DETERMINING YOUR LIFE INSURANCE NEEDS
So far we have looked at our balance sheet and accurately assessed where we stand on our income and expenses, now we need to discuss life insurance. If you have ever have spoken to anyone about financial planning, you knew this was going to come up sooner or later. How much life insurance do you truly need? This is a difficult question, with several variables. Remember, you can request a calculator that will assist you in answering this question.
WHY LIFE INSURANCE
First and foremost is the provision of a lump sum death benefit for your surviving heirs to have sufficient cash in the event you die too soon. This cash can be used for paying off debts. Ideally, the death benefit could be used to establish a fund for your spouse to live on until retirement. In addition, your heirs will need sufficient funds to provide for funeral arrangements. These days even a budget funeral can cost $15,000. The death benefit can also be used to provide funding for your children to go to college, get married, or have a down payment on their first home. It can give you the ability to provide for your family even though you are no longer there.
All of the aforementioned purposes are in the event of death, what happens if you live? If you purchase a policy that has a cash accumulation account, the life policy can become another bucket to accumulate some wealth that earns tax-deferred. Better yet, the cash is available by a loan provision in the event you need to tap into the funds prior to retirement. I have used my cash value for a number of things, the most recent being a new roof for our house that we are remodeling. I intend to pay off the insurance policy loan upon completion of the remodel. A cash value life policy can be a great financial asset if you are able to afford it.
Lastly, if you are disabled and paid for the waiver of premium benefit, the life policy premiums will be paid for you and the policy will fulfill its intended needs in the event you are no longer able to pay for the premiums.
Determining your life insurance needs is where the calculator can really come in handy. It allows you to input information to help you to calculate the necessary death benefit. Remember that inflation is a factor in the estimated costs of final expenses. Long term a good rule of thumb is 3.00% for inflation. Additionally, the investment return assumption should be considered; what are you able to earn on your investments over time? If you are conservative and have your savings in guaranteed interest-bearing accounts, your rate of return will be low like 3 to 5.00%. If you invest in mutual funds, equities and real estate, you may want to place a higher rate of return of 7 to 9%. But, be sure to err on the side of caution.
To Be Considered
As I mentioned earlier, a budget funeral can cost $15,000 and needs to be allotted for. I am assuming that pay-off calculations would be for short-term debts only. Many insurance agents will put your total mortgage amount to be paid off, I usually do not. Though it would be nice to have the house paid off, purchasing enough life insurance to pay off your mortgage is a preference item, and should be discussed thoroughly with your spouse.
Also, consider any retirement assets you would be willing to liquidate upon death? The cost of your children’s future college needs is a large consideration. How much will your spouse need annually to survive or to live comfortably after your death? Are you providing the entire income for the family or is your income supplemental? How much more will your spouse need while any children are still at home? Are there social security benefits to be paid while your child is under 18; we need to include these for an accurate assessment and reduce the income need.
Bottom line: you are planning to be able to take care of your family.
For Example …
Let’s say the inflation rate is 3.00%, and the investment return assumption is 6.00%. We are calculating from the current year and plan for a budget funeral of $15,000. We will also assume $30,000 in debts to be paid off, and we are not liquidating any retirement assets.
Let us assume the spouse is currently working, would continue to work, and would only need an additional $20,000 in income per year and their current age is 38. There is only one child, who is 10, thus we would need the additional income for eight years of school and four years of college would equal a total of twelve years of income needed. Lastly, we need $100,000 for a lump sum to pay for their college.
In this scenario, we will need $350,951 to fund all of the potential costs in the event of your untimely death.
I am sure many of you are surprised at the amount of life insurance needed and may find it difficult to pay for such an amount. You may find that you can only purchase a portion of the life insurance needed today and may add to that amount at a later date. That would be better than having no life insurance and leaving your family in dire financial straits upon your death.
Life insurance is an integral part of a financial plan for it provides for your family\’s future and makes sure that they will be able to continue on without you in a financially sound manner. This is a part of risk management, the management of the risk of dying too soon. I am sure you have heard this too many times as well, you insure your house and your car, you need to insure your life.
Corey N. Callaway
Investment Advisor Representative