Life Insurance 101

If there is anyone in your life who relies on your income, you need life insurance. That obviously includes any young children and your spouse. It can also include your parents if you help them cover their bills or pay for some home-based care. It can even include a sibling or a friend for whom you provide financial support.

The question you need to answer is, if I were to die today, would those I support be able to take care of themselves? If the answer is no, then you need life insurance.

Did reading that question, even to yourself, make you squirm? I know it’s a difficult truth to confront— that any one of us can leave this earth at any moment. But what I am asking is for you to spend some time on matters that are within your power to control, should circumstances beyond your control take over your life. It is within our power to make sure that, should we die prematurely, the people in our life who are dependent on us will not have to struggle financially.

What Type of Life Insurance to Buy

Here’s the key lesson with life insurance: You want a policy that is called term life insurance— not whole life. And here’s some really good news: Term life insurance is incredibly affordable. You are going to be amazed at how little it costs to buy yourself peace of mind.

Do not let anybody tell you that your life insurance policy is a good way to build extra savings. Fall for that and you will end up wasting thousands of dollars over the life of the policy.

How Long You Need Life Insurance Coverage

Life insurance is meant to provide financial protection for those who are dependent on you at a point in your life when you have yet to build up other assets. Once you have accumulated assets that your dependents can fall back on— say, a sizable retirement fund or other significant investments— you no longer need life insurance.

Besides, people dependent on you today may not be dependent on you in 10 or 20 years. A five- year- old child today is completely dependent on you. But 20 years from now, I expect—and so should you!— that your 25- year- old child will no longer rely on you for financial support. (Please note: If in fact you have dependents with special needs and you anticipate that they will require your support forever, you may indeed want to consider a “permanent” type of life insurance.)

Therefore, for most of you, if the primary purpose of your life insurance is to protect young children you anticipate will grow into independent adults, then you probably do not need a policy that is longer than 20 to 25 years. Same goes with life insurance for a spouse or partner; chances are you only need to provide the protection until the assets you both have accumulated have grown large enough to support the surviving spouse if one of you should die prematurely.

How Much Life Insurance You Need

The wise way to find out how much life insurance you need to purchase is to add up the annual living costs for your dependents, or your annual contribution to them, and then purchase a policy that is 25 times that sum.

For example, if your dependents need $50,000 a year to cover their living expenses, I am asking you to buy a $1,250,000 life insurance policy— that is, a policy with a $1,250,000 death benefit.

That said, if your cash flow can’t comfortably handle the premium for a policy with a 25× death benefit, that’s fine. Purchasing a policy that covers 5, 10, 15, or 20 times your dependents’ annual living costs is still a huge step in protecting your loved ones. And keep in mind, you can always add more insurance in the future, as your cash flow expands. Focus on whatever amount is honestly affordable today.