Owning life insurance is necessary to protect your family in the event something was to happen to you. Many are aware of the need for life insurance but unsure how much and what type is adequate for their situation. We answer common questions surrounding life insurance needs and determining the proper coverage to protect your household.
How do I know how much life insurance I need?
It starts with your essential financial planning. Develop an understanding of your budget, objectives, and goals to determine how much is needed to provide for your family. Consider paying off debt, education expenses, ancillary one-off expenses like wedding, graduate school, etc. Don’t forget to include the replacement of income to your household, which is the most significant priority relative to life insurance. In doing so, you will want to calculate through either a human life analysis or traditional needs analysis. A human life analysis dictates what the replacement of your income to your family would be worth. However, a traditional needs analysis takes each of those expenses plus the desired income needed to be replaced and calculates the appropriate amount.
This may sound complicated, but a Certified Financial Planner can assist with this calculation.
Should I choose term or whole life?
There isn't one right type of life insurance. Term life is the most basic. It's equivalent to renting your policy for a specified period, typically 10, 20, 30 years. If you're getting term insurance through your employer, that coverage is tied to your employment. Once you separate the service, your coverage will end at that point.
Whole life is a permanent product, meaning it will last as long as you do. It will build up cash or equity value and produce a dividend dependent on the company and its performance. This dividend can be used to buy additional insurance or offset the premium that's required. Whole life insurance is not for everybody. It comes with a much higher price tag. Many individuals look at it as an alternative savings vehicle and a non-correlated asset not subject to the ups and downs of the stock and bond market.
What else should I consider?
One of the critical factors that many don't consider is "how much income can I generate off of the lump sum?" Traditional portfolio management indicated that you could pull 4% off your portfolio and have it last for 30 years -- in historical terms. With low interest rates currently, many analysts have indicated that 3.5% is a more reasonable distribution rate.
For example – each $1M of life insurance can produce $35,000 to $40,000 of income to your family. If you are bringing $100,000 of income into your family and need to replace that total amount, then you're going to need somewhere in the range of $2.5M to $3M of coverage. That sounds like an extremely high amount with a high price tag, but it doesn't need to be.
What if I want additional coverage?
To get the additional coverage you need, you're going to have to fill out an application, provide the insurance company with your medical background, income, history of prescription drugs, etc. They will be looking at everything from your motor vehicle record to family medical history to give you a formal offer.
You can consider getting coverage through your employer through open enrollment options. You can explore looking on the outside for private insurance and have various structures available to you. Regarding what you need to tell your insurer, typically, you will be working with a qualified advisor that will guide you through this.
Representatives do not provide tax and/or legal advice. Any discussion of taxes is for general informational purposes only, does not purport to be complete or cover every situation, and should not be construed as legal, tax or accounting advice. Clients should confer with their qualified legal, tax and accounting advisors as appropriate.
Ben Soccodato is a registered representative of and offer securities, investment advisory and financial planning services through MML Investors Services, LLC. Member SIPC. www.SIPC.org 6 Corporate Drive, Shelton, CT 06484, Tel: 203-513-6000. CRN202303-280728