Life Insurance Reality Check – Do you have enough?

The following is a guest post from AccuQuote.

Life insurance is an important component of your financial planning. If you have a young family, it could actually be the most important element of their security. A lot of people do not have affordable life insurance yet. Among those who already have life insurance, a vast majority does not have enough coverage. Could you be one of them?

What kind of insurance is best?

Life insurance policies come in two basic variants – whole life and term life insurance. Whole life insurance offers death benefits plus cash value on account of which premiums are higher. On the other hand term insurance is affordable because it only concentrates on death benefits for which you pay cheaper premiums. When you are young with a lifetime of loans, expenses and mortgage payments to be paid, children’s’ education and upbringing to look after, you must consider the more affordable term life insurance. Since a term life policy can help you focus on just the death benefits, it makes sense to understand it better, and work out the best coverage amount possible.

What kind of expenses and financial needs should a term life policy cover?

On the event of your death, the death benefit of your term life insurance policy should be able to have your family pay off your funeral expenses and invest the rest so that they can lead a comfortable life much like the one you provide for them now.

• Funeral expenses can work out to be as high as $5,000-$12,000 currently, so that’s why you will need to factor that in to your life insurance planning.
• Next, your death benefit should replace your current income, so that your family can carry on with life without having to make major lifestyle changes. Remember to take into account inflation and rising costs.
• Thirdly, factor in your debts – unpaid mortgage, credit cards and loans could eat into the death benefit amount, leaving your family with very little to take care of other expenses.
• If you were to die, your family would surely have additional expenses to replace the services you used to take care of yourself. If you handle the accounts on your own, or take care of the plumbing yourself, your family may need to hire the services of an accountant, or a plumber. If your spouse is currently a stay at home parent, your family may need the services of a nanny in case he or she decides to start working to supplement their income. It’s the little details that will help you work out your family’s expense requirements better.
• If your kids are young, a part of the death benefit will have to be invested to pay for their college education.
• Consider any hidden income that you may be currently earning, but which would be lost at death. Examples are your perks, your employer’s contributions to your 401(k) plan, health insurance and your retirement fund contributions. Too many people overlook factoring this into their calculations while in actuality they could easily add up to $10,000-$12,000.

How to calculate the coverage amount

There are conflicting views on how to arrive at the perfect coverage amount for your life. Here’s an alarming statistic. The average American has about $170,000 in life insurance coverage. That seems like a lot, but it is only about four times of the average annual income in the U.S. So it’s going to tide your family over for four years, but remember that you’re going to be dead a lot longer than four years. So how do you calculate the ideal coverage amount?

The rule of thumb in the insurance industry says that your coverage should be 10 to 20 times your annual income. However, like we discussed earlier, annual income is not the only factor that should be considered when determining your needs. How much term life insurance you need is a highly individual figure. But if you know exactly what your death benefits should help pay for, then you definitely won’t make the mistake of under-insuring yourself. So the long and short of the ‘how much is enough’ dilemma is that the death benefit you provide your family should be more than your net worth. Use the help of online Life Insurance Tools such as a Life Insurance Needs Calculator to help you arrive at an accurate coverage for your personal situation. Then you can apply for term life insurance quotes.

How often should your policy be reviewed?

If you already own a term insurance policy, that’s not enough reason to think that you have enough death benefit. If you have failed to consider the expenses and the loss of income sources that may follow your death, you will need to review your policy.

Even if you have taken everything into consideration, experts recommend that you review your policy whenever there is a life changing event such as the arrival of a baby, taking in an additional family member, changing jobs, looking after ailing parents, or the loss of a spouse. These events will increase your expenditure.

In times of recession the value your investments drastically dip, while your life insurance benefits remain the same. If you were to die in the next two years, your investments would have accrued a lower income than expected due to the present economic crunch. Have you factored this into your life insurance plan? You may need to review your term policy especially during economic downturns.

Conclusion

The best way to review your term insurance policy or work out the death benefits on a fresh term life policy is to consult with an unbiased insurance advisor, preferably one who represents a large number of life insurance companies. The advisor will ask you in-depth questions on your finances and help you arrive at term life quotes that are just right for your family’s needs.

Comments

[LeanLifeCoach]

"Next, your death benefit should replace your current income, so that your family can carry on with life without having to make major lifestyle changes. Remember to take into account inflation and rising costs." - Forever?

Is replacement of income realistic? Depending on your age this might require several million dollars of life insurance which would be a significant cost. I don't see this.

If ample insurance is obtained that will cover mortgage, college etc... then full replacement of income is not necessary.

The other factor that needs to be considered is when to reduce or eliminate term life.

[MC]

I agree with LeanLifeCoach--Life insurance even for the young and healthy is quite expensive, and it protects you from something that mostly has a very low chance of occurring.

Thus, I believe life insurance should be regarded as "catastrophe-prevention insurance" and it should therefore ideally be computed assuming a high deductible cost, rather than as something that would protect your survivors against any financial loss or risk at all for the rest of their own lives.

A sensible level of life insurance is needed to cover funeral costs, paying the mortgage for a couple of years, and perhaps college costs for your children. Maybe $600K or so. More is needed (of course) if you have special circumstances to consider such as a developmentally-disabled child. But if not, why would you need it?

Even if no one dies, I believe that all spouses should have some kind of training/career and be able to support themselves financially if they have to. Because every married person is at risk of "losing" the income of their partner in case of divorce! Losing a partner through divorce is much more common than losing one to death. Especially if you're under 60 or so.

If you're dead, at some point your family members will just have to deal with it and move on with their lives. It's not being "mean" or "irresponsible" to expect your family members to be able to generate much of the day-to-day income they need a few years after you die. Especially if you have savings/investments and if your life insurance covers huge costs like college. I don't think you need to "provide" something like lottery winnings for them.

[Todd]

I agree with MC and Lean life coach. Most of the people I know have too much life insurance. So much, that their surviving spouse could retire and never have to work again (my friends are in their early 30's). I personally wouldn't want that for my family. There are lessons to be learned by living within your means and working. I do think that a reasonable of life insurance should be expected.

Also, I have never heard any one factor in social security surivor benefits into the equation. If I were to pass, my spouse and children would receive close to $3700 a month until the kiddos reach 18. With a paid off mortgage, cars, and college funds set aside for the kiddos (all from the insurance pay out) that should be plenty to survive. Consider SS pay out on top of life insurance benefits and I worth may dead than alive.

[Old Limey]

The answer is very simple.
When you have a large responsibility for other family members and insufficient savings you need insurance.

While I was working, the most important insurance that I had was disability insurance. It was offered by my company and if I became incapacitated and unable to work it would pay 2/3 of my income for life, if necessary. With a wife that was taking care of 3 young children and with me as the sole breadwinner, to not have had this type of insurance would have been a dereliction of my responsibilities and obligations as a responsible husband and father. Of course, if I became unemployed this stopped, hence the absolute necessity of living within our means and saving all we could. This way, as our savings kept growing our vulnerability continued to decrease.

The next type of insurance is Life insurance. While I was working my employer provided a lot of free life insurance. In addition I purchased additional term life insurance. Today I have ZERO life insurance.

You also need adequate automobile and homeowner's insurance. The greatest vulnerability here is being sued if your actions cause serious injuries or death to another person. The typical $300K/person liability is insufficient, therefore I also have a $2M Umbrella insurance that takes over if the regular insurance is insufficient. One other thing that I feel very strongly about is this - I do NOT allow non family members to ride in any automobile that my wife or I are driving. It doesn't matter that they might be good friends. Take my word for it, even if a good friend was killed or seriously injured in your car due to your negligence you would be sued, and sued Big Time if you are wealthy. That's how it is in today's lawsuit happy world in the USA.

Maybe my overly protective attitude is because my wife and I came to America in 1956 as immigrants with $400 between us and if problems befell us there was nobody at all that we could turn to for help. We didn't even have enough money to return to England. Thus for many years while we were raising our three children I had a huge burden of responsibilty hanging over me. In addition to having very adequate insurance I also felt a huge responsibility to work hard, further my education, and to make myself such a good and indispensible employee that I would gradually move up to near the top of the stacking chart used to determine layoffs in my department.

Now, after being in this great country for over half a century we are very, very secure, as are our three children, and I feel very good about that. I could never have done it without the lifelong support, hard work, and devotion of a wonderful and very loving wife and mother. My wife was very anxious to return to work as soon as the children were old enough and had a good career as a pre-school teacher for which she now has a good size IRA and receives a nice pension. Our three very hard working children have each done well, are raising their own children (as well as two California born adoptees) and are totally self supporting, and like ourselves, paying lots of state and federal taxes.

My motto: Charity begins at home - My first responsibility is to protect my own family against the hazards of life.

[Crystal]

Since we could support our lifestyle on one of our incomes and have no children, we only have enough insurance coverage on each of us to pay for the funeral, pay off the house, and cover a little extra for a few years.

[Crystal]

We have short term and long term disability as well. :)

[BD]

Do you need life insurance if you have no family whatsoever? Like, say I die single with no dependents, and no traceable family. What happens to my body? Who picks up the tab if I don't have life insurance?

[Ben C]

BD, in that case I wouldn't bother. If you have no family, why would you care, you're dead! Just be sure to kick the bucket near a place where we can easily dispose of your carcass, like a trash dump or incinerator ;)

Personally I have around $600K which will pay off all our debts (house and minivan) and provide a little for my wife and two kids My wife is a SAHM and I definitely wouldn't want her to have to go out and get a job until my kids start school (they're both two). However I definitely don't feel like I have enough and will probably get another term plan to bring up the insurance to 1 million. But right now we're focusing on retirement and savings so the additional insurance will have to wait until I can bring in more money.

[BD]

Ben C... LOL, really! That'd be MY line of thought (hey, if you're dead, who cares), but really, it was a bit more serious of a question. I'm genuinely curious what happens in those cases. Does the state have to pick up the tab? Or is it really no hassle for anyone (ie, they just give the body to a university or dump it in the dump).

[MC]

Actually, if will your body to a university medical school, they'll pick up the tab for all the funeral expenses. Win-win.

[IB]

Not to sure where the USA insurance companies stand on disputing a genuine claim on the grounds of not disclosing information whether it is relevent or not like the UK insurance companies do and the sad thing is for many policy holders is that they are entitled to do so in the law that stands at the moment. Some of the UK laws go back to 1906 and have never been amended to stay up todate with the current times on this massive industry.

[Terry]

What can a person do if they are uninsurable?

[J in FL]

insurance,

Depends on what you are referring to.. in most cases, insurance companies have 2 years from the date the policy takes effect to find evidence when disputing a claim to get themselves off the hook. But if, for example, you make it past those first 2 years and then something happens that resulted from something that you did not disclose and you file a claim, you're in the clear, and they have to pay.

There's a lot of different scenarios, each with different outcomes. So it just depends what you mean.

[J in FL]

Terry,

For a person that is uninsurable, there are still options ("safety nets," if you will) out there... mostly in the form of government programs, ect.

[Terry]

Sure there are lame government programs, but you won't be able to leave any assets to your family.

[Byron Udell]

LeanLifeCoach,

Life insurance is one of the best ways to protect your family, especially if you’re the primary breadwinner. You’re right in that your life insurance policy should cover existing expenses like your mortgage and children’s college costs, but your policy should also allow your family to continue living the lifestyle their used to should something unexpected happen to you. Think about this – Losing a loved one is a hard enough tragedy to overcome; life insurance simply allows your family to get through those though times without financial stress.

Financial experts recommend purchasing a policy that is 10 to 15 times your annual salary and a term length that will last through your children’s college years. However, keep in mind that life insurance is not a “one size fits all” product. It’s really up to you to determine how much will be enough to protect your family. That’s why, as hard of a topic it is to discuss, it’s important to plan for your own or your spouse’s death.

It’s also important to keep in mind that even if you’re not the primary breadwinner, life insurance is an important piece of your family’s overall financial plan. For example, if you’re a stay-at-home mom, you are probably responsible for many things that would otherwise cost your family thousands of dollars a month if your spouse had to pay someone else to do them, such as childcare, housekeeping and transportation.

I’ve been in this business for more than 20 years and I have yet to have a family member of a deceased client tell me that the death benefit they received as a result of their loved ones death was too much money. However, I have heard “I wish we would’ve purchased more.”

I represent AccuQuote and this is my personal and professional opinion.

[Byron Udell]

MC,

Term life insurance rates are actually near historic lows, especially if you’re young and healthy. For example, a healthy 40-year old male can get a 10-year level term policy worth $500,000 for under $21 a month! Rates are lower the younger you are, so it’s important to purchase a policy now rather than wait a couple of years. Also, as you get older you may develop a chronic illness that could cause you to be ineligible for life insurance all together, so buying now is the best way to go. Again, I’ve been in this business for many years and have seen too many incidents where people want to wait to buy a policy and they’ve ended up uninsurable or even worse.

I represent AccuQuote and this is my personal and professional opinion.

[Byron Udell]

Terry,

If someone is uninsurable, they have a number of other options. They can look into an Accidental Death and Dismemberment (AD&D) policy or a Quick Issue life insurance policy. These policies don’t require a medical exam. In addition, if you’re employed take advantage of group term life insurance benefits. The rates for these policies are inexpensive and convenient.

I represent AccuQuote and this is my personal and professional opinion.

[MikeS]

I've got a 20-year term policy with a death benefit of $1.5M and it only costs me $54 a month. I'm a healthy 34 year old male. Maybe it's more coverage than my wife needs (we've got a 2 year old at home), but what if there are no other safety nets when I pass. What if Social Security has changed and she doesn't get anything. I personally would rather be safe, than sorry.

[Strick]

I found the first 3 comments a little strange. The 2 main points seem to be that you just can't replace your income and that your family doesn't 'deserve' a lottery ticket anyway.

I calculated what additional funds would be needed for my wife to cover our regular expenses, just like I do when I calculate what I need for retirement (this is not replacing income, which is much higher than expenses if you have a decent savings rate). This of course takes in to account factors like savings, a paid off house, a 4% withdraw rate, and a period of SS survivor payments. I was able to cover this, much like MikeS, for just around $50/month.

Why wouldn't I do this? (I understand it would be different if I were in a different place financially and really needed the $50). I'm all about tough love for my kids, but for my wife and mother of 3 that I widow? Is there really a chance of me 'spoiling' her?

[Alice Matthews]

I am looking into starting a life insurance policy, and this page has proved incredibly informative! not only the article above but also the comments, if anything these have been more helpful!! Its advice from real people who are in a similar situation to me and that's what I need! So thank you everyone for taking the time to post! You've really helped me!

[Crystal]

@Alice
I know what you mean! I can't read an FMF post without reading all the comments as well. :-)

[ALI]

Some suggestions on ways to save money while purchasing the life insurance policy that is right for you.

1) If you don't need life insurance, don't buy it. Don't buy more insurance that you actually need in order to provide financial security for your family.

2) Shop around for competitively-priced life insurance policies while you are healthy. Don't smoke, or do anything that might increase your rates. Take care of yourself by exercising regularly and maintaining a moderate and healthy weight.

3) If you purchase a term life insurance policy, look for guaranteed and renewable policies. That way you won't have to periodically continue to shop around for those life insurance policies.

4) You should only buy optional forms of coverage such as riders only if necessary.

5) Shop around and compare life insurance policy rates and coverage. There are thousands of life insurance companies to choose from. It is advised that you get at least three separate quotations of life insurance, and then decide which is the best for you.

[Holly]

ALI- I would agree w/#4 with one exception...an extremely affordable rider on my $250,000 policy allows for life insurance for my 3 kids; It would pay for funeral costs, but more important, it also guarantees acceptance for them to purchase their own life insurance in the future regardless of any illness or reason that they could be otherwise deemed uninsurable.