Baby Step 3 of Dave Ramsey’s Plan is to raise your Starter Emergency Fund until it contains 3-6 months of expenses.  Now that you are debt free except for your home mortgage (if you have one), take all of the payments that you were making toward credit cards, student loans, and car payments and throw it into your Emergency Fund until you get 3-6 months worth of expenses saved up.  According to Dave Ramsey, 3-6 months of expenses represent between $10,000 and $15,000 for most households. 

Unlike the $1,000 that you saved for Baby Step 1, you will not want to keep this in cash.  Instead, you should keep your Emergency Fund in something like a Money Market account that has check writing and/or check card privileges or a basic savings account.  The key is to have quick and easy access to the money with no penalties for withdrawal.  Therefore, you would not use a CD (Certificate of Deposit) for your Emergency Fund because there are penalties for early withdrawal.

Remember, also, that you should not be concerned with the interest rate of your Emergency Fund account.  The Emergency Fund is not an investment.  It is insurance against life’s unexpected events that could not be budgeted for in advance.

After you have completed your Emergency Fund, DO NOT TOUCH IT…  except if you have an unexpected event that leaves you with no other options.  A new HDTV IS NOT an emergency!  Neither are automobile repairs.  If you follow Dave’s budget forms, then you would realize that Auto Repairs is a standing category and you should save for them all along in a separate slush fund.

In our situation, my wife was comfortable with $10,000 in the Emergency Fund.  I wanted $20,000.  We compromised and settled on $15,000.  It is in a Money Market account with a large national bank and, currently, earns about 1.5% interest.  Again, interest rate does not matter here, but I wanted to let you know what to expect.

If you are a follower of Dave Ramsey’s plan and you have gotten through Baby Step 3, take a deep breath and pat yourself on the back.  You are debt free except for your mortgage and you have $10,000-$15,000 in the bank.  Life is pretty good on the planet when you first get yourself in this position.  Realize that you are now way ahead of most of your neighbors, friends, co-workers, and family members financially.  Congratulations!

Baby Step 1 of Dave Ramsey’s Plan is to very quickly save $1,000 to be used as a starter “baby” emergency fund.  This is to be done first, before paying extra on any debts.  The reason for this is so that you have a small cash reserve on hand to cover emergencies that spring up while you embark on the next baby step, paying off all of your debts except your home.

My wife and I embarked on Baby Step 1 on August 1, 2003.  We were fortunate in that we already had $585 in a savings account, so we only needed to save $415 more.  We accomplished that and started Baby Step 2 within the first month.

In Financial Peace University, Dave Ramsey says that when you make the decision to change your life and get out of debt, God will send a test your way to make sure that you are really serious about working the plan.

Our test came on the very first day of Baby Step 1 in the form of an alternator going out on my 1998 Pontiac Grand Prix.  In the past, when an alternator went out, I would take my car to a dealership and pay, or rather put on a credit card,  $400-500 for the repair.  Working Dave’s plan forces you to seek alternatives to the way you used to do things.  Instead of taking the car to a dealership, I went to Advance Auto Parts and purchased an alternator for $87.  I then called my father-in-law who is good with cars and he came over and installed the new alternator.  We passed our first test with flying colors.