Your human life value (HLV), or ideal life coverage, is the present value of all future income. In this calculation you use your annual income and years left till retirement to determine how much life insurance you should hold.
Life insurance is complex, and the amount of coverage you purchases can be opaque and confusing. HLV attempts to give you guidance on how much life insurance coverage you should own.
People will point out that human life value can lead to buying a lot of insurance. And many consider this overkill. However, HLV is a tool for finding a recommended baseline coverage amount and you can adjust it to fit your needs.
What Is Human Life Value?
Human life value is a method to calculate your life insurance needs. HLV is used as a guideline for how much life insurance coverage is needed to fully secure the lives of your loved ones.
Life insurance is confusing and complex. When you are trying to determine how much life coverage you need, you are trying to ensure your family is covered if you were to die unexpectedly in the future.
HLV attempts to give you a framework to answer that question.
What Is Life Insurance?
Life insurance is a protection product that pays out a benefit to your loved ones when you die. For this service, you are required to pay premiums to the insurance company.
Life insurance is a key component of the protection group in the 5 pillars of personal finance. Yet most people are underinsured which leaves their loved ones exposed to financial distress if they were to lose one source of income.
There are 2 main types of life insurance to know; term insurance and permanent insurance. Term insurance which will cover you for a period of time but has a maturity date. And permanent insurance will cover you until you die as long as you pay your required premiums.
The benefit of permanent insurance is that you will get a benefit payment from the insurance company. With a term policy, it may expire before you die and you get no benefits from it. However, permanent insurance typically costs 5x-15x more than term insurance because it does not expire.
Human Life Value Calculation
Choosing your coverage amount can be confusing. HLV is one option to help you find a preliminary number based on your income and where you are in your career.
The 7 key factors that go into your human life value calculation are your:
- Age
- Gender
- Occupation
- Annual Income
- Employee Benefits
- Target Retirement Age
- Financial Information of family
An easy way to calculate your HLV is to take your current income and multiply it by the number of working years you have remaining. If you make $100k a year, you are 35, and plan to retire at 65, you need $3 million in life insurance. ($100,000 x 30 years of work left till retirement).
It may seem like a lot, but just like you wouldn’t insure half of your home, why insure only part of your earnings?
If you want to be more exact, you can project out your future cashflows. The same person making $100k at age 35, who thinks they can sustain a 2% annual raise would make over $175k by time they hit age 65. In this case you would want $4.25 million as your max life insurance amount.
However, your beneficiary likely won’t spend all $4.25 million in a lump sum. They will likely invest it. If you assume they earn a reasonably safe 4% return on that money, you can take the present value of this amount. This brings your total HLV down to $2.4 million.
[Professor B.T. Effer Note – The above calculation involves discounted each years salary back to today by using (1 + 4%)(1/t) where t = number of years in the future the salary is earned. Showing the full calculation is outside the scope of the post.]
Now you have a range for your life insurance coverage. At the low-end of the range you have $2.4 million and at the high-end $4.25 million. You can choose you coverage at any number in that range depending on how much you covered.
Time Value of Money – Quick Note
You take the present value of future cashflows to reflect the value of those cashflows today. You would rather have $1 today than $1 in 10 years. If you have that $1 today, you could invest it and it would grow to more than $1 in 10 years. This is called the time value of money (TVM).
TVM is the concept being reflected in the lower $2.4 million HLV above.
Time value of money is a very well established principle of personal finance. You choose a conservative rate that you think your money can grow at. Then you discount back at that rate.
Advantages of Human Life Value Method of Life Insurance
The benefits of using the HLV method to calculate your life insurance needs is that it gives you a guideline for the earnings your family would lose if you were to unexpectedly pass.
Additionally, there are adjustments that can be made to the full HLV to allow for you to reflect your unique situation. With the industry speculating there is a $15 Trillion life insurance coverage gap, most people are probably underinsured. Therefore, using the human life value formula you can be one of the few with ample coverage for your loved ones.
Disadvantages of Human Life Value Method
One of the major flaws in the human life value calculation is that it does not take into account any debts or cost of living. If 2 people have the same income projections, but one has significantly more debts and lives in a higher cost area, they still will get the same coverage amount. The person with higher expenses and debt likely need more insurance to provide the same protection to their family.
Secondly, HLV is one of the more complex methods of calculating life insurance needs. You need to project future income streams and make assumptions on income growth. Additionally, present valuing future cash flows is a complex concept for many people to calculate.
Lastly, human life value doesn’t have a solution for someone who doesn’t have income, like a a stay at home parent. There is undeniably value of the service provided, but without income HLV is silent on how much coverage they need.
Human Life Value Estimation
If the calculation of human life value seems too complex, there is a simpler estimated number to use. To estimate what your human life value is you use:
- 30x annual income when 20-30 years old
- 25x annual income when 31-40 years old
- 20x annual income when 41-50 years old
- 15x annual income when 51-60 years old
- 10x annual income when 61-65 years old
- 1x NET WORTH when 65+
Alternative Calculations for Life Insurance Coverage
There are alternative methods to calculate life insurance coverage needs. The 5 commonly recommended methods to calculate life insurance coverage are:
- Multiplier on Income: “Rule of 10” and “Rule of 12, say to purchase 10x and 12x your income in life coverage
- DIME Formula: DIME stands for Debt, Income, Mortgage, and Education
- Human Life Value
- Premium as a percent of income: You figure out the amount of premium you can purchase within your budget. Typically this is 1-6% of your budget
- Future Expected Expenses / DEEM FormulaTM: Similar to the DIME formula, but using expected expenses rather than income.
The DIME formula is a simpler calculation that includes your debt load. If you have a lot of debt, mortgage, and plan to pay for education of your children, this may be a better fit.
However, we think the DEEM FormulaTM is a better version of the DIME formula. Here you replace your income with your expected expenses. Since the purpose of life insurance is to cover the cost of living, using expenses are a better metric of providing your loved ones the same lifestyle.
All these methods will result in a good starting point for you to determine how much life insurance you need.
The Final Word – Human Life Value of Life Insurance Coverage
Human life value is a useful tool to have in your arsenal when you are looking at your life insurance coverage needs. Purchasing enough coverage to replace all your future income should ensure your family is able to maintain their standard of living.
HLV is an guideline for you to begin your life insurance needs assessment. Depending on your specific individual situation, you may want more or less coverage than is recommended. We highlighted how you can do a simple calculation or do an actual cashflow projection. Then depending on the assumptions used, you will arrive at a range of results.
You can always test your life insurance needs under more than one of the 5 recommended approaches to get different opinions. Human life value tends to result in a relatively high life insurance coverage amount as it has you covering all future earnings. Therefore, it may be at the high end of the range of results.
Human life value (HLV) is a method of calculating your life insurance coverage needs using all your future earnings. The theory underlying HLV is if you die, your family loses out on all your future earnings. By purchasing life insurance that covers your future earnings you can ensure that your loved ones are protected.
There are 7 factors considered for the base human life value calculation:
1) Age
2) Gender
3) Occupation
4) Annual Income
5) Employee Benefits
6) Target Retirement Age
7)Financial Information of family
You may also consider adjusting the calculation for future raises / earnings increases as well as discounting future cashflows based on a conservative rate of return.
Some people believe that the human life value (HLV) method of calculating your insurance needs results in too high of a number. However, if you were to die unexpectedly, your family would miss out on all your future income. HLV provides you with a guideline for how much future income you will make.
However, it is just a guideline and you can use it as a starting point and adjust it to what fits your needs. A reasonable adjustment is to take the discounted present value of your future income. This reflects that your beneficiary will likely invest the majority of the death benefit and earn a return on it. The result will be a lower coverage amount.
Human life value is a thorough method to calculate life insurance needs. Life insurance is there to protect your loved ones if you were to die unexpectedly. By holding enough insurance that all your future earnings are reflected, you ensure that your family will have all your earnings. In a world with a projected $15 Trillion underinsurance problem, HLV can help you have enough coverage to protect your family.
The human life value (HLV) calculation is one of the more complex methods of calculating life insurance. It requires you to project out all future income and make assumptions in your projection. Additionally, HLV ignores any debt you have or your cost of living. Therefore, 2 people with similar incomes will get the same life insurance coverage even if their lives are very different. Lastly, there is no guidance on how much insurance someone without income would need.
There are 5 commonly recommended methods to calculate life insurance coverage needs. One is the human life value, the other 4 methods are:
1) Income multiplier: Buy life coverage as a multiplier on your annual income. The rule of 10 is an example and states to purchase life coverage equal to 10 times your annual income
2) DIME Formula: DIME stands for Debt, Income replacement, Mortgage, and Education. You add up all these needs to get your total life coverage amount.
3) Budget Method: See how much life insurance premiums can fit in your budget, then buy that much coverage. Usually recommended 1-6% of your monthly take home pay is spent on life insurance.
4) Expected Expenses: Projected expected future expenses for your family and purchase enough coverage for that amount. We like the DEEM FormulaTM which replaces income with expected expenses in the DIME formula.
Yes. A simple estimation of your human life value is:
1) 30x annual income when 20-30 years old
2) 25x annual income when 31-40 years old
3) 20x annual income when 41-50 years old
4) 15x annual income when 51-60 years old
5) 10x annual income when 61-65 years old
6) 1x NET WORTH when 65+