Live like no one else so that later you can live, and give, like no one else. ~Dave Ramsey 

Welcome to RetireMentorship, Your Mentor To and Through Retirement. I am your host, Freeman Linde, Certified Financial Planner®. 

Today we ask the question, “Is Dave Ramsey Wrong?!” The popular radio show host and personal finance teacher has a lot to say about money, some of which earns him a lot of flack from other financial professionals. Some would say he’s misguided; others contend he is plain wrong. 

Is he? Or are his detractors wrong? That’s coming up on the RetireMentorship Podcast.

First, the RetireMentorship Two-Min Tune-In. The primary points of the podcast in two minutes. 

Dave Ramsey is known for many teachings on money and his fiery personality and entertaining style. Much of what he says is not controversial, and no one would argue with him on those points. But other statements and beliefs and drawn criticism. Let’s look at five statements that Dave Ramsey teaches that draw criticism. We’ll call them the “Ramsey Rules.” And for each, we will see who is wrong: Dave or his Detractors. 

Ramsey Rule 1. Pay off debt instead of leveraging lower interest to build wealth. 

Detractors include lenders and creditors, who’d like you to keep your debt, and investment professionals, who’d prefer you invest with them instead of putting that cash flow toward debt. Who wins? 

Dave Ramsey is the first to put points on the board. We’ll explore why, for the vast majority of Americans, the rule rings true. Even with the math on their side, the Dectractors lose. 

Ramsey Rule 2. Use a debt snowball, paying off your debts in the order of smallest to largest balance, instead of by highest to lowest interest rate. 

Detractors include “Econs” (people who always think and act rationally and logically, like Spock) and those who still think math is more important than behavior. Who wins?

Dave wins this one by a mile. By a mile! It’s not even close. Stay tuned for why.

Ramsey Rule 3. Investing in a good growth stock mutual fund will earn you 12% annual returns. 

Detractors include permanent life insurance agents who seek to reduce the positive impacts of equity investing. They also include all investment advisors and academics who have studied long-term investing at all. Who wins?

Decidedly not life insurance agents or anyone else seeking to scare people away from the markets. An important point, and I’ll explain why. But ignoring them, I’d say Dave Ramsey is wrong. Points to the Detractors. But not as many as you would think. 

Ramsey Rule 4. You need ten times your income in investments to retire and can withdraw 8% per year. 

Detractors include Certified Financial Planners, retirement planners, investment advisors, academics, and everyone else. Who wins?

Detractors. By a mile. This “rule” is the only thing Dave Ramsey says where I vehemently disagree. Thankfully, he doesn’t say it often, and no one would consider it a core tenet of the Dave Doctrine. But for anyone who does believe and follow it, they are in for destruction. 

Ramsey Rule 5. Always avoid void cash value life insurance, and get 10-12 times your income in level term life insurance.

Detractors include, obviously, life insurance companies and agents who make far more money on the sales and payment of cash value or permanent life insurance than on Term. They also include some financial planners and thoughtful strategists. Who wins?

Dave wins on the permanent point but could use some refinement on his term recommendations and his “always.” 

We’ll explore all of these in-depth on the RetireMentorship Podcast. This is part one of two. We’ll lay some groundwork and cover Ramsey Rule 1 today and tackle the next four next week. If you’re subscribed, you’ll automatically get part two in your podcast player of choice. 

Is Dave Ramsey Wrong?! Part 1

If you don’t know who Dave Ramsey is, I’m not sure where you’ve been. He has one of the longest-running and most popular financial radio programs in the nation, has several best-selling books, and a very successful personal finance class. 

He has lots of memorable quotes and teachings. Some of his statements include:

“We buy things we don’t need with money we don’t have to impress people we don’t like.”

“A budget is telling your money where to go instead of wondering where it went.” (Originally by John Maxwell.)

“You must gain control of your money, or the lack of it will gain control over you.” 

“Those who don’t manage their money will always work for those who do.”

“Give every dollar a job, on paper, on purpose, before the month begins.”

“Act your wage.” 

He’s also known for being gentle and teaching with many who call into his show looking for genuine help and then absolutely lambasting others who need some tough love. 

As a listener to these two episodes, you probably fall into one of three categories with your relationship to Dave Ramsey. 

1. Raving Fan

You’re subscribed to his podcast. You’ve taken Financial Peace University. You’ve read the book. You’re working the baby steps. You’re tuned in either to confirm that Dave Ramsey is right about everything or to catch me in the act of heresy: blaspheming against Dave. (You are, after all, on a first-name basis.)

2. Casual Observer 

You have heard some of what Dave Ramsey says, and it seems to make sense. You’re trying to do some of it, but maybe you’re not doing all of it. You find the “rice and beans” part difficult, and some of his other teachings don’t seem to apply to you. You’re curious what this is all about. 

3. Murderous Detractor

Okay, not that you would actually murder Dave. But you sure would appreciate it if he would just shut up! Or at least, stop talking about X and get back to talking about debt and budgeting. If you’re in this camp, you’re probably a life insurance agent or a financial services rep that works for an insurance company (that also provides investments). You’re tuned in because you were hoping the answer to the eponymous question would be a screaming “Yes! Dave Ramsey is wrong!”

Where do I stand? Let’s get my biases out into the open right away.

I am grateful to Dave Ramsey and the message he delivers. I first got “hooked on finance” when I read his book, The Total Money Makeover… in one sitting. Couldn’t stop. That’s when it first clicked for me. “Wow, you can do a lot with money when you know what you’re doing.”

I’ve been through the class, listened to his show, and recommend many others to do the same. Overall, I’m a fan of his work. He’s helped many people transform their finances, their lives, and the lives of those around them. It’s pretty spectacular. 

But I’m also not a zealot. I don’t blindly follow or believe everything he says. Most of it has been verified by other sources, so I do believe and follow it. So let’s think critically about some of the things he’s put out there and their veracity.

First, let’s lay down some foundations. You’ll notice at the end that of the five teachings in question, the score ends up tied. This may lead you to conclude that Dave is only half right about everything. Put that notion from your mind. I deliberately chose five questions that would end up half and half. Overall, I think he’s much more right than wrong.

There are three things I think Dave does exceptionally well.

1. Behavior Over Math

You’ll see this theme throughout the questions we explore and the rest of his teaching that we don’t. Dave is far more concerned with what you actually do versus what the math says you should do. Your behavior, born from knowledge and belief, is the most significant indicator of your overall financial health and wealth. More than anything else, even more than teaching on getting out of debt and budgeting, Dave’s focus on behavior is his number one asset. It’s the real secret behind why so many people have been so successful with his method. 

2. Teaching to Believing

I like the way Dave teaches. We talked about this in the Seven Pillars of Victory that you need knowledge and belief to be victorious. And we talked about the dangers of “learning by Googling.” More so than anyone else, Dave Ramsey’s book and class teach people in a methodical and engaging way how to deal with their finances. And he does so in a way that people believe it and act on it. I’ve never met a person who paid the $100 or so for the class, went through the whole thing, and didn’t come out on the other side significantly better off. 

3. Step by Step Plan

If you know me or have worked with me in my planning practice, you know I eschew lengthy and convoluted plans for a one-page financial plan. Actionable steps that you can take to materially change your life, in one page. Dave’s method does the same. First, the principles and action to take immediately: organize, budget, get the right insurance. Start doing certain things and stop doing others immediately. Then, the ongoing plan, the Baby Steps to transforming your life. Excellent.

You’ll see these themes woven into the points that Dave scores on the questions. We’ll also see two themes that lose him points.

1. General Advice for the General Public

Dave is speaking to all of America, across a wide variety of socio-economic backgrounds, spanning an array of temperaments and inclinations, about a plethora of financial topics. That being the case, he needs to give advice that will apply to the largest number of people without addressing all the caveats and the “it depends” situations. The broad rules of thumb can be hard to implement for some and plain wrong for others. This doesn’t mean he should stop saying everything he says. While there are a couple of things I wish he would stop saying, it mostly means you should know if you’re an exception and what the exception is. 

2. Ancient Advice

Say what you want about Dave Ramsey. He stays on message and sticks to his guns. Like a band that has been playing their #1 hit for thirty years, I’m not sure how he isn’t tired of saying the same things in the same way for as long as he has. I’m sure he is tired of some of it, but also still passionate about it! While much of what he says are timeless principles that don’t change, some of it should have been updated over the last two decades and hasn’t been. 

With all that preamble, let’s dive into what we are calling the Ramsey Rules and explore who is wrong: Dave or his Detractors.

Ramsey Rule 1. Pay off debt instead of leveraging lower interest to build wealth.

The Ramsey method is best known for its teaching on getting out of debt, closely followed by his teaching on budgeting. I already mentioned that I think his focus on behavior is the root of his success. But the tree, what everyone sees, is getting out of debt.

No one on earth believes it’s a good idea to maintain credit card debt at 15-30% interest. Even the credit card companies who charge it don’t honestly believe people should continue to rack up credit card debt. Everyone knows it’s dumb and terrible. It’s a great example of why belief and action are superior to knowledge. Everyone knows it. But still, millions of Americans carry credit card debt. 

There isn’t anyone who thinks it is good for people to carry other high-interest debt, such as personal loans or credit lines in the 8-12% range. So we are going to ignore all medium- and high-interest debt in this discussion.

Where the disagreements happen is in the low-interest debt, particularly auto and mortgage debt. Let’s ignore the lender and creditor detractors, banks and credit unions. They have an apparent reason to be opposed to avoiding mortgages and auto loans: that’s where they make all their money.

But what about financial advisors? Many contend that people should keep their low-interest debt. If you can borrow at 3% on a mortgage and make 7-8% with equity investing, you should do that! 

Let’s say you refinance your house and pull $100,000 out of it on a 30-year mortgage at 3%. You then turn around and invest that and make 6% after all taxes and fees. You make $6,000 in gains on the investment in year one. Let’s say you are also paying the mortgage back down with that same investment. So you need to pay the $421 per month mortgage payment. That’s $5,060 per year. So at the end of the year, you’ve made about $1,000 and have $101,000 invested. 

Now that earns you $6,060, not $6,000. After mortgage expenses, you will have another $1,000 to add, and you have $102,000. That earns you $6,120. And it keeps compounding. After 30 years, you have paid off the mortgage and have $148,000 left over. Why would you no do that? 

This is the math argument financial professionals use against Dave. Do it Dave’s way and get nothing. Follow the math and get $150,000. 

Or what about auto loans? Many professionals argue against Dave’s pay-cash-for-cars methodology. They’d recommend against paying cash for cars. If you can save up $500 per month for three years to buy an $18,000 car, then you should instead be investing that $500 per month for those three years. When you need the car in three years, take out a five-year loan at 3% and make car payments of $325. Then you can continue to invest $175 per month while you are paying on the car. If you do the math, you will have more in your investments than if you pay cash for a car. 

The math is on the side of the detractors. So why does Dave win?

In a vacuum, the math does work better, and the detractors do win. But life is not operated in a vacuum.

I believe Dave wins with this rule for two reasons: Behavior and Risk. 

Behavior

The vast majority of American’s are not financially fit. We make poor financial decisions and spend far more than we save, and even more than we make.

Let’s take just one aspect of behavior: Retirement Savings.

The golden rule of saving for retirement is to put 15% of your gross income toward retirement. Most American’s aren’t doing this. Many are not saving at all, and many more are saving only the 3-5% they need to get their employer’s 401(k) match, not a dime more. That’s a far cry from the 15% recommended by the same professionals who advocate car loans. 

One of the main reasons for this lack of retirement savings is the amount of American cash flow going toward debt payments. It’s hard to save 15% of your income when 36% of it is going toward debt. Why 36%? That’s considered a “good” debt-to-income ratio for an auto loan. Even though over a third of your gross income is going to debt, you’re good to go. Some will go as high as 48%. It’s no wonder people aren’t saving 15% for retirement. Half their money is going to debt payments! 

It’s hard to save for the future when you’re still paying for the past. 

Most American’s don’t take out a car loan so that they can leverage a low-interest rate to invest more. They aren’t borrowing at 3% so that they can invest at 7%. They aren’t choosing a payment so that they can increase their retirement savings from 15% to 18%. 

We take out auto loans so we can buy more car than we can afford.

Instead of saving for retirement, we spend on shiny new toys with a new car smell. Detractors can grouse about arbitrage and leveraging debt all they want. And the math may make sense in a vacuum. But in the real world it breaks down.  

People borrow to spend more, not to save more. 

Dave Ramsey’s goal is to get people out of debt so that they actually have enough cash flow to save what they should be saving. He’s after behavior, not math. And unless you are saving 15% of your gross household income into retirement and have as much in retirement as you should to be on track, you cannot argue against this Ramsey’s logic. Those requirements alone will silence at least half of the detractors. 

Okay, that makes sense with auto loans. People don’t borrow to save more; they borrow to spend more. But what about mortgages? Obviously, you can borrow more than you should to buy more house than you should. But what about those who are in a modest home and are saving enough for retirement already? Why not refinance their home, take cash out, and invest it, as we discussed earlier. That brings us to the second reason: Risk.

Risk

I’ll be brief here because I am doing an entire episode on it soon. Subscribe to get that episode in your player of choice. But he’s the basics.

Borrowing money to invest means taking on a fixed obligation for a variable reward. Regardless of what the investment does, how your income changes, your job status, or other life circumstances, you must make the mortgage payment. There is Cash Flow Risk. 

You refinance, but then a recession hits. You lose your job and can’t find another one. You can’t make the payments on the mortgage with your cash flow anymore, so you are forced to pull money from where you invested it. But you’re in the middle of a recession, so the investments are down. You sustain 30% losses on your attempts to make money through refinancing. 

Part of the reason people perform so poorly with their investments over time is that they pull money out when the market is down, turning a temporary decline into a permanent loss. Often it is because of the Fourth Horsemen: Panic. They withdraw because they are scared it won’t come back. 

But many withdraw money because of payments, not panic. They have so much of their cash flow wrapped up in fixed expenses that they cannot sustain changes to their inflows. And when those changes are forced upon them, they must pull from their investments. They don’t choose to pull money from their investments when they are down; they are forced to. 

And if your immediate response to that is, “Well, don’t invest all of it in equities. Invest some in fixed income too so that it will be there when the market goes down.” After fees and taxes, your fixed income will likely earn you less than your interest rate. There is little to no reason to do that. 

Leveraging lower interest rates to invest at higher average returns does not serve you when everything goes down at once. It adds risk. 

Behavior and risk. For those two reasons, points go to Dave on Ramsey Rule 1. 

Again, Ramsey is talking to the masses. This is a “Rule.” And there are some exceptions to the rule.

In my planning practice, I have clients who are saving 20% or more of their income, have a year’s worth of expenses in savings, and do everything else they should be doing with their finances. And they choose to have a car payment because they like to maintain their additional investing. Or they refinance their home and invest it because they can tolerate and support the additional risk. But these people are the exception, not the rule.

There is a big difference between what should be told to one person, based on their life circumstances, and what should be told to everyone in general. On the one hand, we have one person telling the general public that they should pay off all their debt quickly to free up cash flow to save aggressively. On the other, you have people telling the general public they should keep low-interest debt to invest their cash flow. Which they most likely don’t have. 

The vast majority of American’s would be better off following Dave Ramsey than his Detractors. Dave wins round one. 

Ramsey Rule 2. Use a debt snowball, paying off your debts in the order of smallest to largest balance, instead of by highest to lowest interest rate. 

Dave Ramsey teaches that you should pay off all debt to leverage your cash flow to build wealth. We touched on that last week. He also teaches that you should pay off your debt using a debt snowball. 

To use a debt snowball, you first arrange all your debts in the order of smallest to largest balance. Say you have a half-dozen non-mortgage debts: two car loans, a student loan, and three credit cards. The car loans and the student loans are large, and one of the credit cards is a couple thousand, but the other two are a couple of hundred bucks. And both of them are in a zero percent interest introductory period. 

Using a debt snowball, you would pay them off in the order of smallest to largest, even though the smaller ones are zero percent interest. Using this method, you can easily pay off the little ones, the “ankle biters.” By doing this, you get some quick wins, and you begin to see progress. More than that, the minimum payments you used to pay on the little ones can now be thrown into the payment on the next smallest, so you’ll pay that off sooner. And then you roll the payments of all three into the fourth one, and so forth. Your monthly debt payment picks up the payments from the other ones like a snowball rolling downhill. By the time you hit the significant debts, your extra payment snowball is big enough that you can actually see and feel the dents you are making in it. 

The progress people make and the milestones they hit help keep snowballers motivated to continue. The method is 100% focused on behavior, what people actually do, instead of math, what the theory says.

What about the alternative? Many financial professionals argue that Dave is wrong. They argue that you should instead tackle debt according to the highest interest rate first and work your way down to the lowest interest rate. Some call this method the “Debt Avalanche.” While the snowball makes sense as a metaphor, this method has nothing to do with an avalanche. I think the name arose to contrast with the snowball and make it sound superior.

“Oh, you have a snowball? Say hello to my AVALANCHE!”

This is when the professionals will whip out their calculator, or better yet, their spreadsheet, and proceed to show you that mathematically the avalanche is superior. You will pay less interest and complete your debt payoff faster than using the debt snowball. Avalanche baby!

Now seems like an appropriate time to introduce to you our friends the “Econs.”

Richard Thaler is a Nobel Prize-winning economist and the father of Behavioral Economics. The branch of economics studies what people actually do versus what economic models say people should do. He introduced the world to a species called “Econs.”

Econs are a very rational bunch. They always calculate everything they do and perfect weigh all options. If they have emotions, they don’t let them play into their decisions. Econs can always devise a plan based on all available evidence and then follow that plan with perfect discipline and no deviations. Think Spock. Live long and prosper, logically. 

Opposite Econs are the rest of us “Humans.” We humans, unfortunately, have emotions that regularly impact our decisions. We know what the math says, but we want other things instead. We have varying degrees of discipline and willpower, and many of our decisions would not be considered “rational.” 

Thaler calls the Spock-like people “Econs” because it is how most economists think people behave. Most economic and financial models are based on the assumption that humans are essentially rational. They make decisions in their own long-term best interest based on available data. But this is not true, and it is why so many models don’t correctly work in the real world.

Thaler, and others, argue from a behavioral point of view. Behavioral economics and finance consider human nature and what people do. 

It is entirely irrational to buy a brand new car on a seven-year loan that costs more than your annual salary. And yet people do it. It is completely irrational to go out to dinner again and charge $50 to your credit card with a rolling $12,000 balance, racking up $240 per month in interest. And yet people do it. It is totally irrational to buy things you don’t need, with money you don’t have, to impress people you don’t like. And yet people do it.

Back to our snowball versus avalanche: the avalanche sounds good, and the math works better on it. But it does not work with humans because humans don’t work the avalanche. Most humans aren’t excited by spreadsheets. When you made that extra $200 payment toward your debt with the highest interest rate, you saved an extra $10 in interest over making it toward the smallest balance. But you can’t intrinsically see or feel that. The spreadsheet says so, but it doesn’t feel any different to you. And humans make decisions based on what they feel, not based on calculators. 

These financial professionals are stumped when their human clients come back a year after the grand spreadsheet presentation, and they still have as much debt as before. Why didn’t it work? Why couldn’t they see how much money they’re wasting on interest and how much they could save by attacking the highest balance? Because we’re human. 

For us humans, the debt snowball is the preferred method. Most humans make emotional decisions, so the quick wins and fast momentum of a debt snowball work better for them. The debt snowball plan works because humans work the plan. The best camera is the one you have on you, the best diet is the one you stick to, and the best debt payoff strategy is the one you carry to completion. 

You might say that the debt avalanche is for Econs. There are still Econs, after all, existing as a micro minority. At least the debt avalanche can work for them. But here is the problem with thinking that. If you find an Econ, I can assure you they don’t have high-interest debt. They would be too logical and rational to subject themselves to high interest in the first place.

The Debt Avalanche is for no one. The Debt Snowball is for everyone looking to get out of debt. Dave Ramsey is right, and his Detractors are wrong. 2-0, Dave over Detractors.

Ramsey Rule 3. Investing in a good growth stock mutual fund will earn you 12% annual returns. 

Dave frequently tells callers and listeners that they should invest after getting out of debt. He will often take a caller’s current debt payment and show them what it could be if they could invest that until age 65. And the phrase he uses the most is something like, “If you put that payment in a good growth stock mutual fund earning 12%, it will be worth…” 

The numbers are fabulous. Compound anything long enough by 12%, and the result looks and feels fabulous. And it seems effortless. Simply find a “good growth stock mutual fund,” and you can get those returns. How hard can it be?

Right next to impossible, actually. Detractors of Dave point out that you cannot get 12% returns and haven’t been able to get 12% returns for a long time. Specific periods in history got 12% returns, along with 4% inflation and 8% mortgage rates. But long-term return histories do not give you 12%, and no one believes that we will see 12% returns… return. 

So, where does Dave get this 12% return number?

Dave has pointed back to the founding of the S&P 500 index in 1926. It started then with 90 companies and was expanded in 1957 to 500 companies. Dave says that you look at the track record of the S&P 500 since 1926, you will see an average annual return of 12%.

This must have been true at some point; otherwise, why would he try and point to data like that? I’m not sure when it was true. The best fiscal year returns from 1926 that I could find (without looking too hard) were to 2000 before the tech bubble crashed. Those were about 11.25%. Nearly all other years from 1926 amount to around 10% annual returns. 30-year returns from now also give about 10% annualized. 

Moreover, the consensus among economists and financial professionals is that all rates will be lower going forward. Equity returns, interest rates, and inflation are projected to be lower than historical trends, not higher. 

So if the best historical returns we have are 10%, and the consensus as we advance is that returns will be lower than that, why does Dave Ramsey keep using a 12% return rate?

I believe he does it because of behavior. He is trying to get people excited about investing. He wants people to max out their Roth IRAs and 401(k)s. He wants to appeal to their emotions so that they have something to look forward to accomplishing. Using an 8% return to project your outcome may be sufficient to achieve your retirement goals, but it’s not sexy. 12% return outcomes are much more fun to calculate. I may not give up my brand new car for a million dollars at retirement. But five million? I could drive a used car for that!

While I appreciate his motive, I think his message can be dangerous. It becomes the basis for some of his other rules, which we will examine in a moment, but for now, let’s looks at three quick reasons why the message is dangerous. 

1. It Promotes Performance-Chasing. 

Many people who take his message to heart are continually looking for that “good” growth stock mutual fund getting 12%. I’ve even heard Dave say on multiple occasions that it is easy to find funds that have outperformed the S&P 500 and that the index is Average. We covered this at length in Episode 8, How to Be Above Average. If you haven’t listened to that yet, go back and find it or go to RetireMentorship.com/8. But I’ll give you the summary.

The S&P 500 is not average. It has outperformed 92% of actively managed funds, including growth stock funds. Funds that have outperformed in the past are not guaranteed to outperform it going forward. 

Seeking 12% returns, which should be “easy,” prompts many followers to switch funds and try and research others continuously. The date the fund started, or the historical period began, plays the largest role in a fund’s average performance. Two funds with the exact same companies will have wildly different returns if one started in 2007 and the other in 2009 (the top and bottom of the financial crisis). 

As we saw in Episode 4, The Four Horsemen, Chasing Returns is one of the primary reasons many people underperform the S&P 500. In their attempts to beat 10% returns by seeking 12% returns, they get 6% returns. 

You can’t get 12% returns. You never could. Stop trying. 

2. It Causes Contribution-Slacking

Many people compute their savings requirements by first determining what they will need in the end and then working their way backward. To make this calculation, you need to use an assumed rate of return. The number you use for this assumption drastically alters the required contribution.

If you are thirty years old and calculate that you need $5 million by age 60 to retire, you can calculate how much you need to put away between now and then. If you use an 8% return rate, you would need to put away $3,355 per month to achieve that goal. But if you use a 12% rate of return, you only need to invest $1,430 per month. Sweet! Let’s go with 12%. Then I can spend the other $2,000 per month and still feel like I’m on track. 

To be clear, Dave doesn’t advocate for outcome-based calculations. He teaches that you should get out of all debt except your house. Then you should save 15% of your income into retirement. While doing that, you should pay off your house. And after the house is paid off, save as much of that as you can into retirement. It’s not a needs-based approach. 

But people will marry the two in an unholy union. They will take the needs-based approach with Dave’s 12% and find that they don’t need to save 15%. At that rate of return, they only need to save 8%. When they fail to get 12% returns, they will be well short of their goal. Don’t cherry-pick your principles.

3. It Supports Sales-Pushing

I’ve heard and read a lot from financial salespeople who harp on Ramsey’s returns. Their argument to the thirty-year-old: Dave is wrong about 12% returns. It’s more like 6 or 7%. And investing is risky. Therefore, invest in this whole life policy for the next 35 years to get 4-5% returns with no equity risk. 

Now, their argument is dumb and incorrect on many levels. But when they can prove that Dave is wrong on his return assumptions, it casts doubt in the mind of their prospect about what the rest of Dave says. If he is wrong about equity returns, maybe he’s also wrong about whole life… 

He undermines the rest of his message with this flagrant exaggeration and sets people up to be sold. It’s unnecessary. I wish Dave would switch to using 10% returns. They still motivate people to act, achieve his behavioral goal, and at least have the weight of history behind them.

The bottom line, 12% returns are neither historically accurate nor anticipated in the future. In the end, Dave Ramsey is wrong. 

Dave 2, Detractors 1. 

Ramsey Rule 4. You need ten times your income in investments to retire and can withdraw 8% per year. 

Dave Ramsey is wrong. Should we move on? For the die-hard fans who think Ramsey is infallible, let’s take a closer look.

Here is the logic behind this Ramsey Rule. Let’s say you make $100,000 for easy math, and you’re looking to retire in the next few years. So inflation is not going to be a significant factor between now and when you retire. To retire, then, you need $1,000,000. You can then withdraw 8% per year, or $80,000. Social Security will make up the rest. 

Your $1 million will grow by 12%. So you will earn $120,000 in the first year on your investments. If you withdraw $80,000, your portfolio will end out at $1,040,000. The portfolio will earn you about $125,000 the next year at 12%, and so you can withdraw $83,000 from your portfolio comfortably. The amount allows for 8% withdrawals and 4% inflation. As we discussed in Episode 2, you will need your income to increase throughout retirement. 

Let me clarify a few things. To my knowledge, Dave doesn’t talk about this a ton. It’s not a core tenet of the Dave Doctrine. I also am not sure I’ve ever heard him specifically say the “ten times your income” and the “withdraw 8%” in the same sentence. It’s a combination of two separate teachings that he gives. 

I’m also not griping about his ten times your income. We’ll cover that a bit in the next Rule. As with all General Advice to the General Public, “ten times your income” in retirement will be right for some people and fatally wrong for others. It depends on everything else. What I’m attacking here is his 8% withdrawal advice. That advice is catastrophic for most people, and therefore should never be said to the general public. 

I’m glad he allows for inflation and does so generously. You’re far better over-assuming inflation than underestimating it. Too many retirement strategies (i.e., fixed annuities) don’t account for inflation at all or a rise in retirement income. The basic principle that you must withdraw less than your average return to account for inflation is sound.

The Rule is flawed on two points. 

1. Assuming 12% Returns

The 8% is based on getting 12% returns. We just covered that. So I’m not going to re-hash it. You won’t get 12% returns. And if you are trying to withdraw 8% on 10% returns, or worse yet, 7-8% returns, you’re going to have a bad time. 

2. Assuming Average Returns are Annual Returns

This point deserves an entire episode, and it will get one. Subscribe to hear that in the future. For now, just because equities average a certain annual return doesn’t mean they get that each year. They seldom do. 

Over eighty years, the S&P 500 averaged a 9% annual return. How many years did it get a 9% return, plus or minus 2% over those eighty years? In other words, how many years out of eighty did it land between 7% and 11%? Just four. 

Equities rarely equal what they average. 

They go up 18%, then 4%, then fall 30%, then rise 29%, then 14%. Etc. Equities average 9%. They don’t equal 9%. 

When it comes to withdrawals, we get into what is called “Sequence of Returns.” Though equities average a return, the order in which those returns happen changes everything. 

So let’s say your retire, and the first set of returns are all negative. Your portfolio goes down 40% in year one. Now your $1,000,000 is $600,000. And if you still need to take $80,000 out per year, you’re down to $520,000. Even if it surges back 50% the next year, you’re only back to $780,000. Minus your $80,000, with no inflation raise, and you’re still down 30% overall. I’m telling you, the math does not work. And this time neither does the behavior.

They say ten thousand baby boomers retire every day. Three million six hundred fifty thousand people retired in 2007 before the worst recession since the Great Depression. They saw their retirement nest egg get cut in half in 18 months. If they had their full retirement in “a good growth stock mutual fund” because they thought average returns equaled annual returns, they have not yet recovered. 

It’s not a core tenet, but I’ve heard him say it. I once heard him explicitly tell a caller that she could retire in two years because, at 12% returns, she would have enough and could withdraw 8% from that point. Insanity. 

Dave needs to stop this advice altogether. As I said in the Two-Min Tune-In last week, this is the only thing Ramsey says that I vehemently disagree with. It’s dangerous.

Thankfully, he usually tells people to sit down with a SmartVestor Pro to help them figure out retirement. I promise you not one of them is advocating 8% withdrawals.

Dave Ramsey is Wrong. 

Dave 2, Detractors 2.

Ramsey Rule 5. Always avoid void cash value life insurance, and get 10-12 times your income in level term life insurance.

Dave frequently harpoons cash-value life insurance. Whole Life, Variable Life, Universal Life, any of them. As we quoted him saying in the opening line, “Cash-value life insurance is the payday lender of the middle class.”

Permanent life insurance, or cash-value life insurance, deserves an episode until itself. And I’m going to give it one. For now, I’m going to award a winner. And this is not from some asset-gathering investment advisor who has never really looked at life insurance and would rather play with mutual funds than have tough conversations with clients. I’m a financial planner. We look at everything and have tough conversations. And I’ve learned every trick in the book for how and why to sell permanent life insurance. I used to work for a financial services company that manufactured whole life. I know both sides of the argument, forward and backward. 

Dave’s detractors on the cash-value life insurance topic are life insurance companies and their sales representatives. They are the ones in particular that wish Dave would just shut up about life insurance and stick to debt and budgets. They make a lot of money on life insurance, permanent life insurance in particular. And they have a lot of ways to sell it. So who’s wrong, Dave or his Detractors?

Dave is right; detractors are wrong. The vast vast majority of people do not need permanent life insurance. There are a dozen better strategies. Stay tuned for the full episode. It is an important topic, and a lot of people have permanent life insurance policies. If you have one, or if you have a financial advisor who keeps nagging you to add some to your “portfolio,” send an email to Questions@RetireMentorship.com. Put “Permanent Problem” in the subject line and give as much or little detail as you want. I’d be happy to connect with you directly about your circumstance and see if you are an exception to the “vast majority.” Probably not. I’d also consider going back and listening to Episode 5, Five Questions to Ask Your Financial Advisor, and find a new one. 

I will issue one small caveat here if you don’t end up hearing the future episode on the topic. The vast majority of people don’t need permanent life insurance. There is a very slim minority of people who might benefit from it. These people include:

• Multi-millionaires who will be leaving more than $22 million to their children (if they are leaving money to charity, it won’t be an issue).
• People who cannot and will not save a dime unless they are forced to by an insurance bill and who refuse to put together an actual plan or get help from a real planner. 
• People who like high fees, low returns, cannot stand even the slightest volatility in their portfolio, enjoy having a majority of their eggs in one basket, and don’t believe in inflation.
• Those 50 and older who have surplus non-retirement cash lying around and may benefit from a hybrid long-term care solution. 

Stay tuned for that future episode.

The other piece is the buy 10-12 times your income in level term life insurance. I basically agree here. Speaking to the general public, it’s a good rule of thumb. Many people have only one to five times their annual salary in group life insurance. Upgrading to 10-12 times your income is a significant improvement!

The caveat here is that it’s not always 10-12 times. For some people, that will be enough, others too much, and still others not nearly enough! It’s in part based on the 12% returns rule. If you make $100,000 and get $1,000,000 in coverage, that will replace your income forever. And we already addressed that. 

Later, we will do an episode on how much insurance you actually need and how to calculate it for yourself. It will be a two-part episode on insurance to determine the kinds and amounts you need. You only need to look at it once every 5-10 years, but when you do, you should spend more time on it than the amount of time it takes a radio show host to say “ten to twelve times your income.” 

Dave Ramsey is trying to get the broad principle out there as fast and to as many people as possible. The broad principle: “Avoid cash-value life insurance and get 10-12 times your income in level term life insurance.” If that helps a million people avoid being suckered and a million more to get more than one times their annual salary in term, that’s a success. I’m sure he’d allow for some actual calculation for your term needs.

Ramsey is right; the Detractors are wrong.  

Dave 3, Detractors 2.

Let me reiterate that I think the vast majority of what Dave says is helpful and reliable for the vast majority of people. Good as many, better than most. That’s hard to do when you’re talking to that many people. There are only two points that I disagree with of everything he says: 12% returns and 8% withdrawals.  

I have one ask of you. A lot of these topics we are going to cover more in-depth in the future. I want to give you an opportunity to have a direct influence on where we go with it. If you have points to raise, areas I didn’t cover, or positions I didn’t address, shoot me an email at Questions@RetireMentorship.com. Perhaps you share this with your financial advisor, who has recommended whole life insurance to you multiple times, and he gives a convincing rebuttal that sounds good. Send us what he says, and we’ll make sure we address it in that episode. Or you can call a leave a voicemail at 1 (855) 6-MENTOR (1-855-663-6867).

That will do it for us today. Next week we take a peek at the financial pornography network, aka the news, and why it is so devastating to your lifetime success. We’ll see you next week!

This article is educational only and is not intended to be investment, legal, or tax advice or recommendations, whether direct or incidental. Again, this is not investment advice. Consult your financial, tax, and legal professionals for specific advice related to your specific situation. Never take investment advice from someone who doesn’t know you and your specific situation. All opinions expressed in this article are the opinions of the people expressing them. All performance referenced is historical and is no guarantee of future results. All indices are unmanaged and may not be invested into directly. RetireMentorship is not affiliated with any Registered Investment Advisor, Broker-Dealer, or other Financial Services Company.