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How Much Term Life Insurance Do You Need?
As people progress through the journey of life, many find themselves settling in with a life partner, and many of those partnerships include children. We all want good things for our immediate family like health, happiness, security and safety.
One worry that keeps many people up at night is wondering what will happen to their family if an unexpected death occurs. Will your partner be OK? Will your children?
The solution to that problem is life insurance. Detailed life insurance guides can help you figure out how to find a good policy that matches your needs. The biggest question that people ask themselves during this process is how much life insurance they should get.
Here are some simple approaches to answering that vital question.
How to figure out how much term life insurance you need
Multiply your gross income by 10
Pull out your tax returns from last year and look at how much you earned in gross income and multiply that number by 10. That would give you an amount that would provide security for your family for a very long time.
However, it’s not perfect. It doesn’t include extra considerations for families with multiple children, nor does it consider things like the assets or savings you already have.
Add a per-child amount for education
If you have children, it’s a good idea to include enough money in your life insurance policy to provide for a full education at an in-state public four-year university. If they choose to go out of state or to a private school, they may need to take out student loans to make up the difference, but that’s a decision to be made later.
Having money from your life insurance set apart for your children’s education will make up for not being able to save for college if something were to happen to you or provide any support while they’re a student.
We recommend using this college cost calculator from Vanguard for each child. Enter how many years they’ll have until college and then choose a prestigious public school in your state. This will provide you with a generous estimate.
After you estimate the number for each child, add that sum to the “10-year” amount calculated earlier. This will give you a great starting point for how much term life insurance you should have if you have children.
What about your savings?
After you total up the numbers above you’ll then want to subtract your savings from that total. Total up what you have saved for goals like retirement, college education for your children, and other general savings goals, and subtract that from your estimate.
That will provide you with a great number to target for your life insurance policy.
An example calculation
John is married with two children, ages 8 and 6. John earns $50,000 a year, bringing home $40,000 after taxes. They have a home with a mortgage that still has $100,000 to pay off and an additional $20,000 in debts. John wants to pay for his children’s education. He’s also been saving for retirement and has $50,000 built up in his 403(b). How much life insurance should he have?
Let’s do the math.
John has $120,000 in total debt. He brings home $40,000 a year, but $20,000 goes to mortgage payments, so he’s contributing $20,000 a year to his family’s lifestyle. His youngest child is 6, so he should aim for 12 years of income put aside for his family (until his youngest child is 18). He estimates he will want to set aside $50,000 for each child’s education, using the calculator earlier.
Given those numbers, his total debt ($120,000) plus his funeral expenses ($10,000), family income contribution ($20,000 times 12, or $240,000), educational savings ($50,000 times two, or $100,000) adds up to $470,000. He has $50,000 already saved, which he subtracts from that, giving him $420,000. That’s a healthy target number for John’s term life insurance policy. He can round that number to $400,000 or $500,000 depending on what he feels comfortable with, but either number should leave his family in great shape. That amount will pay for his funeral, mortgage and other debts, and still have almost $300,000 (or more) to sustain his family for 12 years and help pay for college.
Other life insurance factors to consider
When you’re considering how much life insurance to get, what you’re really calculating is your total financial obligations minus your total savings. How much money are you obligated to earn in the coming years to support your family? How much do you already have saved? Take the first number, subtract the second, and you’re there.
The above calculations are just quick ways to find a really rough estimate of that number, but what if you want to drill down a little more? Here are some things to consider.
How much debt do you have?
What is the total amount of debt that you owe? Include things like car loans and mortgages. You’ll want your life insurance policy to pay off all of that so that your family isn’t facing those bills when you’re gone.
What about your funeral expenses?
You’ll want your funeral to be fully covered. Here’s a calculator that can help you figure out how much that will cost, but a reasonable estimate is $10,000.
How many years of income replacement do you want to cover?
If you’ve got a partner but no kids, talk to your partner about this. If you’re unsure, a good estimate is ten years. On the other hand, if you have children, you will likely want to replace your income for enough years to carry them into adulthood.
You’ll want to estimate how much after-tax income you’re providing to the family, too. You can do this by taking a look at your tax statement from last year and subtracting your total debt payments from last year (as you’re planning on paying those off).
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