Do I Really Need Life Insurance?
by Stuart Pearl ◊ Jul 01, 2011
Life insurance serves one major function. If your death will create a financial hardship, the life insurance death benefit paid at your death will provide money so there will be no financial hardship. It’s that simple and yet so misunderstood by the public.
A 2010 LIMRA study found that only 44 percent of U.S. households currently have individual life insurance. The amount of life insurance owned was only enough to replace 3.5 years of income.
Most families (and businesses) have too little coverage because they fail to allow for all the costs involved when a person dies and what that person’s financial contribution was to the family. There are two basic categories when determining how much life insurance is needed – lump sum and continuing income needs.
Lump sum needs are those items that at death need to be paid immediately. Such items include funeral expenses, taxes, outstanding debts, and unforeseen medical costs. According to the 2011 list of costs published by the National Funeral Directors Association, the average funeral costs ranged from $8,000 to $14,000. Two other lump sum considerations are having money available to pay off an existing mortgage and having funds available to pay for college. While these items are expensive, they can be planned for and take a huge financial burden off the shoulders of the surviving spouse or parent.
According to the book, “How to Do Everything Right,” two other funds should be considered. A readjustment fund takes economic pressure off the family, allowing them to make important decisions without haste. Ideally, this should be 6-12 months of net income for a working parent. The second fund should be an emergency fund – about three to five thousand dollars for an unexpected crisis, such as a major illness or major car or home repair.
The second and most over-looked category is continuing income needs. These are the daily living expenses like food, clothing, and cable TV that your family will face on an ongoing basis. A recent study by Consumer’s Digest determined that you should provide for about 75 percent of your after tax income for this phase of your family’s future, which lasts until your spouse reaches retirement age or until your children reach age 18. According to the book entitled, “How to Do Everything Right,” seventy-five percent of the principal income producer’s after-tax income is needed to maintain a family’s standard of living. It must have at least 60 percent to get along at all.
Let’s put all the pieces together in an example. George is a 50-year-old architect earning $100,000 per year. George and his wife have two college bound teenagers (think UConn), with $225,000 in mortgage and $10,000 in auto and credit card debt.
George has the following lump sum needs: $7,000 funeral, plus $50,000 liquid emergency/readjustment fund, plus $235,000 mortgage and debt, plus $200,000 to send two kids to UConn for four years each, which equals $492,000.
George also wants to make sure his wife and family are provided with 50 percent of his income for the next fifteen years until his wife turns age 65. In this case, $50,000 income for 15 years equals $750,000.
To provide lump sum and income needs for his family, George needs a total $1,242,000 life insurance benefit. Sounds like the cost will be astronomical. What’s interesting is that, assuming George is a non-smoker and in good health, the cost to provide the protection for his family is about half the price of what he pays for his family’s cell phones each month.
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.
Stuart A. Pearl CLU, ChFC is a registered representative with and securities offered through LPL Financial, member FINRA/SIPC. Stuart can be reached at 203.281.4748.