How Life Insurance Needs Change Throughout Life

Life insurance is a critical aspect to your financial strength. It is the main protection asset in the 5 pillars of personal finance. But many of us ‘never get around’ to purchasing adequate amounts of coverage. And those who do, typically take a ‘set it and forget it’ approach. This is a major oversight though as your life insurance needs change throughout your life.

When you are young and single you likely have little need for life insurance coverage. But as you get older, get married, have children, and/or increase your salary, your life insurance needs likely increase dramatically.

Then as you approach retirement and estate planning, you should revisit your needs to ensure end-of-life coverage and that you are being tax-efficient. In short, there are many reasons to buy life insurance – we lay out 15 reasons to purchase life insurance here.

This post will cover the basics of how to calculate your insurance needs and the 8 life events that trigger a change in your life insurance needs.

How Much Life Insurance Do I Need?

There are many different methods to calculate how much life insurance you need. The 5 main methods are:

1. Multiple on Income
2. DIME Method
3. Human Life Value / Future Projected Income
4. Percent of Income Spent on Premium
5. DEEM Formula ^TM / Future Expected Expenses

Each one of them has their own pros and cons, but we recommend the DEEM Formula^TM as we think it is the most robust. It is a spin-off of the widely popular DIME Method, which stands for Debt, Income multiple, Mortgage, and Education. DEEM replaces an income multiple with an expense multiple as your insurance is there to cover expenses.

However, calculating your life insurance needs isn’t a one time event. As your life changes, your life insurance coverage needs also change. It is important to revisit your life coverage amount on these important milestones.

8 Times To Recalculate Your Life Insurance Needs

Your life insurance needs aren’t static throughout life. As you get older and advance through different stages of your life, your life insurance needs will change. The 8 common times that you should consider recalculating your life insurance needs are:

1. Marriage
2. Birth of a Child
3. Getting a mortgage
4. Starting a Business
5. Major pay increase or promotion
6. Divorce
7. Estate Planning
8. Retirement

These aren’t the only times you should consider re-evaluating your life insurance though. If you haven’t looked at your coverage in a while, it may make sense to revisit it even if you haven’t had a major life event.

1) Increase Your Life Insurance Due To Marriage

When you get married, your financial obligation goes from a single-player to a joint effort. If you or your spouse dies, a life insurance policy is there to ensure the surviving spouse has financial stability.

You and your spouse will grow accustom to a standard of living based upon your joint incomes. Additionally, you likely will be taking on new financial obligations as you start your life together.

You don’t want to leave your spouse with the burden of paying off debt on a significantly decreased income level.

Lastly, there is a cost to planning a funeral and handling end-of-life costs.

Usually a term life policy is sufficient at this point as you are likely younger and healthier. Term life is the most affordable life insurance option. And utilizing a buy term and invest the difference (BTID) strategy is often the best way to go.

However, there is joint life insurance, like second-to-die that will cover both you and your spouse under one policy. Joint life insurance is typically a permanent life insurance product.

2) Purchase Life Insurance with the Birth of a Child

When a child is young, it is crucial to have sufficient life insurance on both the parents. If either parent were to suddenly die, life insurance helps cover the cost of child care and continuing to raise your child to adulthood.

Additionally, if you were planning to help your child pay for college, you can purchase a life insurance policy to cover this cost.

We typically recommend purchasing a 20-year term life policy upon the birth of each child. This not only is an efficient way to set up a term life insurance ladder, but also allows for naming each child as a beneficiary to their own policy. When you have a growing family, you can look at family life insurance and policies with add-ons for your spouse and children as well.

3) Getting a Mortgage may require more life insurance

For most people, their house is the biggest purchase they will ever make. Purchasing life insurance after taking on the large debt of a mortgage is a way to ensure your loved ones can remain in the home if you were to pass.

There is mortgage protection insurance available that is marketed specifically to new home owners. Mortgage protection insurance will pay off the balance of the mortgage when you die, but the death benefit is paid directly to the lender.

Therefore, most people opt to purchase a term life insurance policy large enough to cover their mortgage. That way the beneficiary is your surviving family and they have the option to use the money how they deem best.

If you move to a more expensive home or refinance your current mortgage, you should also consider looking at your current life insurance to make sure it is adequate from a coverage amount and timing perspective.

4) Protect Your Business with Life Insurance

If you own a business, you have made substantial investments into your company. You want to make sure you have adequate life insurance to cover any outstanding business debt that your family would be responsible for if you die.

You don’t want to risk having your family having to liquidate personal assets to cover outstanding debt. Your business shouldn’t be a drain after you go.

You can again use a term life insurance product to cover these costs. Or if you want to cover the debt you took on, a decreasing life insurance product that matches your liabilities can be used as a cheaper alternative.

5) Major Pay Increases or Promotions

You just got a major promotion and/or pay raise at work. Congratulations. This typically comes with an upgrade to your standard of living. But before you spend all the money, you should consider upping your life coverage.

The benefit of increasing your life insurance after a major increase in income is that you have more money to pay for the premiums.

This is one time that looking at a permanent life insurance product may make sense. Not only do you lock in life-time coverage, but you get a cash value account that will grow over time. This cash value account is your money that you can use if you need it.

Permanent life insurance is typically more expensive than a similar sized term product. Often a permanent policy is 5 to 15 times as expensive. But with your newfound income, purchasing a permanent policy and getting used to funding it can help force additional savings. A whole life insurance policy is a good starting point for permanent cash value products.

6) In Case of Divorce Your Life Insurance Needs May Change

In the unfortunate case of a divorce, it is important to not only review your coverage amount but also update your beneficiaries.

If you had named your ex-spouse as the beneficiary, you may want to consider changing it to one of your children or a different family member. And the coverage amount you need may change as you may only want to cover some of the expenses you previously were planning for.

This is a situation where your term life insurance ladder can come in handy as you have a natural decline in coverage over time.

7) Estate Planning Requires A Change in Life Insurance Coverage

Most people are aware of the benefits of a will and/or trust in estate planning. But having a life insurance policy to help pay for estate taxes or to pass assets outside of probate is a huge benefit.

You don’t want to leave your loved ones with a forced sale of assets to cover estate taxes or outstanding costs.

And your coverage can be used to pay for any burial costs or end-of-life care costs. You don’t want your loved ones to have a financial hardship while grieving. There is final expense life insurance that is available solely for these costs. Final expense is low face amount permanent coverage aimed at covering just your funeral and related expenses.

8) Retirement Planning and Changing Life Insurance Coverage

As you approach and enter retirement, you financial needs likely change greatly. This is another great opportunity to re-evaluate your life insurance coverage needs.

If you purchased a permanent life insurance product, you likely have a cash value account that you can use to supplement your retirement savings. Withdrawals from a cash value account are typically not taxed for capital gains or income. One of the benefits of permanent insurance is the liquidity it provides.

If you have adequate savings, you may consider buying a life insurance policy to pass on wealth to your heirs. Death benefits are typically tax-free and avoid probate.

The Final Word

Life insurance can seem complex, but it doesn’t have to be. There is information out there to help act as a beginners guide to life insurance.

And there is no reason not to purchase life insurance. You can even buy life insurance with money in your IRA if you want. Life insurance is a critical aspect of your personal financial portfolio and is not a waste of money.

But life insurance is not a buy it once and forget it endeavor. Just like all parts of your finances, you need to re-evaluate your coverage overtime to make sure you are properly insured. We discussed 8 life events that may require recalculating your insurance coverage, but you should regularly review your death benefit amounts to ensure they fit your needs.

Frequently Asked Questions (FAQs):