2010 is here - how do your personal finances look? A new year brings new resolutions, health and fitness are notorious resolutions, but some might be centered around financial fitness. The best-selling author and founder of Financial Peace University, Dave Ramsey offers some sound advice starting with his Seven Baby Steps to your financial freedom journey.
1. Save for your $1,000 emergency fund
Emergencies come up in various forms throughout the year and without a cushion many of us have turned to our fail safe plan, credit cards. No more borrowing to include small loans, payday loans etc. By creating and implementing a detailed budget it will be easier than you think to stash away $1,000.
2. Pay off all debt using the debt snowball
List your debts, excluding the house, in order. The smallest balance should be your number one priority. Ramsey’s reason behind the debt snowball makes sense: You need some quick wins in order to stay pumped up about getting out of debt! Paying off debt is not always about math. It’s about motivation. Personal finance is 20% head knowledge and 80% behavior. When you start knocking off the easier debts, you will see results and you will stay motivated to dump your debt.
3. 3 to 6 months of expenses in savings
After completing the first two baby steps, using your extra cash will quickly help build your full emergency fund. Ask yourself, “What would it take for me to live for three to six months if I lost my income?” Your answer to that question is how much you should save.
Use this money for emergencies only: incidents that would have a major impact on you and your family. Keep these savings in a money market account. “Remember, this stash of money is not an investment; it is insurance you’re paying to yourself, a buffer between you and life”, says Ramsey.
4. Invest 15% of household income into Roth IRAs and pre-tax retirement
When you reach this step, you’ll have no payments - except the house -and a fully funded emergency fund. Now it’s time to get serious about building wealth.
Ramsey suggests investing 15% of your household income into Roth IRAs and pre-tax retirement plans. He doesn’t recommend more than that because the extra money will help you complete the next two steps: college savings and paying off your home early.
5. College funding for children
By this point, you should have already started Baby Step 4 - investing 15% of your income - before saving for college. Whether you are saving for you or your child to go to college, you need to start now. In order to have enough money saved for college, you need to have a goal. Determine how much per month you should be saving at 12% interest in order to have enough for college. If you save at 12% and inflation is at 4%, then you are moving ahead of inflation at a net of 8% per year!
“The best way to save for college is with Education Savings Accounts (ESAs) and 529 plans”, says Ramsey. “Remember, college is possible without loans.”
6. Pay off your house early
Now it’s time to begin chunking all of your extra money toward the mortgage. Could you imagine going through life without a house payment? Did you know that making only one extra house payment a year cuts years off your mortgage? As you attack this last debt, you will gain momentum much like you did back in the second step of the debt snowball. “Remember, having absolutely no payments is totally within your reach”, says Ramsey.
7. Build wealth and give!
Dave Ramsey is a big proponent of leaving an inheritance for the future generation and giving to others. Whether it is your favorite charity, or the local church, giving back to others will be easier than ever before when you aren’t weighted down with any debt.