For better or worse, you’ll know you’ve grown up when it’s time to buy life insurance. For me, it was immediately after having our daughter, Molly. I bought a term policy so that, in the event the unspeakable happens, Lauren wouldn’t worry about making ends meet or paying for Molly’s education after I’m gone.
Recently we welcomed our second child into the world, and I’m revisiting how much life insurance we both have and will consider buying more.
How much life insurance you need is an irksome question because 1) it’s somewhat subjective and 2) it’s a moving target.
Put simply, in the event you die, you want your spouse and children to be able to continue their lifestyles without worrying about money. You may also want to provide for future expenses like your children’s education.
If you have investments or other assets, you may only need enough life insurance to make up the difference between your assets and your family’s potential needs.
Here’s a simple calculation:
1. Annual income to replace: ________________
2. Predicted retirement age: ________________
3. Current age: ________________
4. Years until retirement (line 2 – line 3): ________________
5. Total income to replace (line 1 x line 4): ________________
6. Amount for children’s education: ________________
7. Amount to pay off mortgage or other liabilities: ________________
8. Total amount needed (sum of lines 5-7): ________________
9. Existing nonretirement assets: ________________
10. Existing life insurance in force: ________________
11. Life insurance needed: (line 8 – sum of lines 9-10): ________________
As you get older, earn more, have kids, and live a correspondingly more expensive lifestyle, how much life insurance you need will go up … to a point. As you get closer to retirement age and accumulate more wealth in savings and investments, you will need less life insurance to make up the difference.
The primary factor in determining how much life insurance you need to buy is how much will cover your family’s expenses. The easiest way to calculate this is to multiply your income by the number of years until retirement. Hopefully, you’re currently spending less than you earn, so the income will be ample to cover current and future needs. If, however, you can’t afford to buy that much coverage right now – you might estimate a lesser amount that your family would need to cover expenses each year.
Paying off mortgages and other liabilities
In the event of your death, you may want to ensure that your surviving family doesn’t have to worry about the mortgage or other debts. Although they could continue making payments using the annual income from the life insurance payout, you may want to leave them with enough simply to pay off the debts right away.
Many lenders sell insurance policies that will pay off the loan balance in the event of death, but it’s typically more affordable to get a higher value traditional life insurance policy.
In the event you have student loans or other obligations that were cosigned by somebody other than your life insurance policy’s beneficiary (for example, a parent), you’ll also want to ensure the life insurance policy provides enough to repay this balance so the cosigner isn’t saddled with the remaining debt after your death. Ask your insurer if they will allow you to designate multiple beneficiaries with specific amounts. If not, you’ll need to draft a will that stipulates who gets what.
How much life insurance you need is a personal decision that you should make with your spouse and financial planner, if you have one. It’s easy to go through the process of buying life insurance online and get in touch with an agent who can help you determine how much you need.