Last Updated on September 21, 2020 by Andrew Lee
Whether you’re purchasing term life or whole life insurance, one of the most important considerations you have to make is the amount of coverage to take. This is regardless of whichever state you live in, whether Louisiana, Massachusetts, or Oregon. It’s vital you buy enough to cover the financial needs of the people you care about, but at the same time, make sure you can still afford the monthly premiums associated with it.
Why your specific needs dictate your needed coverage
As the National Association of Insurance Commissioners advises, you first have to establish just how much you need so that you can compare it to t you can afford. Always remember that the primary reason you’re getting a policy is to protect your loved ones from devastating financial problems after losing you, so it’s actually their needs you should factor in first.
Major players to think about when determining coverage
People have different life coverage needs, so it follows that they require varying levels of coverage. This is because there are plenty of different factors that one should consider to determine the sufficient amount of insurance to get.
- Consider these factors to help you have a clearer picture of how much insurance you should buy:
- How old you are.
- Your spouse’s and children’s age.
- How much you make, and if you’re the primary breadwinner.
- Your current loans, such as mortgages, car loans, credit card loans, and other existing debts.
- Your kids’ schooling, particularly college.
- How many children you have.
- Funeral and burial costs.
Although you don’t have to buy coverage with an amount equal to the costs associated with the above-mentioned factors, it doesn’t also mean that your best option is already the smallest coverage. You may opt to reduce it though, as long as you have other assets, such as real estate property, personal property, investments, and savings to name a few.
Fastest method to calculate how much you need
Because the adequacy of coverage depends on a myriad of factors, insurance companies and financial experts have come up with ways to help consumers have an easier time calculating how much they should buy. And one of these is the Multiple of Income model.
Basically, you just multiply your annual income by seven to ten times. The resulting product is what you can base the amount of coverage you should get. For example, if you make around $50,000 a year, then ideally, your policy should have a value of around $350,000 to $500,000. This payout can cover your family’s needs, though not their lifestyle for quite a period of time.
The shortfall approach
When using the Shortfall Calculation method, you first need to establish an amount you would want to leave your family with. Again, you have to add all the potential expenses of your loved ones so you can set an amount that will sufficiently cover these. Once you have decided, deduct all of your other assets and financial sources, such as your savings and retirement accounts, pension, real estate, and personal properties, and Social Security. You can then use the difference as the basis of how much insurance you should buy.
Use the DIME formula
The D in DIME stands for debts, I for income, M for mortgage, and E for education. When you use this approach, you take into consideration these four very important factors that influence coverage amounts. Below is a quick explanation of this method:
- Debts – Sum up all of your debts with the exception of your remaining mortgage payments and then add to this potential funeral and burial costs.
- Income – Consider your age then decide how many years your household needs continued financial support. Multiply this with your yearly income.
- Mortgage – Take note of your remaining home loan payments.
- Education – Come up with a projection of your children’s college expenses.
Add all of these together and what you get is roughly the estimate of the coverage you should purchase. Keep in mind that, despite being more comprehensive than the Multiple of Income and Shortfall approaches, the DIME formula still doesn’t factor in your other assets.
The most comprehensive computation
So to come up with possibly the most accurate computation, you should use all three methods. This way, your calculation makes use of all the most important variables when figuring out the amount of coverage best suited for the needs of your entire household. To learn how to find your lost life insurance documents, read this article.