Dave Ramsey Criticism: Why Dave Ramsey's Advice Harms Retirees

Dave Ramsey is one of the loudest voices in personal finance, known for his straightforward advice on debt-free living and wealth building. Through his weekly radio show and podcast, plus courses like Financial Peace University, he has helped countless individuals build a solid financial foundation. His weekly shows reach more than 18 million listeners...his reach is unparalleled.

With authority comes responsibility. As James wrote in James 3:1: 

Not many of you should become teachers, my fellow believers, because you know that we who teach will be judged more strictly. 

As a retirement planner, it's my responsibility to protect my flock and call out harmful advice. 

Dave Ramsey is wrong and his retirement advice is dangerous. It will likely cause some retirees to run out of money during retirement. For others, it will cause them to have less money when they are ready to retire. 

Dave Ramsey's worst advice can be summed up in 3 points:

• You can withdraw 8% of your nest-egg per year in retirement, safely.

• You can earn a 12% average annual return by picking good mutual funds.

• You should wait till after you've paid off all non-mortgage debt to begin saving for retirement.

I'm going to break each of these down and explain why it's dangerous advice. I'll also give you a better option for getting the most from your retirement. 

The 4% Withdrawal Rule: Too Conservative?

Dave Ramsey often states emphatically that retirees can safely withdraw 8% of their nest egg per year in retirement. Ignore the rest of this article and this is enough reason for the Dave Ramsey criticism.

I've been a financial planner for over a decade. I'm a Certified Financial Planner and I have a master’s in financial planning, From my experience, I can't tell you how much that statement terrifies me. 

It shows a lack of understanding and it shows hubris. 

The lack of understanding is straight forward. The biggest risk for retirees early in retirement is their sequence of returns risk. This is what happens when you combine a high withdrawal rate and a market drop early in retirement. A market pullback will magnify an already high (over 5%) withdrawal rate. This raises the withdrawal rate and leads to a smaller nest egg throughout the remainder of their retirement. 

Here's an example: 

John retires at 65 with a nest egg of $1,000,000. He's taking $60,000 from his portfolio per year, or 6%. The day after he retires, the market drops by 25% and his portfolio is now $750,000. That same 6% withdrawal of $60,000 is now 8% of his portfolio. His portfolio is worth $690,000. To get back to his original $1,000,000, his portfolio will have to grow by 44.9%!

That's not great, but it's still a better situation than the one that Dave Ramsey recommends. Using his recommended 8% withdrawal rate, John would be taking $80,000 from his portfolio each year. His original $80,000 would be an 11.9% distribution rate after a 25% market drop. Without any growth, that portfolio would be zero after 8 years. Even with growth, it's essentially impossible to get back to the original $1,000,000 value because the $80,000 distribution will gobble up any portfolio gains. 

The Myth of 12% Returns: Understanding Mutual Funds

Dave Ramsey recommends Good mutual funds that are averaging what the stock market has averaged, 11-12%. 

I could write a whole post on the multiple bad assumptions here, and likely I will in the future. For now, I'll break it into two problematic statements. 

1. Stock market average of 11-12%.

2. ...good mutual funds.

Average Stock Market Returns

First, his 11-12% number is based on the average return of the S&P 500 from 1928-2020. That number is close enough, but it's dangerous to base future decisions on a return this high. 

This gets a bit wonky, but I'll keep it at a high level. The problem arises when you look at the distribution of returns.  Theoretically, investment returns are normally distributed around the average. Normal distribution means that 68% of returns fall within 1 standard deviation of the average, 95% fall within 2 standard deviations, and 99.7% fall within 3 standard deviations. You probably heard about this in statistics class at some point. 

The fact is large changes happen more often in real life than a normal distribution would predict. I'm not going to get into skew and kurtosis, I just want to explain the problem here. Having a non-normal distribution means, in this case, that your returns are driven by the left and right tails. Years like 2019 and 2021, with returns of 31% and 29% respectively, drastically increase the overall average return. If you take those away, the average return will drop substantially. Since we don't know what returns each year will be, we have to plan for the worst case scenario.

So, back to Dave Ramsey and his bad advice. When you base your retirement plan on a higher than reasonable number, particularly when your assumption doesn't even consider investment expenses, you're handicapping yourself. If everything works out and you don't run into the sequence of return risk I mentioned earlier, awesome. If things go badly though, you can end up broke or at minimum, living on significantly less income than you had expected. 

Dave Ramsey Recommends Good Mutual Funds (and I justify my Dave Ramsey Criticism)

The short answer here is that good (actively managed) mutual funds don't exist. Maybe that’s too harsh, so I’ll say that it’s impossible to choose actively managed mutual funds that will outperform. 

Dave Ramsey pushes the idea of good mutual funds that match or beat the market. Evidence shows that trying to choose funds which beat the market is a losing game. Looking at the last SPIVA scorecard, 94.79% of large cap mutual funds have underperformed the index over the last 20 years. That gives a 1 in 20 chance of selecting the fund that does outperform. I don’t gamble with my clients’ money and I don't like those odds. 

I'm not even getting into the added expense of actively managed mutual funds. Most mutual funds have fees that are significantly higher than comparable Exchange Traded Funds (ETFs). Those fees, coupled with lower average returns, combine to hamstring portfolio growth.

If you want to read more about my evidence based approach to investing, check it out here.

Beyond choosing better investments, Dave Ramsey doesn't really bring up asset allocation. His 11-12% returns are predicated on an all-equity portfolio and that's not reasonable or safe for most retirees. I often recommend all-equity portfolios for folks more than a decade from retirement, but I wouldn't recommend it for someone who needs income from their portfolio to live. If you have a balanced portfolio with both stocks and bonds, your average return is going to be lower compared to owning only stocks. Going back to Dave's 8% withdrawal rate, if a portfolio averages 7% long term (a reasonable return for a balanced portfolio), that portfolio is going to be getting smaller every year.

Delaying Retirement Savings: A Risky Bet

Dave Ramsey recommends prioritizing debt repayment over saving for retirement. The reality is that nuance matters, and detail is important. If we're talking about high-interest credit card debt, there's a good argument for paying as much as you can on the debt, while still making a large enough contribution to get your full employer match. That's probably your best bet, mathematically. 

That's not what Dave would recommend though. He would tell you to make no contributions until your debt, any non-mortgage debt, is gone. This is dangerous because it delays saving, which lowers your ability to maximize compound growth.

Here's an example:

John is 25 and makes $60,000 per year. He begins contributing 3% of his paycheck into his 401k, which grows at (Dave's rate of) 12% per year. After 30 years, his balance will be $650,920.39. 

If he listened to Dave and spent ten years paying off debt first, then saved for 20 years, he would only have $181,637.48. Those ten years would have nearly tripled his ending portfolio. 

I know. I'm using 12% returns, which make the difference even more drastic, but it illustrates my point that time in the market matters when you're building wealth. 

The other thing Dave ignores here is the benefit of 401k or Simple IRA matching. Getting an employer match is essentially an immediate 100% return on your contribution, money which then grows for your benefit. If you want to get crazy, look at the 30-year return with a 100% match. That $60,920.39 turns into $1,301,840.78. That's a lot to leave on the table.

The Anti-Dave Advice

I've spent 1500 words talking about what not to do and why.

I'm not going to spend another 1500 words on what you should be doing because this isn't complicated.

Here are my 3 pieces of anti-Dave advice:

• 5% is a reasonable withdrawal rate in retirement. Slightly higher can be okay as well, so long as you’re willing to cut expenses in years the market is down.

• 7% annual returns are reasonable by investing in a diversified, low cost, evidence-based portfolio.

• Always contribute enough to get your full employer match, at the minimum, from the very first day.

  
  

Good advice doesn’t require condescension, yelling, or judgment. That’s my take.