Forget the 10x Rule: How Much Life Insurance Do You Actually Need?

If I asked you right now how much life insurance you need, would you know the answer?

A million dollars? Two million? Ten times your income?

You've probably heard some of the common rules of thumb. Take your income and multiply it by 10. Make sure there's enough to pay off your mortgage.

Those can be helpful starting points.

But here's the problem:

Your life isn't a rule of thumb.

Two people can earn exactly the same salary and need completely different amounts of life insurance.

Instead of beginning with an arbitrary number, a more useful question is:

If something happened to me tomorrow, what financial gap would I leave behind?

That's really what we're trying to solve.

Start With Who Depends on You

First, think about who actually depends on you financially.

Maybe it's your spouse. Maybe you have young children. Maybe you're helping support an aging parent. Or maybe there's someone else who relies on you.

And this isn't necessarily just about your paycheck.

For example, consider a spouse who stays home with the children. There may not be a traditional paycheck coming into the household, but that person could be providing child care, transportation, meals, household management, and other responsibilities.

If that person were no longer there, some of those services might have to be replaced.

So when we're looking at life insurance, we're trying to understand your economic value to the household, not simply the number on your W-2.

What Would You Want Taken Care Of?

Next, look at your immediate financial needs.

If something happened tomorrow, what bills would you want taken care of?

Maybe you want the mortgage paid off. Maybe there are car loans, credit cards, or other debts. There could also be final expenses.

You might want additional cash available so your spouse doesn't have to make major financial decisions immediately during an already difficult time.

That doesn't mean every debt automatically needs to be eliminated.

The better question is:

Which obligations would you want your family to be able to handle without creating additional financial stress?

That's one piece of the calculation.

How Much Income Would Your Family Lose?

For many families, income replacement is where the number becomes much larger.

Let's say you earn $150,000 per year.

That doesn't necessarily mean your family needs another $150,000 every year if you're gone.

Some expenses may disappear. You might no longer be contributing to your retirement plan or commuting to work, for example.

But other expenses could increase.

'

Your spouse might need additional child care or have to pay someone to handle responsibilities around the house that you previously took care of.

So what does that mean?

We need to determine how much the household actually needs each year and how much of that would be lost.

Then there's another question:

How long would that gap exist?

Maybe it's until your children finish school. Maybe it's until the mortgage is paid off. Maybe it's until your spouse reaches retirement.

Everyone's number is going to be different.

Don't Forget About Future Goals

Life insurance isn't necessarily just about paying today's bills.

Think about the goals you'd still want your family to accomplish.

Maybe you want money available for your children's college education.

Maybe part of your income is currently helping fund your spouse's retirement.

Maybe there's a family business involved, a child who will require long-term support, or an inheritance or charitable goal that's important to you.

Those goals don't necessarily disappear because you're not there.

If they're important enough that you want them protected, they should be part of the calculation.

Now Subtract What You Already Have

Once we've identified those needs, we're still not finished.

You may already have resources available.

That could include existing individual life insurance, coverage through work, savings and investments, your spouse's income, or potentially Social Security survivor or pension benefits depending on your circumstances.

Those resources may reduce the amount of additional insurance you need.

But here's where I'd be careful.

Let's say you have $1 million in a retirement account.

Does that mean we automatically subtract the entire $1 million from your life insurance need?

Not necessarily.

That money may already have another job.

The same idea applies to home equity or other assets.

Don't just ask, "Do we have this asset?"

Ask:

"Would we actually want or be able to use this asset for this purpose?"

Putting the Calculation Together

When you step back and look at it, the basic concept is pretty straightforward:

**Immediate needs

• Income your family would need

• Future goals you want to protect

  − Financial resources already available

  = Estimated coverage gap**

  
  

Let's put some numbers around it.

Suppose a family wants $300,000 to pay off its mortgage, another $50,000 for debts and final expenses, and $50,000 for an emergency and transition fund.

They estimate another $900,000 is needed to help replace future income and $200,000 for their children's education.

That's $1.5 million of total need.

But let's say they already have $200,000 of individual life insurance and $100,000 of savings they're comfortable using.

Their estimated coverage gap would be about $1.2 million.

Notice what we didn't do.

We didn't ask for their salary and simply multiply it by 10.

We built the number around their actual life.

How Long Do You Need the Coverage?

There's one more question that's just as important as the amount:

How long do you need it?

Maybe your largest financial need exists while your children are young and the mortgage is outstanding.

That's very different from someone who has a financial need that could last their entire life.

The amount of insurance and the length of time you need it should connect back to the job you're asking the policy to do.

Start With Your Life, Not a Number

The amount of life insurance you need isn't necessarily something you calculate once and forget about for 20 years.

Life changes.

Kids grow up. Mortgages get paid down. Income changes. You get closer to retirement. Your savings change.

And as your life changes, the financial gap you're trying to protect can change too.

So don't start with a life insurance number.

Start with your life.

Who depends on you? What would you want paid off? How much income would your family lose? What future goals do you want protected? And what resources are already available?

At the end of the day, the goal isn't to buy an arbitrary amount of life insurance.

It's to understand the financial gap that would exist if you weren't here and determine whether the coverage you have still matches what you're trying to protect today.

Registered Representative of, Securities and investment advisory services offered through Hornor, Townsend & Kent, LLC. Registered Investment Adviser. Member FINRA/SIPC.  800-873-7637, www.htk.com. HTK does not offer tax or legal advice.

 Caserta & de Jongh, LLC is unaffiliated with HTK.

For Educational Purposes Only - Not to be relied upon as financial, tax, or legal advice. 

9121518DH_SEP28