How Much Term Life Insurance Do You Need?

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How Much Term Life Insurance Do You Need?

How Much Term Life Insurance Do You Need?
As people develop along their life path, many people come into contact with a life partner, and many of those partnerships consist of children. We all want good things for our immediate family, such as health, happiness, safety and security. 

A concern that keeps many people awake at night is the question of what will happen to their family if an unexpected death occurs. Will your partner be all right? Will your children?

The solution to that problem is life insurance. Detailed life insurance guides can help you find a good policy that meets your needs. The biggest question 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 can you figure out how much term insurance you need?

Multiply your gross income by 10

Get your tax returns from last year and see how much you have 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.

But it is not perfect. It doesn't take into account additional considerations for families with multiple children, nor things like the wealth or savings you already have.

Add an amount per child for education

If you have children, it is a good idea to include enough money in your life insurance policy to provide a full education at a public four-year university in a state. If they choose to leave the state or go to a private school, they may need to take out a student loan to make a difference, but that is a decision that needs to be made later.

If you set aside money from your life insurance policy for your children's education, it makes up for the fact that you can't save up for college if something should happen to you or that you can't help them while they are students. 

We recommend that you use this college cost calculator from Vanguard for every child. Indicate how many years they have left to college and then choose a prestigious public school in your state. This will give you a generous estimate.

Once you have estimated the number for each child, add that amount to the previously calculated "10 years" amount. This gives you a good starting point for how many term life insurances you should have if you have children.

What about your savings?

After you add up the above numbers, you want to deduct your savings from that total. Count what you have saved for purposes such as retirement, education for your children, and other general savings purposes, and subtract that from your estimate.

This will give you a large number for your life insurance.

An example calculation

John is married and has two children aged 8 and 6. John makes $50,000 a year and brings home $40,000 after tax. They have a house with a mortgage that still has $100,000 to pay and an additional $20,000 in debt. John wants to pay for the education of his children. He has also saved for his retirement and has accumulated $50,000 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 into mortgage payments, so he contributes $20,000 a year to his family's lifestyle. His youngest child is 6 years old, so he should strive for 12 years of income set aside for his family (until his youngest child is 18 years old). He estimates that 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), the family income contribution ($20,000 times 12, or $240,000), the education savings ($50,000 times two, or $100,000) add up to $470,000. He has already saved $50,000, which he deducts from that, giving him $420,000. That's a healthy target for John's term insurance. He can round that number up to either $400,000 or $500,000, depending on what he feels comfortable with, but both numbers should keep his family in good shape. That amount pays for his funeral, mortgage, and other debts, and still has nearly $300,000 (or more) to support his family for 12 years and help pay for college.

Other life insurance factors to consider

When you consider how much life insurance you should get, what you really calculate is your total financial obligations minus your total savings. How much money are you required to earn in the coming years to support your family? How much have you already saved? Take the first number, subtract the second and you're there. 

The above calculations are just a quick way to find a very rough estimate of that number, but what if you want to drill some more? Here are some things to consider.

How much do you owe?

What is the total amount of debt you owe? Including things like car loans and mortgages. You'll want your life insurance to pay it all off so your family won't have to face those bills while you're gone.

What about your funeral expenses?

You will want your funeral to be fully covered. Here is 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 have a partner but no children, talk to your partner about it. If you're not sure, a good estimate is ten years. On the other hand, if you have children, you'll probably want to replace your income for enough years to bring them to adulthood. 

You will also want to estimate how much income you provide to the family after taxes. You can do this by taking a look at your tax return from last year and deducting your total debt repayments from last year (as you plan to repay them).

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