Ten Things Dave Ramsey Got Wrong

The other week I finished up a five part series of posts on Dave Ramsey’s Seven Baby Steps. It seems to have been well received and still gets a steady stream of clicks. But honestly, I was expecting a larger and more hostile reaction than I got, at least as measured by comments and emails. Ramsey has a very large and devoted following, particularly, it seems, in the blogosphere.

At least I thought so. Maybe I was wrong about that. Perhaps Ramsey is well liked but not, ultimately, taken all that seriously.

Or maybe I was just a little too subtle in what I wrote. Perhaps when I said that “His advice on higher level personal finance topics such as investing and taxes is weak and often misinformed because his knowledge in those areas is limited” my readers thought I was exaggerating for effect. And perhaps when I criticized him for giving advice “on topics such as investing, about which he should probably just keep quiet” those readers didn’t really think I meant that his listeners would be better off if he didn’t cover those topics at all.

Well, I really meant it. And for what it’s worth, let me share some of what I found on Ramsey’s website that led me to believe he has no business giving advice on several sub-areas of personal finance. All are from the “Ask Dave” section, wherein questions and answers from his radio show are summarized with an audio link. It’s a large database, but must still be only a tiny fraction of all the questions he has answered on his show. We can only assume that they are not a random sample and that Ramsey or his staff thoughtfully selected them as being some of his better work.

I will cite ten examples that suggest that Ramsey has a poor command of his material. Several I have already discussed in previous posts. It did not take me long to find these. I stopped at ten because it was getting tedious.

1. On Roth vs. Traditional: (This from my post on Step 4. Italics are his)

Let’s say you’re 30 years old bringing home $40,000 a year. If you put 15% of that into retirement, that’s $6,000 a year – $500 a month. If you put $500 a month into good growth stock mutual funds that average 12% from 30-70 years old, then you would have almost $6 million. Over 40 years, you’ve put in $240,000 and your return is $6 million.

If you do that in a 401K, that money is taxable. The money went in before taxes, but the money is taxable as it comes out. Your $240,000 that went in pre-tax is almost irrelevant in light of the $6 million that is going to be taxed.

But if you put money in a Roth IRA, it grows tax-free. That means if you put the same amount into the Roth, you’ve got $6 million, none of which goes to Uncle Sam. The Roth IRA is always superior to the 401K because of this.

That last italicized bit is unequivocally wrong. The tax savings you get from the up-front deductibility of traditional IRA (or 401k) contributions is exactly the same as the tax savings you get from the distributions of Roths not being taxed, assuming tax rates are constant. If the tax rate is higher now than in retirement, a traditional will save more money.

2. Discussing FICO scores:

The FICO score measures how much debt you currently have and how well you are paying it off. So if someone has no debt, there FICO score is “0″. A person could have millions in the bank and no debt at all, but have a FICO score of “0″.

There’s no such thing as a FICO score of 0. The lowest possible score, reflecting the worst possible credit, is 300. If you pay off all your debt, you still get a score, probably a good one. If you are completely unknown to the credit reporting agencies, meaning that you have no credit lines, have not had any for many years, and do not have, for example, an AT&T cell phone account, you will have no score at all.

3. Explaining mutual fund expense ratios:

If it has a very low expense ratio, then it is a mutual fund that doesn’t sell very often.

For example, you saw one expense ratio of 1.1 and that was probably an aggressive growth mutual fund. Those are sold all the time, so the expenses are higher. A growth and income mutual fund would have very low expenses because they are rarely sold.

I’m not really sure what Ramsey is talking about here. Best I can figure, he thinks that the commissions paid by the fund to buy and sell stocks are included in the expense ratio. They aren’t. (And wouldn’t make much of a difference if they were.)

Expense ratios are ultimately pretty arbitrary, based on what the fund company thinks the market will bear. If there is any general trend, it is that higher risk funds, which hopefully also have a higher potential return, also have higher fees.

4. Doing Tax and Mortgage Math:

[The caller’s aunt’s] CPA thinks that she’s better off borrowing money at 5% and investing it at 12%, but because the account is taxable, 12% ends up looking like 9.6%. The CPA will still say that she’s making 9.6%, which is still better than 5%, but he’s not thinking about the risk involved with investment.

Except that because the 5% is tax deductible, it ends up looking like 4%. Ramsey messes these calculations up repeatedly (for example, here and see my post on Step 6) and to a remarkable extent for a guy who once made his living as a real estate developer. His conclusion, that you should pay off the mortgage rather than invest in stocks, may be sound for some people, but he never seems to be able to set up the comparison properly on an apples-to-apples basis.

5. Apparently discussing an investment in an S&P 500 index fund:

I recommend mutual funds because they always beat the SNP. You can own several funds that beat the SNP whether in an up-market or a down-market. It’s alright to own some SNP, but none of your retirement savings should be in that. If you do a little bit of looking you can find tax-protected Roth IRAs and 401-Ks that give much better returns than the SNP.

For example, take a mutual fund with a 25-year track record. Over the course of those 25 years if you can see that the mutual fund almost always beats the SNP, then that mutual fund contains stocks that are winning more than the overall market is winning.

Assuming that “SNP” is S&P 500, mutual funds don’t always beat it, in fact on average pretty regularly lag it. IRAs and 401ks are not investment alternatives to the S&P but accounts which can hold such things as mutual funds.

6. On the income tax effects of getting married:

The Marriage Penalty Tax was a fluke in the tax tables and has been corrected. There should be very little difference in the taxes you pay once you get married.

A clever observer will note the existence of the “Married Filing Separately” tax schedule, as distinct from the “Single” one. Two people making $75,000 each who get married will find that they have moved from the 25% to 28% bracket. They will also find that there are many nooks and crannies in the tax code that may increase their burden now that they are married, including, for example, a smaller addition to the standard deduction if they are over 65 and the phaseout of personal exemptions at a lower income level.

For the record, I don’t think the tax code is anti-marriage, but I wish it were simpler. And the marriage penalty was/is not a fluke, but a fully intentional tax policy.

7. When asked to explain what a hedge fund is:

QUESTION: Tyson wants to know what a hedge fund is, and what it is for, and how it plays into the current economic situation, in this call from September 24, 2008.

ANSWER: The term hedge fund comes from hedging your bets or hedging risk. You do that by doing the opposite of what the market is doing, or some extra risk. An example is extremely high risk mutual funds. You can’t participate unless you are very rich, because you could lose. It’s so high risk that the government wouldn’t allow an old lady to put her life savings into it.

They were the first people who were bundling together the subprime loans together and selling them as a bond. They can then sell it as a bond rather than individual mortgages. When you take many of these and put them together, that’s when it starts affecting the economy. They are the Petri dish from which this whole mess came from.

That’s the entire text of the Q&A as transcribed on Ramsey’s site. I conclude from this that Ramsey does not, in fact, know what a hedge fund is. (I am also left wondering why this particular question was put on his website.) The first sentence of his answer implies hedging reduces risk and in the second that it increases it. Hedge funds were not the first people to bundle sub-prime mortgages into bonds. A firm that creates and sells bonds is called an investment bank.

Hedge funds are like mutual funds in that they are pools of jointly owned assets, but are unregulated and typically have much higher fees, presumably to compensate for superior investment performance. One the requirements to escape regulation is that they can only take a limited number of investors and those investors must be either wealthy individuals or corporations. Although the word hedge does suggest reducing risk by going short, and some hedge funds do this, many do not.

8. Speaking to a retired widow whose broker has suggested certificates of deposit:

Certificate of deposits are not a secure investment. They average about 4% and that’s also the inflation rate. By the time you pay taxes, you’ll lose money. Get away from your broker if they are giving you information like this. Invest in good growth stock mutual funds that average about 12 percent.

CDs are generally FDIC insured and therefore as guaranteed as any investment could be. So secure that they are often said to be appropriate for widows and orphans.

9. When asked where a new retiree can get the best yield:

QUESTION: Nigel says his father just received his retirement in a lump sum of $90,000. Where should he invest that to get the highest yield?

ANSWER: The best place to invest is in good growth stock mutual funds – growth, growth and income, aggressive growth, and international – if you’re going to leave your money alone for at least the next five years. He’s not going to make a ton of money off of that investment in one year though.

Yield refers to income (e.g. dividends) rather than total return. Growth stocks do not typically have much in the way of yield. “Growth and income” and “international” are not examples of growth stock fund types. Investing the entire sum in equities, never mind only growth equities, would be very risky for a retiree. Even with a five year horizon equities it would present too much risk for somebody expecting to live off the money in the near term.

10. On an employee stock purchase plan:

QUESTION: Jake works for a good company that has stock options. He has done a budget and is trying to get out of debt. He can take a little bit away and have $200 a month to put into the stock options. The company buys the stock once a quarter and buys it at 85% of its market value. Should he do that?

ANSWER: All companies purchase at 85% of the value. It’s a bonus assuming the stock price is steady. In a year’s time, it has more than a 15% move up or down. I wouldn’t do it. Honestly, how much would you make off of it?

This last one is poorly transcribed, so you really have to listen to the recording to understand what poor Jake is asking about. It is not, as he and Ramsey call it, a stock option plan but an employee stock purchase plan. The terms are such that Jake can set aside money over the course of a quarter to be used to buy his company’s stock at a 15% discount. He can then immediately sell that stock for its full market value.

Ramsey is dismissive of this, saying that a) it is too risky and b) it is too little money to bother with. Both objections tell me that Ramsey wasn’t really listening to what the caller was saying and that he imagined for himself what the terms of the plan might be. ESPPs are strange and relatively rare beasts. I happen to have once worked for a company that had one very similar to Jake’s, so I know that the right advice is that he should max out the scheme and sell the stock immediately every quarter.

I don’t expect the host of a radio call-in show to know that off the top of his head. I can even excuse not taking up air time to tease out of a nervous caller the necessary details. But authoritatively giving advice on a topic that is of monetary importance to your listeners as if you understood the details, when you don’t, is intolerable.

And in this way this last item epitomizes the entire set. In no case does Ramsey give even the slightest hint that he is not intimately familiar with the subject at hand. And yet, in at least some of these cases, he must have known he was on thin ice. Why not say something like “I’m not really familiar with the details, but in general…” or “You know, that’s just the sort of question you should ask a qualified lawyer/accountant/broker/insurance agent.” Would that have been that damaging to his image? It sure would have improved the overall quality of his advice.

[Photo credit Kamyar Adl]

Dave Ramsey, Gurus, Investing | Frank Curmudgeon | May 13, 2009 3:00 pm

55 Comments

By Rob Bennett, May 13, 2009 @ 3:22 pm

Why not say something like “I’m not really familiar with the details

It’s a circular problem.

The middle-class people who listen to the advice are impressed by “expertise.” Those who are able to give quick and authoritative-sounding responses to a multitude of questions are perceived as evidencing “expertise” by doing so. Acting like a know-it-all sounds good. It’s marketing. It sells. It works.

The “expert” is often conflicted. Does he give advice that helps his listeners or advice that sells? If he doesn’t sell, no one listens and he does no good for anyone. If he sells too much, people suffer big financial pain.

The only way out is for people to come to a different understanding of what constitutes “expertise.” Sometimes the best “expert” of all is the one with enough confidence in his material to be able to say “I don’t know.” I don’t see too many of that type around nowadays. It’s mostly Wizards of Oz pulling on levers and turning about cranks.

Rob
By Frank Curmudgeon, May 13, 2009 @ 3:38 pm

The difference between being good at giving advice and giving good advice?
By ObliviousInvestor, May 13, 2009 @ 3:41 pm

#5 makes me physically ill to read. (Not exaggerating.) What the hell is he talking about “mutual funds always beat the S&P.”

What a blatant falsehood.
By bRobert, May 13, 2009 @ 4:03 pm

I followed Dave Ramsey’s plan to get out of debt ($40k), and I’m currently following it to build up my emergency fund, etc. I read all of your articles about him, and frankly, I’m not bothered by them. He seems more than capable of defending himself.

I think the most important thing I have gotten from Dave Ramsey is awareness. I really didn’t know I was a financial idiot before, and he is straight forward enough to tell me that I am directly in terms I can understand. I believe the core of his message is well founded and above criticism. It just works, and he is helping millions of people. How many people are helped by his critics? How many people are confused by his critics?

I don’t think it really matters much, I haven’t met anyone yet who strictly follows his advice after the first couple of Baby Steps. I wouldn’t be reading the dozen or more PF blogs I do if I weren’t hungry for something more than he offers.

I enjoy and appreciate your blog. I have a lot of learning to do, and consider what you do very valuable to me. I would never have known to question Dave Ramsey’s suggestions without it.
By Chris, May 13, 2009 @ 4:31 pm

It’s also important to note in #1, that if you are 30, you can only put $5,000 per year into a Roth IRA. If you believe the rest of the math, that alone cuts more than $1 million off of your return.
By Four Pillars, May 13, 2009 @ 4:37 pm

Dave Ramsey is a complete and utter idiot. Why anybody would take financial advice from him is beyond me. That said, he is a pretty effective debt reduction motivator so maybe he should stick to that topic.

As for lack of response – welcome to wonderful world of blogging.
By SJ, May 13, 2009 @ 4:56 pm

Hilarious…

I mean, it’s not his area of expertise but we can treat him as elementary school or an intro class to personal finance; step 1 get out of debt.
Step two upgrade your class and build wealth

But still SNP. Yay.
By My Journey, May 13, 2009 @ 5:05 pm

There is a simple reason why you didn’t get hate mail/comments.

Your audience (at least those that comment) seems to be made up of people who are not searching for the magic cure to pay off debt, and thus are not in love with a talking head such as an Orman (who I hate) or Ramsey (who I have never heard of until I started blogging myself).

Your audience is made up of intelligent readers who can actually understand your counter arguments to “facts.”
By kurt, May 13, 2009 @ 5:20 pm

#3 and #5 are startlingly dumb responses. It’s unfortunate that Ramsey can’t limit his advice to the specific topic of paying down debt. I just wish he would have mentioned which specific mutual funds ALWAYS beat the “SNP”, now that would be helpful advice.
By SaveBuyLive, May 13, 2009 @ 5:49 pm

I think of Dave Ramsey as entry level personal finance. Some people are going to grasp what he has to say in a few months. If they execute his advice they aren’t going to be that bad off. Let’s be honest. Paying off debt, starting an emergency fund and saving for retirement are really all that most people need. Even if you hate thinking about finance you can pull off Ramsey’s advice relatively easily. And consider the fact that some people are going to struggle with this stuff for their whole lives.

But listening to Ramsey for more advanced personal finance advice is like listening to a very intelligent college sophomore explaining biology. I’ve got a couple of advanced degrees in this area and I can tell you that the college sophomore (like Ramsey) will get the basics right but fall flat on his face when discussing the details. Unfortunately, there isn’t a huge popular market for basic biology knowledge so college sophomore has little probability of landing his own radio show and book deal.

Other people are going to want to move on to more advanced personal finance. I’m slowly moving towards this category. But getting there is hard. I’m not a finance major and most blogs (even my own) are geared more towards the basics.

I’ve been reading your blog for a little while and you seem to know what you are talking about. It would be awesome if you would post a reading list of books/articles/textbooks/blogs for people for people who want to get beyond starting an emergency fund and paying down debt.
By Carl Richards, May 13, 2009 @ 5:54 pm

Unreal.

Really, I am shocked.

One more reason you should never mix entertainment and investing.
By Dangerman, May 13, 2009 @ 6:28 pm

“Except that because the 5% is tax deductible, it ends up looking like 4%.”

Inaccurate.

Only roughly one half of all mortgage holders benefit from the mortgage interest deduction. (see, for example, Spend Till The End, Burns and Kotlikoff, pages 133-134). Dave Ramsey’s listeners are certainly on the lower end, and so the majority very likely do not benefit at all. Thus, Dave’s advice is generally correct.

Fault Dave for generalities all you want, Mr. Frank Curmudgeon, but you do it too.
By Frank Curmudgeon, May 13, 2009 @ 6:38 pm

Point well taken. I had no idea it was as high as half, although I certainly knew it was significant, which I should have mentioned at least in passing.
By Dangerman, May 13, 2009 @ 7:21 pm

I appreciate your “point well taken.” However…

“Two people making $75,000 each who get married will find that they have moved from the 25% to 28% bracket.”

Somewhat misleading.

Each person earning $75k will pay $12,256 in federal taxes in 2008 assuming standard deduction and one exemption, and no other issues. (See any online tax calculator.) But two people each earning $75k and filing as married-filing-jointly will pay $24,532 (standard MFJ deduction and two exemptions). The so-called “marriage penalty” is therefore exactly (24,532 – 2*12,256) $20.

The scenario you chose is almost exactly where the “marriage penalty” just _barely_ begins to kick in.

Of course, only about 25% of wage earners in the U.S. earn >$75k. So, assuming straight independent probabilities, the likelihood of two people earning >$75k is 0.25^2 = 6.25%.

Sounds like Dave’s advice that “There should be very little difference in the taxes you pay once you get married” is basically correct for 93.75% of American households.

So again, Dave may generalize, but that doesn’t mean he’s wrong. In my book, 93% gets an A.
By Kevin, May 13, 2009 @ 8:01 pm

“SNP?” Has the guy ever picked up a Wall Street Journal? What a clown.
By Frank Curmudgeon, May 13, 2009 @ 8:11 pm

Dangerman: Okay, but Ramsey said the marriage penalty was a “fluke” that “was corrected.” He didn’t say “it’s real, but pretty unlikely to be a problem that costs you serious money, so don’t worry about it.”

The marriage penalty was always more of a symbolic issue than a substantive one. You have to be pretty well off, with both spouses working and individually in the higher brackets for it to be noticable money.

Kevin: To be fair (and why not be fair?) Ramsey probably didn’t transcribe this himself, he only hired somebody who doesn’t read the Wall Street Journal to do his typing. And apparently didn’t hire an editor who knew the term either.
By Scott, May 13, 2009 @ 8:37 pm

For #1, it seems to me that most people conflate marginal tax rate and average tax rate. My current marginal tax rate is 28%, so contributing to a traditional IRA saves me 28%. In retirement (given 2008’s tax brackets) my standard deduction is $10,900 (for married filing jointly), so if I understand this correctly my first $10,900 in withdrawals from a traditional IRA will not be taxed at all just as with a Roth. It seems that the Roth IRA has a clear disadvantage here. The next $16k is only taxed at 10%, etc. So assuming that 100% of my retirement income comes from an IRA, then isn’t it more appropriate to compare my expected average tax rate in retirement to my current marginal tax rate. It would seem that there is a clear advantage to having at least some money in traditional rather than Roth accounts unless you expect tax rates to go through the roof.

If I’m making a mistake in the logic above, feel free to point it out. Obviously other considerations like social security and its taxability will have an impact but frankly I am not up on the tax rules surrounding social security income.
By Dove, May 13, 2009 @ 10:32 pm

You don’t get hate mail because your audience expects criticism. It’s right in the title of the blog. And, frankly, you do it well.

Dave may be wrong on advanced topics, but he is useful because a lot of people are utterly financially illiterate. They don’t weigh rates of return. Even odds, they don’t even know what a rate of return is, and certainly not what constitutes a good one. They have never tracked expenses, never considered investing, and never looked beyond the next paycheck. They do not understand that their debt makes them poor. They cannot connect a lifestyle of frivolous purchase to the difficulty they have in making ends meet. They have no context from which to consider large purchases, having simply never lived another way.

Dave exists for these people. For folks who respond to advice like “spend less than what you make” with “I never thought of it that way.” Many of us who have since become wiser received that revelation from him. He’s good at advising a person to get his act together and save $50 this month instead of going further into debt. So I find it somehow forgivable that he’s not so good at telling folks what to do when they’ve been saving for 35 years and have amassed enough wealth that tenths of percentage points really matter.

But it’s disturbing that he tries. I’d rather he simply said “not my field.” True, if it weren’t for him, some folks wouldn’t have retirement accounts at all–so even if he helps them go on to mismanage them, on balance, he’s done them good. Then again, he advised another retiree to make inappropriately aggressive investments, so perhaps he can do a lot of harm, too. And the criticism here makes him start to look dishonest, or at least unwilling to do his own homework and honestly find the bounds of his own knowledge. That’s too bad.
By bex, May 14, 2009 @ 12:43 am

nothing to add… other than “ramsey is a tool.”
By Dangerman, May 14, 2009 @ 6:23 am

“Okay, but Ramsey said the marriage penalty was a “fluke” that “was corrected.””

Well, that’s discussing legislative intent, not really personal finance. Dave’s advice is generally correct for about 93% of the American population. Besides, the “marriage penalty” -was- “fixed” for many households by the 2001 Bush tax cuts. I don’t have my old tables, but I believe that it used to get couples earning as little as $50k each.

“To be fair (and why not be fair?)…”

I’d say you’re right about numbers 2, 3, 5 and 7. For the others:

1- Dave is technically correct based on the scenario he has created. Dave said “If you do -that- in a 401K…” where “that” is “$500 a month.” Then, $500/month in a Roth IRA clearly -is- better than $500/month in a 401K. Dave didn’t account for the fact that $500/month take home is $600 (or whatever) pre-tax, but based on the exact wording he stated, he’s not wrong.

4. Discussed above. Dave’s answer may not run some Monte Carlo simulations to account for the standard deviations of returns in the investments, but as a generality he’s right.

6. Discussed above.

8. “By the time you pay taxes, you’ll lose money.” – this statement is absolutely correct. Your criticism is a different in opinion about the proper asset allocation. If the “retired widow” is 55, then Dave is 100% correct – although if she’s 85 then you are more correct. Without knowing her age, there is no right answer.

9. Dave uses the terms “growth, growth and income, aggressive growth, and international” differently than modern investors use the “growth” vs “value” terminology. These labels were more commonly used 15 to 20 years ago. Dave may be behind the times in the -terms-, but the underlying asset allocation isn’t that bad. You are correct about “yield”, but in all fairness the caller very likely meant “most total amount of money” since that’s what people ultimately care about.

10. “In a year’s time, it has more than a 15% move up or down.” This statement is approximately correct, the typical standard deviation of a single stock is about 20-25% (See, for example, Ferri, All About Asset Allocation).

“Jake… is trying to get out of debt.” Dave’s advice in this situation comes back to point #4 – investing while still in debt. The risk involves in single stocks, while paying interest on that money, makes the plan a poor choice for almost everyone. Since Dave typically discusses mortgage debt differently, it appears that this caller has consumer debt (cars or credit cards), which is likely at a high interest rate. If so, the 15% yield on the plan would very likely be wiped out by the 10%+ interest rate this caller is paying on his debt.

For example, assuming that the caller’s debt is only 10%, the plan achieves a return of 5% -if- the stock price is perfectly smooth (which of course never happens). A 5% return on a single stock is far, far away from the efficient frontier, and therefore is a bad investment.

“so I know that the right advice is that he should max out the scheme and sell the stock immediately every quarter.” Why? Were you in debt at the time? Did you know the long term variability of your company’s stock?

Well, that was really long.

The thing is, Dave generalizes (and, granted, sometimes is plain old wrong or uninformed), but Dave speaks to his audience – and he’s generally correct even if he doesn’t explain why.

Ok, just my two cents.
By ObliviousInvestor, May 14, 2009 @ 8:00 am

Here’s my question for Dangerman:

If, as you say, Dave is “generally correct,” is that good enough?

Or, given the degree of trouble caused by being wrong (#5 from above stands out to me), do you think his listeners/readers would be better off if he simply refrained from addressing investment-related topics?
By Dangerman, May 14, 2009 @ 8:30 am

“If, as you say, Dave is “generally correct,” is that good enough?”

Yes, absolutely. Financial illiteracy is a huge problem in this country, and Dave educates “the masses.” Us internet posters can sit back and criticize, but Dave speaks to some 6 million people every day. If you think he should say “this is generally the answer, but it may depend on various aspects of your specific situation” before he answers any question, well sure – but what’s the point of that?

“Or, given the degree of trouble caused by being wrong (#5 from above stands out to me)…”

#5 also stands out for me, because I’ve personally heard Dave recommend a S&P500 index fund on several shows. I heard him do so in one podcast last week, actually. Therefore, I suspect that this quote is from an older show, although I haven’t retraced Frank Curmudgeon’s steps.

Dave is not really an “efficient markets” guy, although many people would like him to be. But, one key point that this criticism overlooks is that many people -do- need help with their investments, and therefore paying loads to a fund broker can be worthwhile if that broker is actually helpful.

You can say, “everyone should be able to create an asset allocation using low cost Vanguard funds by looking stuff up on the internet.” But that’s not the reality for many Americans. Therefore, Dave’s advice is a “safe” (fund brokers generally won’t screw you over and take your money) avenue, even if other options might be better.

So, is Dave perfect? No. Does he do far, far more good than bad? Yes, absolutely. No need to let the perfect become the enemy of the good.
By ObliviousInvestor, May 14, 2009 @ 9:15 am

To me, the alternative isn’t saying, as you put it “this is generally the answer, but it may depend on various aspects of your specific situation.”

To me, the alternative is simply to admit a lack of expertise when faced with a specific topic about which he isn’t terribly knowledgeable.

Or, perhaps, to take the time to learn a little more. After all, Dave speaks to some 6 million people every day.
By IndependentOperator, May 14, 2009 @ 10:54 am

@Dangerman:

You and Frank arguing about Dave’s level of correctness is pretty silly. The implication in your defense is that Dave didn’t stumble upon what you believe is the right answer by pure accident. If you analyze the words that surround the facts in his responses, he is most clearly an idiot who has no business telling people what to do with the whole of the wealth they have accumulated throughout their entire lives.

Are you being serious? This is not an argument of technicalities. This is an argument of people giving horrible advice about VERY SERIOUS THINGS that ultimately result in all of society being worse off when we have to find ways to take care of people who have blown their retirement savings.

It is BECAUSE financial illiteracy is so rampant that people like Dave need to avoid giving advice where they are not expert. There is little hope that someone will read his advice and realize it is not correct, because the reader knows next to nothing about finances. It is irresponsible for Dave to take an expert role if he is not an expert. That means he either has a huge ego and thinks he is way smarter than he is, or he is being dishonest and should defer to true experts.

Whether or not he stumbled on technically correct answers is not at all the point. He is not, as you are implying, a true expert who only seems kind of wrong because he’s trying to dumb down and generalize the output of his expertise.
By Mike Peterson, May 14, 2009 @ 11:00 am

I think some of your criticism of Dave is a little off kilter. You need to keep in mind that his advice is provided in context of people following his advice, fully.

For intance, #1 above. If you follow Dave’s advice fully (get out of debt, save 15% of your income, live within your means) there is no way someone age 30 will not wind up in the highest tax bracket at retirement. Investing in a pre-tax retirement account with even reasonable investment success would result in RMDs that, alone, would put the person in today’s 35% tax bracket. So, his statement holds true.

Trust me. When I first started listening to Dave, I too was a skeptic. However, if you become a regular listener and hear him address some of your concerns by putting them into the context of following his 7 Baby Steps program, you’ll find that his advice, overall, is pretty sound.

You also need to learn to view things from his point of view. For instance, his comment in #1 above references a 30-year old putting $6,000 per year into a Roth IRA. Now, we all know the contribution limit for a 30-year old is $5,000. However, you have to listen to Dave fully explain this to better understand. What he means by this is that the typical 30-year old probably pays about a 20% average tax rate on income (federal, state, and local). That being true, the person has to earn $6,000 to place $5,000 into the Roth IRA. I think it’s confusing, but he views the taxes paid as part of the $6,000 investment. When you think about it, his comparison is actually a more realistic view, since it deals with the taxes at both ends of the example.

This is coming from someone who 8 years ago heard Dave and thought, there’s a poor fella who just doesn’t understand leverage. Now, I’m a facilitator in my church for his Financial Peace University and am working his 7 Baby Steps Program. I can testify to the positive results of his program, both for myself and for clients I’ve recommended follow his program.

However, I’m not a Kool-Aid drinker. For instance, I still take issue with his view on permanent life insurance ALWAYS being a bad idea. I feel it has a place in estate planning and special needs planning.

But, all in all, Dave’s advice if better than the advice provided by over half the people in the financial services industry.
By GPR, May 14, 2009 @ 11:48 am

@Dangerman: “Ok, just my two cents.”

I charge more per word than you do.
By Frank Curmudgeon, May 14, 2009 @ 1:29 pm

Now this was the sort of reaction I was expecting.

Dangerman: As I’ve said before, I think Ramsey has a role to play and that he does it well. All I am saying is that he should keep inside the bounds of his expertise.

On #1: His exact wording may be correct in some sense, but it is so wildly misleading as to be deceptive and certainly does not support his conclusions. My point is not that he is lying, but that he doesn’t understand what he is talking about. (Which may be worse.)

#5: Ramsey’s position, as I understand it, is that S&P 500 index funds may make sense, but only in taxable accounts.

#8: No, you won’t lose money, you will lose value relative to inflation. His alternative is a stock fund in which you may lose both money and relative value. I believe that the caller refers to living on Social Security, so I infer she is not 55. Although she could have meant survivor’s benefits. Remarkable that Ramsey didn’t ask her for details, isn’t it?

#9: As used by investment professionals, I believe that growth as an investment style always meant what it does today. It certainly meant what it does now 15 years ago, when I was helping to manage a growth mutual fund. (Never forget: I’m old.) I think from the context that the caller, who is asking about a new retiree, really is asking about income.

#10: The terms of Jake’s company’s plan is that the money is taken from his paycheck and set aside over the course of each quarter. On average, his money is locked up for half the quarter, or one eighth of a year. Then he gains 15% on it, meaning his annualized return from this scheme is 206%. Yes, he does own the stock for a short period before he can sell it, but that time period is measured in hours. There’s really nothing to discuss here. Jake should max it out. Again, my complaint is not that Ramsey didn’t understand this, but that he confidently gave advice as if he did.

Mike Peterson: You are making my case for me. If Ramsey thought that $6000 pre-tax meant a $5000 Roth contribution (because of the little-known 16.66% tax bracket?) then he’s really lost, because he then forgets about the issue of taxes on contributions altogether when he compares the relative value of the two schemes.

Yes, a 30 year-old who diligently saves and gets a 12% return on his investments will be rich by 70. But I’m not so confident about the 12% part. You should also consider the effects of inflation. Assuming a 4% average over 40 years (an unscientific but popular assumption) the 35% bracket, which now starts at $372,950 for couples in 2009, will start at $1,790,540 in 2049, based on the very unlikely assumption that they don’t change the laws in the meantime. How sure are you that a typical 30 year-old following the Ramsey Way will end up there?
By Kosmo @ The Casual Observer, May 14, 2009 @ 4:57 pm

Interesting that we never hear about the marriage bonus

Taxpayer A makes $100,000
Taxpayer B makes $10,000

They get married … and much of taxpayer A’s income gets dragged into lower brackets, resulting in a lower total tax.

How common is this? Think of couples with a stay-at-home spouse who has a small in-home business (day care, Tupperware, etc) – or situtations where one spouse is retired and the other is not – or one is unemployed and the other is not.

Regarding Roth vs. traditional (or 401(k)), I dissect some scenarios here:

http://www.observingcasually.com/roth-vs-401k/
By ObliviousInvestor, May 14, 2009 @ 10:35 pm

Kosmo: Such was the case when my wife and I got married. Due to the significant difference in earnings between a tax accountant and a social worker, we ended up with a substantially lower total tax burden.

Marriage bonus!
By Dave C., May 15, 2009 @ 9:26 am

Frank,
I think you must now know what you need to solicit responses from now on, eh? Stick it to ‘em.
By Jon, May 15, 2009 @ 1:07 pm

Can you explain your statement from #1 that:

The tax savings you get from the up-front deductibility of traditional IRA (or 401k) contributions is exactly the same as the tax savings you get from the distributions of Roths not being taxed, assuming tax rates are constant. If the tax rate is higher now than in retirement, a traditional will save more money.

I understand Dave’s “logic” but I don’t understand your statement.

Are you doing a time value of money calculation and saying that the net present value of the future tax savings of the Roth equals the net present value of the current tax savings of the traditional IRA/401(k)?

Perhaps you could give an example.

Thanks.
By Dangerman, May 15, 2009 @ 1:30 pm

“#10…On average, his money is locked up for half the quarter, or one eighth of a year.”

You are completely right, I missed that part and was assuming a year long lock up. My mistake.

So I’d agree on 2, 3, 5, 7 and 10.

“This is not an argument of technicalities. …he is most clearly an idiot…”

Well, how can you know unless you run the numbers? There’s a lot of cultural condescension directed at Dave (and he, of course, hurls it back). Frank wasn’t doing that, but the attitude of “I know better” seems to keep large segments of American from learning from people like Dave.

“he should keep inside the bounds of his expertise.”
&
“…no business telling people what to do with the whole of the wealth they have accumulated throughout their entire lives.”

I think the question might be phrased: “is the world a better place if Dave talks about investments, as opposed to a world where he did not?” I would have to say that the world is better for having Dave to educate us – even if he isn’t exact, and isn’t correct in every situation. In my opinion, he is better than -nothing-, because people without -any- knowledge often make huge mistakes (i.e. get scammed, swindled, blow the money, etc.), whereas the types of mistakes Frank is criticizing are (relatively) small mistakes.

Overall I think its fair to say that, for a guy who fills 4 hours of airtime every day, Dave is incredibly accurate the vast majority of the time -for the vast majority of his listeners-.

Ok, this was fun. A pleasure to chat with y’all!
By Kosmo @ The Casual Observer, May 15, 2009 @ 4:38 pm

Jon,
Very simple example:

- You will double your money between now and retirement
- tax rate is 30% (now and in the future)
- This is a very simple example, but I’m ignoring the other factors because they are the same in both examples and cancel each other out.

Roth:
Start with $1000
Pay taxes of 30% before contributing ($300)
Money left to invest = $700
Money doubles to $1400
Pay no taxes on distributions

Traditional
Start with $1000
Pay no taxes before contributing
Left with $1000 to invest
Money doubles to $2000
Pay taxes of 30% on distributions ($600)
You’re left with $1400
By Kosmo @ The Casual Observer, May 15, 2009 @ 4:45 pm

Oblivious investor: Back before the Bush changes went in, I was discussing this with another friend who also works in IT. Both of us have degrees in accounting, and he has a CPA.

He’s ranting about the marriage penalty … and I eventually get him to take a closer look. His wife had recently begun staying at home with the kids. Yep, he was getting a marriage bonus. He was taken aback at the realization. The phrase “marriage penalty” has become ingrained in our language, though, whereas “marriage bonus” has not.

Single people just have bad lobbyists
By ObliviousInvestor, May 15, 2009 @ 6:45 pm

Jon: The issue of Roth vs. Traditional being the same if your tax bracket doesn’t change is simply the result of the commutative property of multiplication.

Take a 25% (or whatever) cut of the money now, or take a 25% cut later. It shouldn’t matter.

Kosmo: Agreed precisely. The marriage penalty is indeed real. And so is the marriage bonus. Interesting that only one gets talked about.
By Frank Curmudgeon, May 16, 2009 @ 9:15 am

What also never gets talked about is the partisan split between married and single people. Married people lean heavily Republican, single people Democrat. Last I saw numbers (a while ago) this was by far the biggest demographic split around. At some point the Repubicans decided to play to their base in a typically crass way and express outrage about the “anti-marriage” tax code. That’s bad enough, but the Democrats then sheepishly went along with it, rather than pointing out that a) on balance married people are better off with the current system and b) it’s a perfectly reasonable and justifiable tax policy.
By Kevin @ The Money Hawk, May 16, 2009 @ 5:13 pm

Can I ask where you got these quotes?
By Frank Curmudgeon, May 16, 2009 @ 8:00 pm

What, the Ramsey quotes? From his website. Click on the item names to go there.
By Mike, May 17, 2009 @ 4:13 pm

The way I look at is – if someone motivates you to take charge of your own finances and manage your own money and investments, then it’s good advice.

Once you become motivated, you’ll become better educated and figure out what’s in your own best interests. It’s that initial step that’s the most important.

That’s why I like Dave Ramsey, and also why I like Suze Orman. They both have good stories in which we all can identify, and they’re both master motivators.
By Mary, May 18, 2009 @ 12:51 pm

Yeah! Controversy – as Dave C says, know you know what stirs up responses, right? I’m a complete financial amateur who has been trying to get better – lurking on PF boards for about a year, seriously started fixing my screwed up financial house about 9 months ago. I am not qualified to address any of the topics in the commentary above except for the following: I listen to DR for info-tainment and I follow (in general) his basic personal finance advice. He says things that blatantly sound off-kilter and that spurs me to thought & further research to determine what the heck he’s thinking – but I bet I’m in the minority – if someone doesn’t have a filter for what doesn’t seem right, and they don’t follow through with research, they could be harmed following his advice. But god forbid you ask for others’ opinions of what he says – I made that mistake just this weekend on a PF forum and was lambasted for being an idiot even to listen to him and was informed that since I’m in debt I shouldn’t participate in a PF forum. (?!) A civil discourse (civil for the most part) such as above would help those of us who like to listen, but want the additional details of why his advice on broader issues may not be correct…
By Rob, May 20, 2009 @ 4:40 pm

Regarding #1… you mention “If the tax rate is higher now than in retirement, a traditional will save more money.” When Dave (and others leaning in this general direction) have brought this point up, it’s always in the context of “…and you can pretty much bet on the tax rate going up because of the country’s current fiscal condition.”

I just read your other post about traditional vs. Roth IRAs and understand your argument that this concern has been around for three decades, but I think that’s still a reasonable argument, particularly in light of the past couple years’ deficits.
By K, May 21, 2009 @ 1:55 pm

Dave very commonly tells people to talk to an attorney or financial planner, as does the disclaimer at the end of each podcast. He has a network of professionals he endorses to provide additional financial planning services. Yes, they will provide a similar message, but as the disclaimer says, each situation is different.

I’ll concur with the other posters who say that the biggest thing that Dave does well is get people thinking about their money and providing a clear and easy to follow framework for people to get out of debt and build wealth. The “higher problems” don’t really come along until you are well into the steps, anyway, and by that time, it’s likely that the lesson of “understand where your money is going” has been drummed into your head enough by what it requires to make an emergency fund, pay off debt, build the emergency fund larger and THEN you really start worrying about investments. Likely at this point many realize they are out of their depth, yet are in control of their finances, and go looking for professional help.

Put another way, I can tell that my plumbing is leaking (and so could Dave Ramsey). But I likely need to call a plumber in to fix it.

Contrast Dave’s advice with other financial advice that delves into nitty gritty details about financial markets, investment types, leveraged buying, entrepreneurship as the solution to all problems, and so on and the “average” person will get quickly overwhelmed. And it’s far and above “advice” that stock pickers and get rich quick schemers sell or preach.
By Jim, May 21, 2009 @ 5:49 pm

Mike Peterson said: “For intance, #1 above. If you follow Dave’s advice fully (get out of debt, save 15% of your income, live within your means) there is no way someone age 30 will not wind up in the highest tax bracket at retirement. Investing in a pre-tax retirement account with even reasonable investment success would result in RMDs that, alone, would put the person in today’s 35% tax bracket.”

Someone with median income who invested 15% of their pay in a pre-tax 401k from 1966 to 2006 would have accumulated $1.1M if they had achieved 10% annual returns. If they had instead put their money in the S&P500 they would have accumulated a bit under $850k. If they take 4% from age 65 onwards then that would be $34k to $44k distributions. If they waited till age 701/2 before wirthdrawing anything then their required minimum distributions (RMD) would be around $30k – $40k. In any case it would put a married couple in the 15% bracket. Nowhere near the top 35% bracket which is for income over $372k.
By Jim, May 21, 2009 @ 6:07 pm

I do think there is some very bad information in those quotes from Ramsey. #5, mutual funds do NOT always beat the S&P. #8, CD’s are secure.

For #10 whether or not its a good idea depends on the exact nature of the stock participation program. At my company I can put 10% of my pay into a fund and buy stock at a 15% discount every 6 months. So for me its a guaranteedd 15% return in 6 months. Thats a no lose situation so I should definitely participate. However I’ve also heard of stock particiption programs where they won’t let you sell the stock for at least 1 year. In that case you could easily lose a lot of money if your locked into the stock for a period of time. So it really does depend on the details of the program.
By Darcy, February 2, 2010 @ 12:54 pm

Well, as a beginner, I think Dave’s an inspiration for making a lifestyle change that will lead to wealth building. However even as a beginner, I thought his investment advice was iffy. His suggestion about NOT making a company-matching contribution to a 401K was rejected by my husband and I. We just can’t see throwing away the opportunity to get free money out of his otherwise tight employer.
By JWS, February 17, 2010 @ 6:26 pm

How wealthy and successful are YOU?
By Nate CFPwannabe, February 18, 2010 @ 2:12 pm

Dave Ramsey is a remedial measure. Helpful to those climbing out of the pit, he is not optimal for reaching for the stars. A great help, he understands the spirit of the debtor. He is not a Wealth Management Expert. He must be understood in his place.
By Mark, March 2, 2010 @ 11:34 am

I just ran across this posting, but I find it interesting that the author is just as bad as Ramsey. I’m not going to go through every entry, but will use number 1 as an example.

You claim Dave is “unequivocally wrong” in saying a Roth is better than a 401(k) because of deductability, and you use my favorite bad argument to try to say that: “deductibility of traditional IRA (or 401k) contributions is exactly the same as the tax savings you get from the distributions of Roths not being taxed, assuming tax rates are constant.”

Really? You omit the fact that for the deductability to equal tax savings, you are also assuming NO EARNINGS on either retirement account.

Maybe you, sir, have “no business giving advice on several sub-areas of personal finance.” I’m no Ramsey fan, but please don’t add to the bad advice already out there.
By Lisa, March 15, 2010 @ 1:08 pm

I love reading financial advice and agree that technically Dave Ramsey is not always totally correct. You forget that one variable overlooked are the traps laid by sellers puffing their product with no recourse to the little guy. I have one IRA from Sherson American Express since 1980 that is worth 1/3 of the initial investment. Staying with mutual funds with a long track record IS a good long term strategy. You are doing a dis-service to the public by getting too techncal. Technical jargon are the tools of crooks. It is too easy to lose 40 years of savings and no one accurately addresses these investing pitfalls. You are right in some of the details but I’ll stay with Mr Ramsey’s simple formulas.
By Frank Curmudgeon, March 16, 2010 @ 12:09 pm

A user of technical jargon is not necessarily a crook any more than a person who simplifies things down to catchphrases is necessarily honest.
By brian, March 17, 2010 @ 10:15 am

Agree with all the statements. Dave has wonderful advice on personal finance and getting out of debt. since finding his radio station nine months ago I am debt free.

But, yes take caution to his investing advice. I mean, if you dont want to do any research or learning or pay anyone to handle your money – following is advice is a good option. Just take caution, and realize he gives the same investing advice to all his callers – which doesnt really factor in age & risk.

Dave does a good job of telling callers to consult experts in taxes and lawyers. I wish he would do that more for investing as well.