How to Determine How Much Life Insurance You Really Need?

Have you ever thought, if you die today, how much will be the financial impact on your family? Thought of death can be pretty much a demoralizing one. This is perhaps why people don't like to think and plan about Life Insurance. If you belong to the majority, you will rush to buy an insurance plan towards the closing of the financial year to account for your income tax savings. But Life Insurance planning is extremely important and due consideration should be given to it.

The purpose of life insurance is to replace income lost due to the death of the breadwinner. Therefore, the amount of life coverage you need depends on the ‘income stream' you would want to continue for your family if anything happened to you.

For instance let's say you earn Rs.12,00,000 a year. This money provides for your family's current lifestyle and standard of living. As long as you are alive and earning, your loved ones will remain financially secure. Life Insurance is required to financially protect your family when the bread winner is no longer alive.

You family would still need to pay the home loan EMI, car loan, society charges, utilities, taxes and other bills. Money is still required to buy new clothes for your children, for college fees, or even for your spouse to enjoy an evening out with friends. If the amount for which you are insured has been sufficient, there would be no change in your family's lifestyle and they would be able to meet all these expenses.

It is essential to analyze how much money your family would need to maintain the same lifestyle as present, accounting for inflation to determine the amount of life insurance you would need. We buy life insurance so that our family will be provided for their needs on the unfortunate event of the policyholder's death.

Let us look at this example to calculate your life insurance requirement:

The beginning amount will earn a 5% return after taxes, with principal and interest depleted in 20 years by withdrawing an amount equal to 8% of the original principal every year. Note that different assumptions will generate different results.


Example: A life insurance death benefit of Rs.10,000,000 would provide your family with an income stream of Rs.800,000 a year for a 20-year period, after which the entire amount would be depleted. So, if you earn Rs.800,000 a year, you may wish to consider Rs.10,000,000 of life insurance.

How much would you have to pay for this insurance cover? That depends on a number of factors, including your age, health and personal habits (such as whether or not you smoke), and type of insurance. There are several insurance options, depending on need, budget and situation:
Term life insurance provides pure death benefit protection, generally for the smallest cost.
Endowment policies can provide lifelong protection for a fixed, level premium. Additionally, it combines death benefit with cash value accumulation. However, the initial cost is higher than for a comparable amount of term life insurance.

Your insurance portfolio should be an optimal mix of both term and endowment insurance policies. Ideally you should take a term insurance policy for sufficient amount and keep on adding affordable endowment policies each year. This would be a nice way to keep up with the inflation. This would ensure that your family would be able to continue to enjoy the financial security and standard of living that you have worked so hard to build for them. The purpose of Life insurance is to replace income lost due to the death of an income earner. It is a cost-effective way to make sure your dreams are completed if you pass away and are unable to complete them yourself.

The important thing is to make sure you are insured for the amount that is right for you. Remember your dreams are joint dreams. Do not leave your spouse to fend for herself. Give her the confidence that she will be financially protected even if you are not around. She would still be able to provide Ivy League education for your kids, no one else in the family needs to decide how and where she should live.

Insurance is not taken because you will die; it is because your family will live on.

Insurance industry cannot protect lives, it tries to protect lifestyles.

Share:


About the Author

Sobha US

For more details refer to Insurance India Guide. Sobha is the chief editor at www.clickinsurance.co.in