Determining How Much Insurance You Need

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When considering life insurance, you plan and prepare for the event that most of us would rather not think about. But life insurance is an important step in managing your personal finances and ensure the well-being of your family.
Determining How Much Insurance You Need

Two approaches for life insurance

You can use one of two approaches to estimate how much life insurance you should buy: the needs approach or the replacement-income approach. Using the needs approach, you calculate the amount of life insurance needed to cover the financial needs of your family if you die. Using the replacement-income approach, you calculate the amount of insurance you need at your family income will be lost. Let's look briefly each approach.

How much do you need?

Using the needs approach, you add up the amount that represents all the needs of your family will have after your death, including funeral and burial expenses, medical expenses are covered by insurance and inheritance tax. However, your family depends on you to pay for other needs, such as your child's tuition, business or personal debts, and food and housing costs over time.

Needs approach is somewhat limiting. The task of identifying and tallying family needs is difficult, and separating the true needs of your family from what you want for them is often impossible.

Replace income

Using replacement income approach to estimate life insurance requirements, you calculate the results of life insurance will replace your income for a few years after your death.

Life insurance companies sometimes approximate your replacement income at four or five times your annual income. Estimate more precisely consider the actual amount your family members need each year, the number of years that they will need this amount, and the interest rate that your family will obtain life insurance proceeds, as well as inflation over the years in which your family draws on the results of life insurance ,
Note: Remember as you calculate the income you want to replace the Social Security benefits that provide generous victim if you are qualified. These benefits can easily total $ 2,000 a month or more.

Calculate the amount of replacement-revenue with Excel

If you've got access to a computer running Microsoft Excel, a popular spreadsheet program, you can use the computer to calculate the amount of insurance you need to replace a certain number of years of earnings. Suppose, for example, that you want to buy enough life insurance to replace income from work $ 50,000-a-year for 15 years. If you are looking for your family will earn 5% on life insurance proceeds should the worst case scenario happens, you enter the following formula into a cell in an Excel workbook to calculate the amount of income replacement insurance:

= -pv (5%, 15.50000)

Excel returns the formula result 518,982.90 indicating that you would need about $ 520,000 of life insurance, invested at 5% for a payment of $ 50,000 per year for 15 years.

Two Tips calculations

If you want to factor in inflation because you're trying to replace income over a long period of time, you should use the actual rate of return rather a regular, or nominal, rate of return.
To calculate the real rate of return, reducing the inflation rate in the formula. For example, if you expect 2% inflation, you can replace the formula shown earlier with this formula:

= -pv (5% -2%, 15.50000)

Here's a tip end of the calculation: You might want to collect your numbers. For example, if the formula provided earlier returns the value 518982.90, you might want to raise this value to $ 600,000. Or $ 750,000.