How Much Life Insurance Do I Need?
Life insurance isn’t easy to talk about. Nobody likes thinking about the end of their lives, especially when they have families to support, but it’s an important responsibility. You want to make sure your family will be able to grieve without the stress of financial difficulties if a tragedy occurs.
Even if you know you need life insurance, you may be feeling lost about how much you need and what type of coverage is ideal for your situation. There is no one solution that works for everyone. Your ideal coverage depends on your financial goals and the needs of your dependents. Before we explore how much you might need, it’ll help to establish a few facts about life insurance, the types available, and the advantages of certain choices.
What is life insurance?
Life insurance is a type of insurance coverage that protects your family financially in the event of your death. There are different types of life insurance, but the commonality between them is that a policy will pay out to your family members as they see fit. Sometimes it is used to cover funeral and burial expenses, while other times it supplements their income to make up for the fact that you won’t be able to provide financial stability anymore.
What are the different types of life insurance?
There are two primary types of life insurance, and all of them have different costs and payouts associated with them.
Whole life insurance - Whole life insurance is a permanent type of life insurance policy, meaning that a policyholder’s family is guaranteed a payout no matter when they die as long as their premiums are paid up until their death. In some This is the most common type of life insurance. Sometimes, these policies build cash value, which we’ll cover in more detail below.
Term life insurance - Term life insurance comes with a specific timeline, usually anywhere between one to thirty years. These policies guarantee a payout if the policy holder passes away within that specified term. Once they expire, the holder often has the option to renew it for an extension. These are often the most affordable types of life insurance policies. Term life insurance may be ideal for people who only need life insurance until their kids reach adulthood or a mortgage is paid off.
How does cash value work for whole term life insurance?
For traditional whole life insurance, your death benefit and premium typically stay the same throughout the policy’s life. But the cost of insuring someone increases as that person ages. If premiums increased each year as you age, they would become unaffordable after a certain point.
To combat this problem, insurance companies charge a higher premium than needed during a policy’s early years. The company invests this overpayment and uses it to help pay higher premiums in later years.
Once you’ve built a certain amount of overpayments, they become available to you as cash value. You’ll be able to withdraw that money or take a loan out against it under certain circumstances specified in your policy. However, keep in mind that cash value is usually a living benefit, so if you die, it may remain with the insurance company.
A simple formula for calculating how much life insurance coverage you need
Your best option for deciding how much life insurance you need is to consult with a financial advisor or an insurance broker like Streller Insurance Agency. However, you can get an idea of what you need through a simple equation. Follow these steps:
Calculate your financial obligations - Multiply your annual income by the number of years you’ll need to replace that income. Then add all debts, including your mortgage. Add any expenses that will need to be covered after death, like your funeral costs or your child’s college tuition.
Subtract your liquid assets - Once you have your total, subtract all your liquid assets, including savings, college funds, or existing life insurance policies. The number that remains is the amount of life insurance you’ll need to meet your goals.
Try using the DIME formula
It can help to calculate your life insurance needs in a few different ways to see if the numbers are consistent. The DIME formula is a slightly more in-depth version of the previous formula.
Debt - Add up all debts you have except for your mortgage. This includes car payments, credit cards, and student loans.
Income - How much money do you make per year, and how many years will your family need that income if you die?
Mortgage - Take a look at your most recent mortgage payment and note the payoff amount. Because they build equity, mortgages work a little differently than other debts.
Education - Factor in college costs for your children. College has gotten expensive, so we recommend adding in between $100,000 and $150,000 per child.
Other factors to consider when deciding on life insurance
How will your expenses change over time? - Most people’s lifestyle inflates throughout their lives and careers. What may sustain your family now might not twenty years from now. Even if your lifestyle doesn’t change dramatically, inflation will mean that buying power will decrease over time regardless.
Consider time-dependent goals - Do you want to get your kids through college? Pay off a mortgage? Support a spouse up until you would have reached retirement age? If there’s a certain event threshold you want your family to receive payouts until, that will make deciding on an amount of life insurance easier.
Do you want to leave a financial gift? - You may have a charity you want to leave a legacy donation to, or a specific project you’d like to fund after your death. If this is the case, factor the specific amount you’d like to leave into your planning.
Let Streller Insurance Agency be your guide
Deciding on a life insurance policy can be stressful, confusing, and difficult, but you don’t have to navigate the world of insurance alone. Streller Insurance Agency has been helping people protect their family’s financial future for years, and we’d be happy to walk you through the decision making process. We’ll lay out all your options and help you consider your unique circumstances. Together, we’ll find the right policy for you. Start by requesting a quote today.
