By: Chris J. Roe, CPA/PFS
It is not uncommon to ask yourself "Do I Need Life Insurance". Secondly, how much do I need.
To help answer the first question, anyone who has financial dependents but does not have enough savings to support them needs life insurance. Life insurance gives you peace of mind that your dependents will be financially covered even after you have left them. Many people do not like talking about life insurance, it can be an uncomfortable conversation. Moreover, the complexity of determining exactly who needs it and how much they need can be a little overwhelming. The number of people uninsured or under-insured continues to increase as more and more people forgo it altogether, unsure of where to find reliable information regarding life insurance.
In the past, the rule of thumb on "how much" was seven to 10 times total annual income, but that left many under-insured. Keep in mind that there is no one-size-fits-all when it comes to life insurance. It is important to understand your entire financial picture and your family needs before determining the proper life insurance amount.
Physicians are pitched and sold life insurance constantly. While insurance is sometimes purchased unnecessarily, be prepared the next time a life insurance discussion comes up with this simple four step guide.
Step 1: Evaluate Your Family Needs
First determine how much money it actually takes to run your household on an annual basis. Also calculate your unpaid mortgage and outstanding debt. While at it, add all your funeral expenses and any possible Federal or State estate taxes. For example, Pennsylvania levies a 4.5% inheritance tax if passing wealth to your children, but there is no tax to pass wealth to a spouse. In developing a proper estimate, consider how much is needed to generate the family the annual income it needs to live plus pay off debts and final expenses.
Step 2: Consider Future Financial Obligations
In your calculations, estimate the total amount of future financial obligations. This includes the cost of sending your children to college. Do not make a mistake of underestimating your family’s future needs. By doing so, you will be underestimating the amount of insurance you need, putting your family at risk of a financial shortfall. Make an outline of your family’s cash flow needs including long-term financial goals. Add all these factors up and you will have an estimate of the amount of money your survivors will need in the future. Don't forget to factor in the loss of your annual income and current financial quality of life. Remember, the higher your income, the higher your responsibilities and expenditures. This means that you will need more insurance to cover the income loss.
Step 3: Determining Current Resources
Resources should be a sum of all the assets you currently have. Add up your spouse’s income, savings (whether long- or short-term), and any balances in your 401(k)s and IRAs. Remember to add college funds set up for your children and emergency reserves. If your employer provides a life insurance policy for you, you may want to include that as well. But a word of caution on employer provided life insurance. Not always is employer offered life insurance portable if you decide to leave your current employer. Sound advice is to use the employer provided life insurance as a cushion and ignore it for the purposes of determining personal life insurance you need.
Step 4:Calculating Life Insurance Need
Now that you have a rough estimate of your family's needs and assets, you can proceed to calculate your life insurance needs. The difference between your family’s resources and needs should give you an estimate of the life insurance you need.
You can opt to add a critical illness provision to your life insurance policy. This will give you peace of mind knowing your family will be financially protected if you suffer a critical illness and cannot work. Critical illness insurance policies cover illnesses such as cancer and heart disease. After you have purchased life insurance, you should keep reviewing it on a regular basis so that if your circumstances change, it will still offer sufficient protection to your family.
Should you want to discuss your current life insurance policies or consult on how much you may need, please contact us.
2020 All Rights Reserved. This content is developed from sources believed to be providing accurate information, and provided by Twenty over Ten and Rx Wealth Advisors, LLC for general informational purposes only. It may not be used for the purpose of avoiding any federal tax penalties and in no way is meant to provide specific tax, legal or financial advice. Please consult legal, financial or tax professionals for specific information regarding your individual situation. The opinions expressed and material provided are for general information, and should not be considered a solicitation for the purchase or sale of any financial advice or investment security.