Everyone who reads Own The Dollar should know that I am a big fan of Dave Ramsey and his radio show. For over a week earlier this month, I reviewed the seven steps of Dave Ramsey’s guide for getting out of debt and building wealth through his book, “The Total Money Makeover“. I broke each of his baby steps, as he calls them, down into separate posts and dissected each one of them. In case you missed it, you can find more details about completing each one below.
- Step One: Save $1,000 for an emergency fund
- Step Two: Use the debt snowball method to pay off your debt
- Step Three: Complete the emergency fund
- Step Four: Invest 15% for retirement
- Step Five: Save for your children’s college
- Step Six: Pay off your mortgage
- Step Seven: Start building wealth
Now, I wanted to share with you a few reasons why you should take Dave Ramsey’s investing advice with a grain of sand. He is without a doubt the “get out of debt” guru everyone heralds him to be. But, some of his investing methodology leaves many people shaking their heads in confusion and caution.
A few things to consider…
Actively Traded vs. Index Funds. Dave Ramsey always recommends seeking out a higher rate of return through actively traded mutual funds with fund managers. He says that you should be able to earn about a 12% return on your investment through good, growth stock mutual fund. He is technically right. You can find some mutual funds with those kinds of rates of returns over a long time horizon. While not common, it is doable. The real trouble is finding which mutual funds he is referring to. To do that, he recommends you seek out an endorsed local provider.
Endorsed Local Provider. Now, you should understand right up front, that these investment advisors pay Dave Ramsey a finders fee every time one of his listeners goes to them for advice. Contrary to normal financial planning advice that is dispensed these days, Dave Ramsey recommends commission-paid advisors rather than fee-only advisors. Many investors have shied away from using commission based advisors because of a potential conflict of interest. Commission based investment advisors make money when they trade for you in your account. Buying and selling stocks and mutual funds for you is what generates them income. With fee based financial planners, there are only flat fees paid by the investor which are usually a percentage of your overall portfolio. The catch is that with a commissioned-based broker, the referral fees don’t have to be disclosed to the customer. You will not necessarily know that Dave is getting paid by the advisor because they do not legally have to tell you. But, a fee based advisor, like a registered investment advisor, would have to disclose that up front.
Withdrawal Rate Too High. In his book, Dave Ramsey recommends a withdrawal rate of up to 8% of your investment nest egg each year during retirement. That is too much. Most financial planners and the financial planning community recommend a more conservative rate of 3% to 4% annually increased each year to keep up with inflation. This has been shown through statistics and modeling to be the most likely way to keep from outliving your money in your Golden Years.
While everyone cannot be perfect, Dave Ramsey is still the leader in teaching people how to get out of debt and begin living the life that we all have dreamed about. I would absolutely say that helping get people out of debt is Ramsey’s competitive advantage. It is what he is most passionate about. Although he is very qualified to talk about other aspects of financial planning, you should take what he says with a grain of salt and do your own research as well. Ramsey even tells his audience to invest, not because he said to or in investments that he recommends, but to invest in what you know and to learn the “why” behind the investments. If you wanted to see even more discussion on this topic, you should check out The Oblivious Investor and his breakdown of Ramsey’s investment advice flaws. It is a great read with some excellent comments and discussion!