How Much Life Insurance Should You Buy?
For individuals with dependents who rely on them financially, life insurance coverage is an important protection to have.
After all, you wouldn’t want to leave your loved ones out in the cold upon your passing. But how much protection is enough?
When determining how much coverage you should purchase, you first determine how much money your dependents will need if you should die:
Death-Related Expenses: The first group of expenses you will need to tally are death-related expenses. These expenses can include costs associated with your funeral, any other final costs related to your passing and any estate taxes that might be imposed on your dependents. Today, a typical funeral could run around $7,000. If you elect to be cremated, the average cost is about $5,000.
Total Debt: The next component of determining your life insurance plan is the amount of your total debt, which will need to be paid in full upon your passing. This figure should include any auto loans, mortgages, credit cards and other types of loans. You will want to purchase enough protection to cover this total amount in order to avoid burdening your loved ones with these left-over expenses. You also might want to include a little extra coverage to account for any interest tied to these debts.
Income Replacement: To determine how much coverage you should purchase to adequately replace your income should you pass away, you should do a quick calculation. Many experts recommend setting aside enough coverage that, if invested at an annual 8 percent interest rate, would yield on a yearly basis the equivalent of your current annual income.For example, if your annual income is $50,000, your life insurance policy will require a lump sum payout of at least $625,000 – essentially, the $625,000 payout would yield $50,000 annually in interest payments. You also might want to consider adding another $50,000 on top of the $625,000 to account for future inflation.
Future Expenses: Often, when people prepare for their passing, they want to ensure that special considerations are made for their loved ones. These considerations could include special living arrangements for their spouse or setting aside a college fund for their child. These types of considerations also should be included in determining the total amount of protection you will require.
Calculating Your Coverage Needs
Based on the factors listed above, the following is an example of how much protection would be required based on the stated hypothetical figures:
- Funeral Expenses: $5,000
- Mortgage: $200,000
- Replaced Income: $675,000 (to replace $50,000 annually, accounting for inflation)
- Child’s College Fund: $100,000
- Total Minimum Life Insurance Coverage Required: $980,000
There are instances when you might not set aside as much as you first calculate. For example, if your spouse earns an income or will receive payments from Social Security or other types of investments, you can take that information in account when determining how much of your annual income will actually need to be replaced to ensure that your spouse can manage financially.
For example, you might determine that you should replace only $30,000 of your income per year versus $50,000. If that is the case, then you would require a lump sum payout of $405,000 ($375,000 plus $30,000 for inflation) instead of the originally estimated $675,000.
Once you have a good idea of how much protection you will need to purchase, your next step should be collecting as many quotes as possible so you can compare the different rates and select the best policy to meet you and your loved ones’ needs.
You can obtain those quotes by completing our secure online form.