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Introduction to Life Insurance
Choosing the type and amount of life insurance you get can vary greatly, depending on your needs. It’s best to sit down with a financial planner or licensed insurance agent and review your specific needs so you get the right policy for you and your family.
Most people use life insurance to replace the income that’s lost when a breadwinner dies. But there are many different factors to consider in doing this.
If you earn $50,000 per year and you’re the only support for a non-working spouse and two children aged 9 and 10, how much life insurance do you think you would need to replace your income at your death? The simplest answer would be the amount of “investable cash” needed to generate $50,000 each year. If the cash earned 5% interest, that would mean you’d need $1 million worth of life insurance, but as mentioned, there are many other factors to consider, such as:
- How much income will your surviving dependents really need if you died today? They will need to keep paying the mortgage and other necessary expenses, but they won’t need to pay for a second car, or the taxes that come out of your earnings now, etc. So their real needs might be only $35,000 per year, not $50,000.
- How long will your children and your spouse need this income? For your children--until age 18 or through college? For your spouse--until he/she goes to work or until age 65? One option is to choose 15 years of replacement income, so your children can get through college and your spouse can become self-supporting.
- How much of your yearly income need will be met by Social Security survivor benefits? You can get an estimate of your survivor benefits at www.ssa.gov. For many in this situation, these benefits can reduce the income needed by $5,000 per year, to $30,000 per year.
- Are you willing to use the “principal” of your invested life insurance proceeds as well as the earnings to meet your survivors’ income needs? If so, that also greatly reduces the benefit amount needed.
With all of the above factored in, it would take a life insurance benefit of about $327,000 invested at 5% to allow your survivors to take $30,000 at the start of each year for 15 years. Other factors to talk to your insurance advisor about include lump-sum needs at death such as burial expenses and paying off debts, and using any existing savings to reduce the insurance needed.
Don’t wait! Even in tough times, life insurance should be part of every breadwinner’s budget!
Tim Clegg, CFP®
