How much life insurance do I need? That is the same question I asked myself not too long ago triggered by the birth of my son. Personally, I think the best way to answer this question is to educate yourself by reading articles like this one, use a few online calculators to get a rough idea, and then actually meet 2-3 life insurance agents, or financial planners, to flesh out the details. Here is the process we went through for our own insurance.
Life Insurance Needs Worksheet
To determine how much coverage my wife and I should buy, we completed the Life Insurance Needs Worksheet provided by an insurance agent.
The worksheet examines the four general factors:
- Date of Birth — As we get older, life insurance becomes more expensive, because of (1) we are more likely to die as we get older, and (2) there are fewer payments for us to make (i.e., in case we buy whole life insurance where we pay the premium until 65).
- Gender — Even if my wife and I are the same age, her premium will always be lower than mine because (1) women live longer on average than men, and (2) men have more risk factors.
- Health — There are several health classifications. When we went through the process the first time with Liberty Mutual, they had classes such as Elite, Premium, Standard, Sub-Standard, etc. People with the best health profile gets the best rate. The sales agent felt that my wife and I should be eligible for Elite because we were of average weights for our heights, and our blood pressure and cholesterol levels were normal.
- Smoking vs. Non-Smoking.
The worksheet also examines seven specific factors:
- Final Expenses Fund — This is the amount we need immediately to cover final expenses — e.g., funeral plot, embalming, casket, etc. He estimated this to be about $15,000 per person. Brip Blap has an excellent piece on preparing for the cost of dying.
- Emergency Fund — This is for unexpected bills and expenses. I thought it was strange that the emergency fund was included in the worksheet, and the sales agent did, in fact, said to skip and ignore it. Personally, I believe everyone should have an emergency fund, and it shouldn’t be part of your death benefits.
- Outstanding Debts — If a spouse dies, the surviving spouse could become responsible for the debts. If both die, the estate is responsible for paying any unpaid debts. So this is something we have to factor into the coverage we need.
- Mortgage and Rent Payment Fund — This is the mortgage payoff amount, or an amount sufficient to cover ten years of rent.
- Education Fund — This is meant to cover our son’s college expenses partially. The agent recommended $100,000 to cover four years of public college, but I believe this amount should be closer to $200,000 — however, I did stick with his suggestion for this exercise.
- Income Replacement Fund — This is the extra money to keep the living spouse, or the beneficiaries afloat for a few years — it’s not meant to be a lifetime income replacement. The recommended amount is five years of current income. However, the sales agent said two years is the minimum, and that’s what he suggested we start off with.
- Current Liquid Assets and Life Insurance — This is the amount of assets that can be readily converted to cash. For our purpose, the sales agent recommended that we exclude the term life policy from my job and our retirement savings, e.g., 401(k) and IRA accounts.
|Final Expenses Fund||$15,000|
|Mortgage and Rent Payments Funds||$188,000|
|Income Replacement Fund||$250,000|
|Current Liquid Assets and Life Insurance||$310,000|
Once we completed the worksheet, it was a simple addition of #1 through #6 and subtract item #7. It turned out that I should buy $380,000 to cover my wife and our son, and she should buy $290,000 to cover our son and me.
Life Insurance Calculator
That was ten years ago. Now you can search the net and find a calculator like this one at Life Happens. For example, this calculator also goes through a similar process and ask a few questions to help you determine how much life insurance you need. This one is a relatively simple 5-step process.
Although this type of calculator makes it convenient to estimate your needs, I personally feel that it is definitely worthwhile to meet 2-3 insurance agents and go through the process in person. This way, you can also hear what they recommend and why.
Options and Premiums
After we determined the coverage amount, we explored the following options for term life insurance and the associated monthly premium.
|20 years term, elite||$30.69||$20.58|
|20 years term, preferred||$37.53||$22.93|
|30 years term, elite||$47.45||$28.94|
|30 years term, preferred||$61.81||$33.63|
He also recommended that we look at whole life policy as a supplement to the term life policy. However, he suggested a smaller amount like $50,000 to $100,000 to supplement our term life policy.
I appreciated that he openly said buying any more than that in whole life is just a waste of money.
Here are the options:
|Description||My Policy||Her Policy|
|$50,000 whole life – pay to 65, standard|
(there’s no elite option)
|$100,000 whole life – pay to 65, elite|
(minimum coverage to qualify for the elite)
Our conversation brought up a few interesting points, not all of which we have the answer to.
- When I mentioned life insurance through work, the sales agent made a good point which I agreed with: the policy ends when I lose my job — and life insurance is something I don’t want to be without.
- The sales agent mentioned that, on average, Americans buy seven life insurance products through their lifetime to supplement, or replace an existing one.
- Life insurance payout is tax-free to beneficiaries. This means that you’ll need less coverage to replace lost income. For instance, if you want to replace $100,0000, you’ll probably need only $80,000. Here’s a helpful marginal tax rate calculator.
- If we can’t qualify for the elite, the sales agent suggested waiting a few weeks to get our health stats in order. As you can see, it’s worth the wait for the differences in saving.
I certainly think it is useful to understand the important components to consider when determining how much life insurance you need to have. Online calculators make it much easier to figure out the amount, or at least put you in the right ballpark. Overall, the best bet is to talk to a professional. The key is the find the right agent or planner with a fiduciary duty to help you figure out the correct amount and the right kind of policy (or policies) for your needs.
Pinyo Bhulipongsanon is the owner of Moolanomy Personal Finance and a Realtor® licensed in Virginia and Maryland. Over the past 20 years, Pinyo has enjoyed a diverse career as an investor, entrepreneur, business executive, educator, financial literacy author, and Realtor®.
I need to get off my bum and re-evaluate my insurance needs too. Thanks for the reminder. I’ve got about $250k in coverage through work but I know I need about double that to be sure my wife is taken care of for a good long while. I keep putting it off because I know I won’t get the ‘elite’ pricing (due to weight) so I’m hoping a few months of going to the gym will get me there (which I’ve been doing regularly since January). When we start having kids that amount will need to go up dramatically too.
Don’t forget that your son would likely get some money from Social Security if one of you dies. I didn’t see that accounted for. And I’m surprised the agent had you ignore your retirement accounts. Insurance is to make you whole again, not profit. If you ignore some of your money you will be overbuying.
Thanks for the mention. It’s an amazingly sobering exercise when you start considering what your family would need to “replace” your income-generation ability, isn’t it? I didn’t enjoy the process much but I’m glad I did it – I sleep easier knowing that my wife and kids will be provided for if anything happens to me. And I think one point you made bears stressing heavily: don’t get life insurance through your job. I relied on a job-based life insurance policy before we had our first child, and I suddenly realized when I quit that job and went into consulting… Read more »
whole life insurance is a horrible product. I’m glad the agent was honest with you.
@My Dollar Plan – Thank you for pointing out Social Security. I will have to do some research to find out how that works.
@Steve – Certainly sobering. Regarding medical insurance, it seems that employer provided insurance is still the best value. I have done some searches in the past and couldn’t find anything that could be my employer’s.
Pinyo you make some excellent points here. It’s important to have enough to cover to take care of the essential elements and these can only be calculated by a clear budget. Medical insurance is one of the biggest aspects to get covered.
I’m not sure that you should ignore your job-based life insurance policy – just be aware that if you changed your job you’d have to replace it. But then, I speak as a single person who is approximately‚ £90k ($180k) over-insured through work alone. If I die, my beneficiaries are going to be absurdly wealthy.
Thanks for the mention by the way.
The insurance agent made a great point about your life insurance being linked to your job, in the event that you lose your employment – but isn’t that the same problem with job-linked health insurance? For some, that may be a selling point for nationalized coverage… I’m not completely convinced that it’s the answer, but that is certainly an argument.
As far as whole life goes, yeah it’s not a very good product. You’d do much better to just buy term and invest the rest yourself. It gives you much more control over the investment options, and ultimately a much better ROI if you’re investing for the long term.
Hi Pinyo, I wish everyone in the market for life insurance was as analytical as you. In a perfect world, everyone should consider all the factors your agent went over with you to come to the amount you need. I’m an agent as well, and I’ll tell you that you are among the few who would take the time and energy to fill out his worksheet. 90% of the life insurance I sell is simply using an income replacement model. No one gets rich here… just leaves enough to have his/her income replaced for x amount of years, with a… Read more »
As an agent, I have some slightly different opinions regarding life insurance. I believe in income replacement, or in the case of a career homemaker, securing the money that would be required to replace those services. I would add onto that final expenses. Beyond that, you are probably covering the same need twice since whatever expense you throw in there would otherwise probably have been paid by the income you already replaced. Term life for a younger healthier person is very affordable because the company is counting on you outliving the term. Upon expiration, it becomes much more expensive because… Read more »
Also, I’m curious what your agent’s reasons were for any type/amount of whole life policy. I’ve always planned on doing JUST term life once my hubby and I have kids.