Self-Employed and Have Debt? Why Dave Ramsey May Not Work for You

Dave Ramsey.  His name is synonymous with getting out of debt.  No doubt his baby step program has helped millions get out of debt and stay out of debt.  He’s motivated millions more who are currently working his plan.

I like Dave Ramsey, and as someone who is self-employed, I appreciate that he even offers budgeting tips for the self-employed and those with variable income such as sales people who are paid on commission.

Baby Step 1 Likely Isn’t Enough for the Self-Employed

However, I think there is one glaring error on his baby steps if you’re pay is variable.  Baby step 1 states that you need to create a $1,000 emergency fund.  After that, you move to baby step 2, paying off all debts using the snowball method.  It’s not until ALL of your debts are paid off that you move to baby step 3, saving up a 3 to 6 month emergency fund.

It’s important to note that Ramsey first wrote Financial Peace in 1992.  One thousand dollars in 1992 is different from $1000 in 2013.  In fact, to have the same amount in an emergency fund in 2013 dollars, you’d need $1,666.  In other words, the $1000 emergency fund in 1992 is only worth $600 in 2013 dollars. (Inflation Calculator).

While $1,000 cushion is more than many Americans have, it’s still living dangerously close to the financial edge.  If you have a large amount of debt and a limited income, you’ll be on baby step 2 perhaps for several years.  I’d guess for many people within 2 to 4 years, they’ll have an emergency that will cost more than $1,000.

Is Such a Small Emergency Fund Financially Irresponsible?

For those with variable income, following Ramsey’s steps may actually be financially irresponsible.  If you follow Ramsey’s advice and create a bare bones budget, you don’t have any more room to cut.  Maybe you end up with a bare bones budget of $3,500.  If you consistently earn $3,500 and then you have a few low income earning months, you are right back to relying on the credit cards.

If you have a family and children and have a variable income, you need a larger cushion than $1,000.  That amount is simply not enough.  Instead, you may want to save at least one month’s income, if not more.

Baby Step #1 Isn’t Enough for Us

My husband and I have been followers of Ramsey’s plan, and we had paid off 23% of our debt over the last  22 months on a very limited income including my highly variable income as a freelancer.  However, over the last few months, we had the perfect storm of unexpected expenses and several months of a lower than normal income for me.  Our little $1,000 emergency fund was quickly extinguished, and much to our chagrin, we went further into debt.

Now, we’ve changed our plan and are first creating a 2 month emergency fund before we go back to attacking our debt.  As a freelancer who provides 40 to 50% of our monthly income, I simply can’t count on my income always being there.  For those months when it’s lower than normal, we need a healthy reserve.  The $1,000 emergency fund simply wasn’t enough.

What do you think?  Is Ramsey’s baby step #1 advice outdated?  Do you think people should have more in their emergency fund before funneling all their money to debt repayment?