24/7 Wall St. Insights:

• How much life insurance you need is a very personal decision influenced by individual considerations that a simple rule of thumb like 10x your annual income can’t address.
• Starting a family is an excellent time to begin thinking about life insurance, and the first thing to understand is insurance is a tool for income replacement, not a lottery ticket for the surviving spouse. 
• To come up with the right amount of coverage, you need to consider the bills that need to be paid over the years such as a mortgage, debts, and a college education.

Having children changes everything. It’s no longer about you and your spouse. Now you have someone that is totally dependent on you. Now you need to think about their future instead of just your own, including what happens to them if you die. It’s why at this stage of someone’s life that life insurance quickly becomes a necessity.

In this Reddit post, this high-earner couple has a baby on the way and is well aware of the need for coverage. They want term life insurance, but they just don’t know how much coverage they need. While the rule of thumb says 10 times your annual income, that’s really just a starting point. You really need to look closer at the individual situation to figure out what’s right.

A new way of life

In this case, the Redditor and his wife are both 35 years old and each earns around $140,000 annually. Because they live well below their means, they have set aside some $1.2 million in investments, with $3 million as their retirement goal. While they can afford their $4,000 monthly rental payment, they would like to buy a house sometime over the next decade.

The Redditor is under the impression that 20x income is the standard for coverage, which he finds excessive considering his financial progress so far. If he or his wife died, their investments could grow independently of further contributions and he would just need to cover the “extras,” such as child care, a college education, and the rent or mortgage.

What intrigues me about this post is the Redditor is thinking in all the right ways. While he and his wife may earn more and have saved more than the average person, it’s still a question that applies broadly no matter where you are in your financial journey.

While the husband may be off on how much coverage he needs by a factor of two, he’s right to consider term life insurance as preferable. While there are scenarios for high-net-worth people to consider whole-life policies, for most others, plain vanilla term life insurance is the better option. 

That’s because whole life includes an investment component in addition to life insurance, but the returns are typically far inferior to what an individual can do on their own. That’s why the phrase “buy term and invest the difference” makes sense.

What do you need to cover?

While I’m not providing any financial advice, the key consideration when determining how much coverage you need is to understand life insurance is for income replacement. It’s not a lottery ticket for the surviving spouse. The goal is to ensure they don’t end up in poverty when one income source is removed, while paying for the couple’s life goals.

Those goals will be individual to each person. What will the monthly bills be when you’re gone that your spouse won’t be able to cover? Credit card debt? Medical bills? Outstanding loans? The Redditor rents, but wants to buy a house eventually. Including that in the calculation is important because mortgage insurance loses value over time as you pay down your mortgage. Adding the mortgage payoff to the life insurance is preferable to adding it to the mortgage payment.

How much will college cost? According to the Education Data Initiative, tuition inflation is about 3.6% annually. With the average cost of a four-year degree at a public school  almost $108,600 today, and $234,500 at a private school, in 18 years they will cost $203,000 and $432,500, respectively.

The key takeaway

So you need to look at what your life expenses will be. For example, if you don’t plan on having kids and don’t want to own a house, you may not even need life insurance. For everyone else, using online life insurance calculators can quickly serve up a personalized estimate of your necessary death benefit.

A 10x your annual income is a good place to start, but that over- or understate your needs. It’s why beginning the planning process early is so important.

Check Yourself

Even if you’re in a similar financial position and unsure about the exact amount of coverage needed, it’s always wise to get a quote and explore your options.

A quick, no-obligation quote can provide valuable insight into what’s available and what might best suit your family’s needs. With affordable rates and customizable policies, life insurance is a simple step you can take today to help secure peace of mind for your loved ones tomorrow.

Click here to learn how to get a quote in just a few minutes.

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