The Total Money Makeover: Classic Edition

by Dave Ramsey

  People call my radio show all the time with $80,000 in student loans while working a job that brings in $25,000 a year. That math just doesn’t work, and people just can’t live that way—especially when a spouse and family come along.

  Bottom line: The most useless part of your degree is its pedigree . To be financially successful, you’ve got to quit caring about what other people think. If you can really get that before you go to college, then you’re making a giant step in the right direction.

  Dave’s Rules for College

  Do some research on the cost of attending college. Find out what your old college costs today. Find out what the big state school in your area costs. Find out what the smaller state school in your neighborhood costs. Find out what the private, smaller, more intimate college costs. Compare them. In some areas of study and in a very few careers, where you graduate from will matter, but in most it won’t. Pedigree means less and less in our work culture today. How can you justify going into debt $75,000 for a degree when you could have gone to a state school and paid for it out of your pocket debt-free? You can’t. If you have the $75,000 extra cash or a free-ride scholarship and want to go to that private school debt-free, by all means, do it. Otherwise, reconsider.

  The first rule of college (whether for you or for your children) is: pay cash. The second rule is: if you have the cash or the scholarship, go. A couple of years ago I met with the dean of the college of business from the university where I graduated. At that time, the average college student graduated with about $15,000 in student-loan debt after spending three of four years in an apartment, not the dorm, and eating off-campus, not on the meal plan. The average student paid $5,000 more per year to live and eat off-campus than to live in the dorm and eat cafeteria food. The student loans that they “had to have” or they wouldn’t be able to go to college weren’t for college at all. The student loans, on average, paid for an off-campus standard of living, and no debt was needed to get the degree, only to look good while getting the degree.

  Student loans are a cancer. Once you have them, you can’t get rid of them. They are like an unwelcome relative who comes to stay for a “few days” and is still in the guest room ten years later. We have spread the myth that you can’t be a student without a loan. Not true! According to USA Today, two out of three college students take out student loans. Student loans have become normal, and normal is broke. In fact, the current generation of students is sometimes nicknamed “Generation Debt” because they’re graduating from four-year schools with an average of $25,000–27,000 in student loan debt. Stay away from loans; make plans to avoid borrowing.

  If you’ve planned your savings goals and don’t have much room in the budget for college, don’t panic. Knowledge is just part of the formula to success. With what you are able to save, those precious kids can probably get a good degree if they will suffer through lifestyle adjustments and get a job while in school. Work is good for them. In past generations, students lived with relatives, slept in dorms, ate cafeteria food, and endured other hardships to get a degree. They even went to schools without pedigrees to get the knowledge, which is what they were after. They also were under no illusions of the degree giving them guaranteed jobs or success.

  Now, after spending pages harping on mind-set, we can set some reasonable, attainable goals for saving for college.

  Baby Step Five: Save for College

  Virtually everyone thinks that saving for college is important; however, hardly anyone saves money for their kids’ college education. The College Savings Foundation found that 35 percent of Americans with kids don’t save a dime toward college. According to a 2011 study by SallieMae, only 14 percent of families use college savings funds like ESAs and 529 plans. That means 86 percent have saved nothing or close to nothing! Why are we doing so badly? Because we are in debt, have no emergency savings, no budget, and so on. We have to Baby-Step our way here in our Total Money Makeover before we have the money to save for college. If you save for college and don’t have an emergency fund, you will raid the college fund to keep the home out of foreclosure when you get laid off. If you try to save for college while making payments on everything under the sun, you won’t have any money to save. On the other hand, by the time you get here in the Baby Steps, you’ll have a strong foundation and money to save. If you don’t have children, or your kids are grown and gone, you will simply skip this step. For everyone else, a college fund is a necessity. And if you do what I say, when you do start a college fund, you won’t end up raiding it.

  When we first started looking at college options for our daughter, we got really worried. We always lived within our means, but we never saved for the future. We’ve heard of students racking up tens of thousands of dollars in debt for college, but we didn’t want our daughter to have that burden when she finished her education.

  We didn’t think it was possible to pay cash for college. At first, we just thought we would help her as much as possible with what we had, and then we’d go into debt to cover the rest of the expenses.

  With a little research, we found that our daughter could get most of her classes done at a community college—and for a lot less! She drove twenty miles each way for two years and was able to live at home. Best of all, she won three different scholarships, which paid for half of her tuition!

  After two years, she graduated with an associate’s degree in art and transferred to a four-year college. She worked hard and received even more scholarships, which lowered her tuition bill. We helped by paying her apartment rent and tuition, and she worked part-time to pay for books, food, and living expenses. This was an exercise in teamwork, and we all stayed focused on the goal: graduating with no debt.

  We discovered that with a little creativity and a lot of hard work, we really could pay cash for our daughter’s education—and it worked! Our daughter will graduate in a few months with no student loans!

  Craig (age 55) and

  Karen (age 52) Seymour

  Optician; Police Department Records

  ESAs and 529s

  College tuition goes up faster than regular inflation. Inflation of goods and services averages about 4 percent per year, while tuition inflation averages about 8 percent per year. When you save for college, you have to make at least 8 percent per year to keep up with the increases. Baby life insurance, like Gerber or other Whole Life for babies to save for college, is a joke, averaging less than a 2 percent return. Savings bonds won’t work either (sorry, Grandma!) because they average about 5 percent. Most states now offer prepaid college tuition. We discussed that in chapter 4 on Money Myths, but remember that when you prepay anything, you simply break even with inflation on that item. If tuition goes up 8 percent a year and you prepay it, you make 8 percent on your money. That is not too bad, but keep in mind that a decent growth-stock mutual fund will average over 12 percent when invested long term. Of course, there are worse things than prepaid tuition. USA Today reports that 37 percent of the few who actually save for college do so in a simple savings account yielding less than 3 percent. That won’t get it done. I know, something’s better than nothing. But I like another adage better in this case: if something’s worth doing, it’s worth doing right. Let’s do Baby Step Five the right way.

  I suggest funding college, or at least the first step of college, with an Educational Savings Account (ESA), funded in a growth-stock mutual fund. The Educational Savings Account, nicknamed the Education IRA, grows tax-free when used for higher education. If you invest $2,000 a year from birth to age eighteen in prepaid tuition, that would purchase about $72,000 in tuition, but through an ESA in mutual funds averaging 12 percent, you would have $126,000 tax-free. The ESA currently allows you to invest $2,000 per year, per child, if your household income is under $220,000 per year. If you start investing early, your child can go to virtually any college if you save $166.67 per month ($2,000/year). For most of you, Baby Step Five is handled if you start an ESA fully funded and your child is under eight.


  If your children are older, or you have aspirations of expensive schools, graduate school, or PhD programs that you pay for, you will have to save more than the ESA will allow. I would still start with the ESA if the income limits don’t keep you out. Start with the ESA because you can invest it anywhere, in any fund or any mix of funds, and change it at will. It is the most flexible, and you have the most control.

  If you want to do more than the ESA, or your income rules you out, you may want to look at a 529 plan. These are state plans, but most allow you to use the money at any institution of higher learning, which means you can save in New Hampshire’s 529 plan and go to college in Kansas. There are several types of 529 plans, and you should stay away from most of them. The first type to become popular was the “life phase” plan. This type of plan allows the plan administrator to control your money and move it to more conservative investments as the child ages. These perform poorly (at about 8 percent) because they are very conservative. The next type is a “fixed portfolio” plan, which sets a fixed percentage of your investment in a group of mutual funds and locks you in until you need the money. You can’t move the money, so if you get into some stinky funds, you’re stuck with them. This type may yield better returns, but it gives you less control—still something to take a pass on.

  One of the problems with a 529 plan is that you must give up an element of control. The best 529 plans available, and my second choice to an ESA, is a “flexible” plan. This type of plan allows you to move your investment around periodically within a certain family of funds. A family of funds is a brand name of mutual fund. You could pick from virtually any mutual fund in the American Funds Group or Vanguard or Fidelity. You are stuck in one brand, but you can choose the type of fund, the amount in each, and move it around if you want. This is the only type of 529 I recommend.

  Regardless of how you save for college, do it. Saving for college ensures that a legacy of debt is not passed down your family tree. Sadly, most people graduating from college right now are deeply in debt before they start their careers. If you start early or save aggressively, your child will not be one of them.

  After being tired and frustrated with compiling debt over several years, I was ready to free myself and start planning for a better future. My not-yet-husband, Jared, was a great encourager, but it made all the difference when my sister told me about Dave. Jared and I read The Total Money Makeover, attended a Live Event, and decided it was time to attack our debt with gazelle intensity before we got married.

  Each of us paid off our cars. Jared finally was able to get rid of his $36,000 in student loans, and together we were able to save $9,000 for our wedding. It was nice being newlyweds with a budget and a financial plan. Once we didn’t have credit cards to tempt us to make silly purchases, sticking to the budget and saving money became so much easier. Also, we each allotted ourselves a certain amount of money that we could use however we wanted. We chose to save most of it, which curbed buying things impulsively too. Since we were making about $42,000 a year, we had to be smart with our purchases, and we decided to buy used furniture and trade in my SUV for a more economical car.

  Not living paycheck to paycheck is a great feeling. Jared and I are on the same page financially, and we are very excited about our future. It’s a great feeling to be planning for what’s ahead of you instead of having to pay off your past. We are currently building up our emergency fund and saving up for a down payment on a house. When we finally decide where we want to settle down, it will be nice to have the money to make the change!

  Vaneesa (age 30) and

  Jared (age 28) Smith

  Server; Chef

  Getting Creative When You Don’t Have Much Time

  What if you have only a couple of years and will not be able to save much because you started your Total Money Makeover later in life? First, revisit the concepts at the beginning of the chapter. Plan on your child attending somewhere that is cheaper, living on campus, and eating the cafeteria food. Knowledge is what you are after, not a pedigree. Student loans are off-limits. You must get creative and resourceful. Have your children think of companies that might be looking to hire someone with the degree they want. Have them ask the company to pay their way through school while they work for them. Many companies pay tuition for their “adult” employees; just reverse it on them. Will they all say yes? Absolutely not; in fact, most will say no, but it only takes one yes, so ask often.

  Look into companies that have work-study programs. Many companies offer to pay for school and have struck tuition deals with local colleges to attract a labor force. UPS, for instance, has a program in many cities where you can work twenty hours per week sorting boxes at night, and they will pay your tuition for school during the day. Plus, they tend to pay you very well for part-time work. That is just one example of many. This type of program is for someone who wants the knowledge, not to go to school just for the “college experience,” which translates into: they want to party. If you want to go into debt to teach your kids to drink beer or for them to get a pedigree, you need more than a simple Total Money Makeover.

  Look into what the military has to offer. The military isn’t for everyone, but a young man who used to work for me got a free college education by serving four years in the army. Honestly, he hated the army, but it was his ticket to school. He grew up in subsidized housing and was told all his life that college was not in his future. He just wouldn’t be denied.

  I was at the end of my rope, robbing Peter to pay Paul. I had maxed out two credit cards and had no more “wiggle room.” I knew that I couldn’t keep it up much longer.

  I was looking at $35,000 worth of debt—and I only made $35,000 a year in income! When my car broke down and the mechanic gave me a $1,500 estimate on repairs, something had to give!

  First, I shopped around and found a good mechanic to do the work for just $300. Then, I took a second job to pay for it.

  Soon after, I finally decided to attack my debt once and for all. I wanted to do it fast, so I got extra jobs. I spent ten hours a day on Saturdays and Sundays cleaning rooms at a fancy resort. I remember driving from my second job and crying because I didn’t want to scrub toilets or make beds anymore! But I knew it would be worth it in the end.

  It was tough, but I did it—I paid off all $35,000 in debt! I got rid of all my credit cards and stopped buying useless stuff. Plus, I have an emergency fund and a new-car fund. Having a plan for my money changed my life! People made fun of me when I was working two or three jobs at a time, but now I’m debt-free and ahead of the game!

  Shelley Hogenhout (age 31)

  Business Process Improvement

  Analyst

  If full-time military service isn’t for you, check out the National Guard. They will pay you to go to boot camp one summer between high school and college and will then pay for enough tuition and books to get you through the rest of the time. Of course, you will serve your country in the National Guard.

  Take a high-rejection, high-paying summer sales job. There are countless stories of young people selling books or participating in similar programs to get through school. Some of these young guerrilla-combat salespeople get more of an education in the summer trenches than they do in marketing class. A friend of mine made $40,000 selling in one summer. Upon returning to class in the fall, his marketing professor gave him a C on a sales presentation he did in front of the class. My friend, being immature, asked the professor what he made a year. After some goading, the professor admitted to an income of $35,000 per year. My friend walked out and, sadly, he quit school. He will be okay, though; his income last year was over $1,200,000. I don’t tell the story to say it is good to be immature and quit school, because even he would tell you he wishes he had finished. I tell that true story because it illustrates that he learned very valuable lessons about marketing while trying to pay for school. There are benefits beyond just the money awaiting the young person who works to pay for all or part of college.

  If y
ou already have the student loans or don’t want to get a loan in the first place, look into the “underserved areas” programs. The government will pay for school or pay off your student loans if you will go to work in an underserved area. These areas are typically rural or inner-city areas. Most of these programs are for law and medicine. If you are in nursing, work a few years in an inner-city hospital with the less fortunate, and you will get a free education, courtesy of the federal government.

  Probably my favorite method of funding school, other than saving for it, is scholarships. There is a dispute as to how many scholarships go unclaimed every year. Certainly there are people on the Web who will hype you on this subject. However, legitimately there are hundreds of millions of dollars in scholarships given out every year. These scholarships are not academic or athletic scholarships either. They are of small- to medium-sized dollar amounts from organizations like community clubs. The Rotary Club, the Lions Club, or the Jaycees many times have $250 or $500 per year they award to some good young citizen. Some of these scholarships are based on race or sex or religion. For instance, they might be designed to help someone with Native American heritage get an education.

  The lists of these scholarships can be bought online, and there are even a few software programs you can purchase. Denise, a listener to my show, took my advice, bought one of the software programs, and worked the system. That particular software covered more than 300,000 available scholarships. She narrowed the database search until she had 1,000 scholarships to apply for. She spent the whole summer filling out applications and writing essays. She literally applied for 1,000 scholarships. Denise was turned down by 970, but she got 30, and those 30 scholarships paid her $38,000. She went to school for free while her next-door neighbor sat and whined that no money was available for school and eventually got a student loan.