How much life insurance is enough?
Computing the total amount of life insurance you should carry depends on a number of factors. The rule of thumb for the life insurance industry is often stated as ten times a person’s annual salary. But that’s really a very rough estimate. Let’s take a more detailed look at your family’s needs, should you die tomorrow.
First, you should look at immediate expenses, such as burial and funeral costs, unpaid medical bills, and outstanding debt. Funerals can easily run between $5,000 and $10,000, without being at all lavish. Let’s assume a conservative total of $20,000 in this example.
Next, consider ongoing indebtedness, such as mortgages, college costs, and any outstanding loan payments. Here, we’ll plug in a figure of $40,000 per year.
You also need to consider the family’s ongoing living expenses, such as utilities, groceries, clothing, automobile costs, etc. Without your group medical coverage, your spouse may need to get new, more costly medical insurance for the family. $15,000 per year seems like a very conservative estimate here.
Finally, you need to consider how long your insurance needs to provide for your family. If your spouse is a stay-at-home mom with young children, or essentially without any marketable skills, you may need to assume a longer time frame than if she is already employed and drawing a healthy salary. For demonstration purposes, let’s assume you want to provide for a period of ten years.
Summarizing, your minimum needs would be:
$20,000 immediately
$550,000 ($55,000 per year X ten years)
$570,000 total insurance
From this, you can deduct such things as present savings balance, other insurance, social security or other pension plan payouts, retirement savings… even additional properties that your spouse can cash in on.
You also need to consider inflation over ten years…figure on 3% annual. Over ten years, that’s an aggregate increase of slightly over 34%.
Assuming that your spouse will invest the insurance payout, you can probably safely assume a 6% return on the investment, which should cancel out the inflationary effect, and then some.
Completing this exercise should give you a good idea of the total amount of life insurance you need to provide, in order to protect your family in the event of your death. Keep in mind that the assumptions stated here are extremely conservative, and your needs may be much greater, depending upon lifestyle, timeframe, number of family members, outstanding debt, mortgage balance, and other factors. There are a number of calculators that can help you with this… MSN has a nice life insurance calculator, as does lifehappens.org. Don’t rely on these exclusively but they will help you get a good headstart.