps can help you create a financially secure future, regardless of your age or financial well-being today. If you would like a more detailed road map to financial peace, read about the Expanded Baby Steps.

If you are new to Debt Free Fanatics, and want to learn more about techniques for getting out of debt, we encourage you to register and participate in our forums. Our members have been managing their money for years and are happy to offer advice and instruction on how you can manage your money better and get out of debt.
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