Life insurance cover is an amount that gives financial security to your family members in case of your death. It should be sufficient enough to take care of all that you do for your family members. As all families differ in their composition in terms of earnings, expenses and future goals, their insurance cover needs differ. Unless you are a financial planner, it will be difficult for you to find out the exact amount of life insurance that you need. To make things simpler, we help you in finding out the ideal cover that will provide adequate financial protection to your loved ones in your absence.
Going for the absolute
To find the accurate life insurance cover, experts suggest finding out Human Life Value (HLV) considering all aspects of the earning person and dependents. To reach at the right figure you need to analyse your income and its expected growth, expenses and its expected growth, number of dependents, the tenure of their dependencies, major life goals, time left to achieve these goals, expect rate of inflation, expected return on your investment, rate of asset creation and so on.
“One can decide life insurance cover need by taking the help of Human Life Calculator. It helps you calculate the monetary value of your life based on your income, savings, and liabilities. It is the value that denotes the loss of income and increase in liabilities that your family would have to face in case of your sudden demise. It, therefore, helps you ascertain an amount that would be suitable as a life cover for you and can take care of your family’s needs in case of your unfortunate death,” says Indraneel Chatterjee, Co Founder and Principal Officer, RenewBuy.com.
“This calculator ascertains the best life cover for you on the basis of four factors such as your profile (current age and retirement age), savings, liabilities and your income,” he adds. Now a days it is easier to find such HLV calculator online which you can use to find out the exact life cover amount.
The simple way of knowing the ideal cover amount
The exercise of calculating human life value may appear to be a daunting task for many. They would prefer an easier way to find out the right amount. Here is how you can do so:
Universal thumb rule
To help you do the same, there are many methods which different expert suggests that may not be the most accurate, but will help you reach closer to a minimum ideal life cover amount. The range that experts suggest lies between 8-12 times of your annual income, which they consider is the ideal minimum cover amount one should have. “A good rule of thumb suggests to invest in a life insurance plan which is 10 to 12 times of annual income, but it also varies from person to person as each and every person has different financial circumstances,” says Naval Goel, CEO & Founder of PolicyX.com.
However, if you find the cover amount to be on the higher side, you may go for a conservative cover amount. “Essentially you need enough to replace your income and cover your dependents’ expenses, including future ones. Most people should aim for 8-10 times their income. Remember life insurance is protection not an investment,” says Chatterjee. Please note that these thumb rules indicate the minimum cover that you must have and assume that you do not have any extra ordinary obligation.
Based on stage of life
Another approach is to go for life stage based approach of figuring out the ideal cover amount. The basic assumption under this approach is that at initial stage of earning life, people earn less, have lower assets and their family members face biggest vulnerability, as they would need financial support for the longest period. Therefore, this approach suggests higher multiple of insurance cover at lower age. It further assumes that as people progress toward middle ages, they accumulate assets and their future obligations come down so they need relatively lesser insurance cover multiple. “It also varies as per the age of the insured. if the insured is below 40 years, the ideal cover amount is 20 times of annual income. For people between 40 years and 50 years of age, the ideal cover amount is 15 times of annual income and above 50 years, the ideal cover amount is 7-10 times of annual income,” says Goel.
Based on financial goals
One-size-fits-all approach may not work for everyone especially when the family members have ambitious life goals. This often could be the case with families that are expecting enhanced earning in near future with factors such as promotion in job, spouse starting to earn and so on. Therefore, such families may need to base their ideal cover calculation based on their specific circumstances.
“This (Right Cover Amount) should be a function of the financial plan of a family primarily securing two key financial goals – monthly income and life goals. First and foremost, a correct assessment of the financial needs of the family so that they can be secured,” says Rohit Sarin, Founder Partner, Client Associates.
Do not forget to include major liabilities
It is not uncommon these days for people to have high loan obligations especially home loans and auto loans. If the earning member is no more, it gives a double jolt to the family. First, they find it difficult to service the debt and second, they may not be able to use it if the lender takes it away in case of default.
“Financial obligations play an important role in deciding the right life insurance cover amount. What is your debt standing. You want to leave enough for your beneficiaries to continue paying off loans. How much are your family expenses; education fees, loans on home, personal vehicle etc,” says Chatterjee. If you include these obligation in the cover amount, your family will be able to enjoy these assets without any hinderence.
Things to be careful about
Income multiples approach indicates that your insurance needs to rise when your income rises, which happens as you age. Term plans, which are pure insurance product, provide you the highest insurance cover at the most affordable cost. However, premiums are lower at the young age and as you grow older the premium amount goes higher. So, having a bigger insurance cover beyond your current requirement may help you enjoy adequate cover in future at lesser cost. “Personal considerations like your health and age will determine not only how much insurance you should buy, but also for how long you’ll want to get it. So, if you purchase a policy when you’re young and healthy, you’ll get a more affordable rate for a potentially larger amount of coverage. Your medical history, lifestyle also are a decisive factor,” says Chatterjee.