How much life insurance is enough?

Your most important asset isn't the house or investments...it's your earning power. If you have a spouse and dependents you need to take steps to ensure their financial well being by replacing your earning power in the event of your premature death.

Filling the gap

In the event of a sudden loss of earning power, adequate levels of life insurance can help fill the gap. The death benefit can make the difference between "just getting by" and a real level of financial security for your loved ones.

Who needs it? Married and single alike!

If you're married, with kids or without, you know that it takes contributions from two to support a household, even if only one partner works outside the home. In situations like this both partners should have adequate coverage in order to protect a family's lifestyle if one contributor is lost.

Even if one spouse is primarily a homemaker, it is essential to have the funds to replace their contribution to the household income. If an individual, unexpectedly, had to be hired to provide all the services of a homemaker, it would cost at least $20,000 per year or more. It is important to recognize the economic value of a homemaker's contribution by ensuring an adequate amount of coverage to secure the services of such a person in the event of a homemaker's premature death.

If you're single and have siblings or elderly parents who count on you for financial support, if you engage in joint business ventures, or jointly hold real estate with someone, a substantial need for life insurance protection exists.

So how much is adequate coverage?

Insurance experts recommend that individuals with young dependents, to raise and educate, should have insurance or other death benefits equal to between six and ten times their gross (pre-tax) annual salary. This amount would meet the basic needs of most young families in the event of a breadwinner's death. In addition to cash for final expenses, this figure would also provide income for the children's formative years, funds for college, and a source of income for later years, if the surviving spouse has no retirement benefits. The key is to have enough life insurance so that it "throws off" enough interest income without having to invade the principal.

In order to calculate how much additional coverage you may need, take into account the death benefits you may already have: existing individual policies, employer-provided group insurance, pension plan death benefits, and any savings. Use the provided worksheet to figure your life insurance needs.

Although six times salary continues to be an appropriate recommendation for most people, up to ten times salary takes into account future earnings. Six times salary is linked to current earnings and does not take into account future salary increases that would be lost in the case of premature death. For example, a 34-year old with a $30,000 salary will earn $930,000 over the next 31 years, without factoring any salary increases. If we assume, however, that this individual can expect a 6% salary increase each year, they will expect to earn $2.5 million before reaching age 65. In the above example, $300,000 would be a rough approximation of the amount of money needed on hand today, earning 7% interest to equal $2.5 million in 31 years. Ten times current annual salary is the approximate discounted value (at 7%) of a person's earning potential, assuming yearly salary increases of 6%. Therefore, ten times salary in life insurance acts as a realistic representation of the amount of money your dependents would need to replace your future earning power.