How Much Life Insurance do you Need?

Sit down with any life insurance agent and you will discover that you need life insurance - immediately! But is it right for you? And if so, how much is necessary? Before we jump into the determination of how much life insurance is appropriate for you, let's first discuss whether or not you even need it.

Depending on where you’re at in life, it’s possible that you don’t need life insurance at all. For example, if you’re single and have no dependents, you might be able to get away without buying a policy (though it might be a good idea to have enough to cover your funeral expenses). But if others depend on you for your income, then you’ll likely want at least enough coverage to replace your earning potential, at least temporarily.

Now let's talk about calculating the amount of life insurance you need. If you poke around online, you’ll find a number of websites that claim that the ‘best’ approach to determining your life insurance needs is to simply buy a policy that corresponds to a certain multiple of you annual salary. The problem here is determining the correct multiple.

Should you buy a policy for 8x your annual salary? 10x? Why not 12-15x? In the end, this really boils down to what you want your life insurance to do for your. If you’d want your life insurance policy to provide support for your family for an extended period, you’ll obviously need more. If you’re comfortable with your insurance policy being a short-term stopgap, you can get away with less.

An alternative approach to buying an arbitrary multiple of your salary would be to use an online life insurance calculator. In this case, you enter data on anticipated one-time expenses, ongoing living expenses, timeframe, etc. and the calculator will spit out an answer.

Another factor to consider when determining how much life insurance to buy is whether or not you hav (and how much) coverage from work. In many cases, your employer will offer this benefit. As valuable as this sort of coverage can be, it’s important to not become too dependent on it. After all, if you lose your job, you’ll likewise lose your life insurance coverage.

Also, be sure to consider whether or not you have a non-working spouse. On the one hand, you’ll have to decide whether or not to purchase coverage for them (we did, more below). On the other hand, you also have to worry about your spouse incurring expenses that aren’t directly reflected in you salary.

Perhaps the most troublesome point in this context is health insurance. In our case, we have great health insurance coverage. Unfortunately, it’s tied to my job. Since my wife stays home with the kids, and since we’d want her to continue doing so at least for awhile, we need to plan for private health insurance.

In addition to the factors above, you should also think about the following: Are you relatively early in your career path? Do you plan on expanding your family? Do you anticipate any other major changes in the future? If so, then it’s likely that your life insurance needs will change (perhaps dramatically) in the years ahead.

There are two main ways for dealing with these sorts of things. One is to try and project your needs and size your life insurance policy accordingly. The other is to buy the right policy for today, and then simply replace it at some point in the future. Both of these approaches have their downsides. Overbuying now means that you’ll spend more than necessary in the short term. However, if you wait to buy more coverage, you run the risk that you’ll fall ill in the interim, and your rates will increase dramatically.

In the end, determining your life insurance needs is a very personal matter, and broad rules of thumb are unlikely to provide you with the right answer. If you have more complicated needs, sitting down with a financial professional will be your best bet. But make sure to buy life insurance - don't be sold!