How Much Life Insurance Do I Need and When Should I Get It?

As an adult, there are many things you want to make sure you do right. When it comes to getting your financial resources in place, it’s hard to feel accomplished in this area if you haven’t considered life insurance. Life insurance is something everyone needs to explore at some point in their life. For you, that time is probably now.

Why Buy Life Insurance

Life insurance is an essential piece of the total financial puzzle for you and your family because it can be a tool in helping your family achieve their financial goals, long after you’re gone. Not everyone needs to have life insurance in place, but most of us do.

Suppose you’re single, with no dependents, and have enough money saved to cover your funeral expenses and any other financial obligations you may leave behind. In that case, life insurance will probably be at the bottom of your list of priorities. But if you’re the primary provider for your family, and should anything happen to you, they would be in significant distress. You should seriously consider getting a life insurance policy.

As soon as you realize you have people depending on you or you have expenses that could possibly leave family members in debt, the responsible response is to make sure they’re covered through life insurance.

Financial Obligations Your Life Insurance Should Cover

If you’re wondering what types of financial obligations life insurance should cover, here’s a simple list:

Income replacement: If you’re the primary provider or one of the providers for your family, your income will be missed when you’re no longer living. Life insurance is a way to help replace that income so the family doesn’t feel the financial burdens of you not being there.

A mortgage: If you have a mortgage, consider the value of insurance allowing your loved ones to pay off the mortgage.

Other debts: Consider other large debts you have that would weigh heavily on the loved ones you leave behind.

College expenses: If you have small kids, consider the cost for them to continue their education beyond high school.

Final expenses: You don’t want to burden your family with the cost of your funeral expenses, so having enough insurance to at least cover the cost of your final expenses would be expected.

The Rule of Thumb for How Much Life Insurance You Need

When considering how much life insurance you need, the general rule of thumb is to multiply your annual income by 10. For instance, if you earn $60,000 now and multiply that by 10, your life insurance coverage would be $600,000. But everyone’s situation is different, and the bigger your insurance policy, the more it costs. So not everyone can afford the same amount of life insurance. If multiplying your income by 10 seems like too large an amount to afford, then try multiplying your income by at least 5 or 7.

Methods To Calculate Your Life Insurance

Multiplying your income by a certain number is the easiest way to determine how much life insurance coverage to get, but there are some other ways you can use to help determine this amount:

The DIME Formula

The DIME formula considers your future earnings and expenses and stands for Debt, Income, Mortgage, and Education. These four significant factors will affect your household after you’re gone and can help provide a more detailed estimate of the amount of life insurance coverage you need.

Debt: Total all of your debts, with the exception of your mortgage. Debts should include automobile payments, credit card debt, student loans, other loans, and the amount to cover your burial expenses. Depending on the type of funeral you want to have, that could be anywhere from $10,000 to $15,000.

Income: Take the income you currently earn and multiply the years your youngest child graduates from high school. So, if you earn $45,000 and your youngest has five more years of public school, that number would be $225,000.

Mortgage: Look at your mortgage statement and get the payoff amount. If you have a second mortgage, do the same and add them together to get the amount to pay off your mortgage.

Education: Not all kids decide to go to college, but if yours do, you can be ready. Factor in an additional $100,000 per child.

Add these four factors together to get the amount of insurance coverage you need.

Human Life Value Estimation Method

Many insurance experts use the Human Life Value (HLV) Estimation Method to also calculate the amount of insurance a person should have. This method is equivalent to your lifetime income potential — what you’re currently earning and what you expect to earn in the future (had you not died). This can be based on many variables like age, occupation, the number of years you’re projected to work, and current benefits. To calculate the HLV:

  1. Determine what your current income is
  2. Subtract your expenses, any insurance premiums, you may have, and income tax payments
  3. Determine the number of years you have before you’re eligible to retire
  4. Determine the inflation and discounting factor rate
  5. Determine the current value of the required income stream by adjusting inflation

HLV calculators are available online on many insurance websites, or you can have an insurance agent work with you to get the appropriate insurance amount.

The Bottom Line

If you have people who are depending on you, the best time to get life insurance is now. They are depending on you for years down the road. Leaving your loved ones unprotected as a result of your early demise, is only setting your family up for more financial hard times down the road. Losing you is hard enough, but now they risk losing their way of life as well.

If you’re not able to afford the maximum amount of coverage for your family, at a minimum, leave enough coverage that would allow them to cover your final expenses without having to go into more debt.

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