Life insurance is one of the most important financial products most people purchase. A life insurance policy can protect loved ones from financial disaster. It does this by paying out a death benefit to chosen beneficiaries when the policyholder passes away.
Anyone who has people depending on their income or relying on their services should have life insurance. But how much coverage is needed? Here are three ways to decide on the appropriate amount of protection to buy.
1. Use the DIME formula
The DIME formula is one of the best and most comprehensive methods of determining how much life insurance to get. Here's what DIME stands for:
Debt: People want to buy enough coverage to ensure their outstanding debt can be paid in full upon their passing. It can also be helpful to include final expenses in this category, as funeral costs can be quite high.
Income: Life insurance death benefits serve as a form of income replacement. Those who depended on the money the deceased was earning can use it to fund their costs of living. An easy way to calculate this is to decide how many years of income need to be replaced by the policy and multiply that amount by annual income. For example, replacing $50,000 of annual income for 10 years would require $500,000 in coverage.
Mortgage: Repaying a mortgage with a death benefit can ensure surviving family members have a place to live. So it makes sense to get enough coverage to pay a mortgage balance down to zero.
Education: Parents buying life insurance often want to get enough coverage to pay for their children's educational costs.
So using the DIME method, those buying life insurance can generally get enough coverage to care for those left behind by adding together the amount of coverage necessary to:
- Repay debt
- Replace income
- Repay a mortgage
- Cover the education of children
2. Take a multiple of the policyholder's salary
The DIME formula is comprehensive, but it can be complicated. For those who want to quickly figure out how much life insurance they need, the simplest approach is to assume they will need 10 to 12 times their salary in coverage. So, someone making $50,000 annually would need between $500,000 and $600,000 in life insurance protection.
This approach has the advantage of being easy, but it might lead to buying too little protection for someone with high debts, a large mortgage, or many children to educate.
3. Use a life insurance calculator
Finally, many life insurance providers have calculators on their websites that are designed to make it easy to figure out how much insurance coverage to purchase. These calculators involve putting in some simple information about income, debt, and family needs.
No matter which approach is used, the important thing is to get sufficient coverage in place as soon as possible. No one wants to leave their loved ones with financial problems if they pass away unexpectedly, and buying coverage while as young and healthy as possible helps ensure that won't happen.
Source : https://www.fool.com/the-ascent/insurance/life/articles/how-much-life-insurance-do-you-need-heres-how-to-find-out/637