How much life insurance do I need?
This is not easy to answer. There are so many variables to consider that affect how you approach a decision like purchasing life insurance coverage. Many of us will pick a nice, round number out of the air. “I think $500,000 sounds nice. I’ll go with that.” OR “I earn $100,000 annually. I think I heard someone say that 10 times my income is the way to go. I’ll go with $1,000,000 of coverage.”
We feel more thought needs to go into an important decision like this. To start things off, you need to ask yourself one main question…
What do you want your life insurance to do for you and your family?
This big picture approach will help you get in the right frame of mind. It really makes you think how you would like this to work for your family in the event of your premature death. Once you have done this, you can dive into the details. The remaining questions listed below will help you determine what is most important to you with respect to life insurance planning. What goals do you really want to accomplish for you and your family while you are alive? Most likely, these goals are still important even in your absence.
The following are additional questions to consider prior to plugging numbers into an online life insurance calculator, or speaking with an independent insurance broker:
- How much money would your family need today to live on if you died prematurely?
How much money would your family need on a monthly or annual basis to maintain their standard of living? Normally, we believe 70-80% of prior earnings will be needed to operate the household like before. One less adult in the picture will reduce overall expenses to an extent, but it won’t cut them in half, like you would think. Really take the time to review your monthly bank statements to see what is spent each month.
- What assets do you have?
Total up the cash balances in your bank account, and any investment accounts (IRA, Roth IRA, 401(k), etc). Also, if you have cash value life insurance, include the policy’s cash value in the mix. Consider all of these assets first, and then take into account debt balances, such as a home mortgage or credit cards. This will help you get an estimate of how much life insurance you’ll need. You might find that replacing all your income isn’t necessary.
- How much debt do you have?
As mentioned above, your debt balances play a key role in determining your life insurance need. Aside from replacing income, debt is typically the next big item to consider. Do you want your surviving spouse to have the funds necessary to pay off these debts in one fell swoop? Or do you want to provide enough to take care of the biggest debts only (i.e. mortgage), and the smaller debts (i.e. credit cards) can be managed from there. It’s entirely up to you and your family. Have the conversation to see what you and your family are comfortable with.
- Do you have a stay-at-home spouse?
A stay-at-home spouse not only provides an incredible amount of care giving, but there is also a huge economic value involved. Often, a stay-at-home spouse is inappropriately seen as not needing life insurance. Take a moment to think about what it would cost to hire a full-time caregiver for your children. Each family has different circumstances, but usually it will be decided that some level of life insurance coverage is appropriate for a stay-at-home spouse.
- Have you factored in the costs associated with other financial planning goals?
Income replacement and debt elimination are the easy targets to focus on with life insurance. But what about other financial goals, like providing funds to pay for college education, care for special needs children, funeral expenses, health insurance, or even care for an elderly relative? Some of these may be vital to your family’s situation, and need to be included in your calculations.
