If you’ve opted to create to a life insurance plan and have already selected a life insurance agent to work with, you’ll have to determine how much coverage you actually need. While some agents use a formula to recommend a certain amount of coverage for each client, the amount may not be enough. Here are guidelines on how to review your income, calculate annual expenses and assess the needs of your family:
1. Avoid overly-simplistic formulas and calculators. While these can be helpful for calculating a baseline amount to work with, most fail to take into account your individual needs. For example, you might need more life insurance if you have a large family and several beneficiaries, children who will need college expenses taken care o, or high mortgage payments that might not be made throughout your lifetime.
2. Consider your current earnings and adjust for inflation. Many people make the mistake of buying life insurance coverage to replace future earnings, but doing so fails to take into account the cost of future expenses your beneficiaries might incur, such as college tuition, wedding expenses and a home purchase. Your calculations also need to be adjusted for inflation. Talk to a financial planner or advisor to determine those expenses.
3. Factor in current and future annual expenses. Take a close look at your budget to determine how much it costs to maintain your family’s current lifestyle and how to predict these expenses will change in the near future. Multiply your family's annual budget by the number of years you want your life insurance policy to provide coverage for. If this ends up being more than five or 10 years, you need to adjust those expenses for inflation.
Choose a percentage increase year after year to get a realistic figure of how much your future expenses might cost, so you can adjust your coverage amount accordingly. You can separate this expense category into living costs and large-scale expenses, like college tuition for your kids. Remember your family’s lifestyle might change significantly if a young adult moves out of the home and is taking care of their own living expenses, if someone in the family requires ongoing medical care or if you anticipate moving into a different home in the near future.
4. Review current resources. You may end up buying too much coverage if you don’t factor in how much you already have in saving, or how much your assets are worth. If you have investments or assets that can be liquidated, include them in your will for your beneficiaries. The value of your life insurance policy may be significantly lower after you factor in the value of those investments and any funds tucked away. Talk to a financial planner to determine what your net worth is and how much you have in liquid assets.
5. Review outstanding debts and liabilities. You want an accurate idea of how much debt you’re carrying, as these responsibilities may end up on your partner’s or beneficiaries’ shoulders. Liabilities may also include medical and funeral expenses incurred around the time of your death.
Check out Wise Bread’s insurance center for more tips on how to buy the best life insurance and additional tips from Sabah Karimi.