How much life insurance do I need?
There are many spreadsheets and formulas on the web that claim to give you an idea of how much life insurance you need. Life insurance, like life, can be very complicated and some insurance companies take advantage of this, so keep it simple. The real answer is that it depends — do you have people who depend on your income? If not, you may not need a cent of life insurance. To give an example, if you are single, childless and without dependents, you probably don’t need to buy any life insurance, even if you make a million dollars a year. Similarly, if your kids have gone through college and your spouse’s retirement is taken care of, there is no need to hand your money over to the insurance company.
What if someone does depend on you?
An easy rule of thumb is if you are married, the sole breadwinner, and have two young children, something like 6-8 times your annual income is a reasonable amount. What if you don’t fall into this group? One approach it to figure out how much will your dependents need if you are gone and for how long. To give an example: if you are a stay-at-home parent who takes care of your young children, you probably need life insurance. Child care can cost $10,000 per year, so if you leave behind a child that will need 10 years of child/after-school care, you will need about $100,000 of coverage even though you don’t have a salary. Other possible dependent costs are: saving for college, retirement for stay-at-home spouses, and your contribution to the mortgage and other monthly expenses/debts. On a piece of paper or spreadsheet, total up these costs times their duration to determine your coverage amount. Don’t forget that the monthly expenses won’t include you anymore and that social security and your employer may pay out on your death (the families of federal workers can get close to a years’ salary or better).
Don’t let a fast talking insurance salesperson convince you that you need coverage beyond the amount you decide on — for most people who really need life insurance, like a 40-year old with kids, the possibility of dying anytime soon is very small, so don’t take any more money than necessary from the the present to pay for an unlikely future.
