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Life insurance is an essential expense. However, you can avoid overpaying for your life insurance if you take the time to run some numbers and put together a plan. Here’s our step-by-step guide to help you determine how much life insurance you (and by extension, everyone you care about) will need.
Step 1: The Broad Strokes/The D.I.M.E. Method
You can start by doing a broad-strokes evaluation of your financial obligations. Our life and financial experts here at Empower Brokerage call this basic analysis the D.I.M.E. method. Each letter represents a different basic expense that life insurance can help with.
- Debt. When you pass away, the first thing the state will look at is your debt. This includes unpaid medical bills, car loans, the balances on your credit card(s), student loans, and any other personal loans you’ve taken out. As the first step of your D.I.M.E. analysis, total your debts and set that number aside. Note that your loved ones or next of kin will have a legal obligation to pay that debt in your stead, so having a life insurance policy will, at the very least, ease that burden.
- Income. Your life insurance should act as an income replacement to ensure your family can continue living comfortably even after you pass away. Write out your annual salary amount and multiply it by the number of years you’d like to cover the living expenses of your loved ones. For example, if you make $60,000 a year and would like your family to continue living as they are for the next 10 years, the final figure for this category would be $600,000.
- Mortgage. If you own a home, write down the amount of money remaining on your home’s loan. If you rent, multiply what you pay in rent times the number of months you’d like for your loved ones to continue living in your rental. If you rent alone, find out what it would cost to terminate your lease early or cover your rental payments until your lease ends.
- Education. If you have children or other family members who would like to go to college one day and you plan on helping them foot the bill, estimate the amount of money they will need to pay for their tuition, room and board, books, meal plans, etc. over 4-5 years. Double that number if you know they’d like to attend an out-of-state university.
Once you have a figure for each of the four D.I.M.E. categories, it’s time to add them together. Once totaled up, that number is the lowest you’ll want in terms of a life policy’s death benefit, so hold that number in your mind’s eye as you shop.
For the newbies here, the death benefit is the amount of money a life insurance policy will pay your loved ones when/if you pass away. So, if your D.I.M.E. total was $300,000, don’t buy a policy that will pay out a $200,000 death benefit, or the people you leave behind won’t have enough to remain financially stable. Similarly, don’t buy a policy that will pay out a $1,000,000 death benefit, or you’ll be paying far too much for life insurance that far exceeds your needs.
Step 2: The Fine Strokes/Benefit Detail Work
After figuring out your base death benefit amount, it’s time to fine-tune the estimate to account for more specific circumstances. Here is what we recommend doing…
- Calculate the cost of your funeral if you died today. It’s not necessarily an easy thing to think about, but it’s important to make an end-of-life plan for yourself. Contemplate exactly how you’d like to be honored in the event of your untimely death. Grave plots, caskets, cremations, coroner’s fees, and even flowers come with a hefty price tag. No matter what route you take, you can expect the total cost of your funeral to fall somewhere between $5,000-$25,000 (based on 2023-2024 estimates).
- Consider covering other foreseeable expenses. You may have additional expenses on the horizon that extend beyond the D.I.M.E. and your funeral. For instance, if you have a child and would like to have your life insurance cover the cost of their future wedding, you can tack on that totaled expense to your death benefit amount. Other things you may want to account for are future car purchases, family vacations, house renovations, or healthcare procedures. If it’s something you planned on assisting with in life, add it to your death benefit total.
- Evaluate your retirement savings. Believe it or not, certain life insurance policies can help you pay for your retirement, meaning that you can receive benefits both in life and in death. If you’re shopping for a life insurance policy and concerned about not having enough money set aside for retirement in the same breath, you can get a specific type of life insurance policy that will assist you beyond your working years AND beyond the grave. Reach out to an insurance agent for help navigating this kind of benefit bundling.
- Account for the cost of inflation. With the cost of living increasing, there’s a very good chance that the dollar won’t go as far in the future as it does now. Having you pass away early is already going to be difficult. Wouldn’t it make matters significantly worse to have your family receive a life insurance payout that—despite your best efforts—doesn’t protect them after all? If you’re concerned about how inflation could impact your death benefit, consider adding an inflation rider (another word for add-on) to your policy. The rider will automatically adjust the death benefit for inflation so your loved ones will be covered no matter what the economy looks like.
After factoring in any remaining costs, add that number to your D.I.M.E. analysis amount. That will be your new target death benefit while you shop for life insurance plans.
Step 3: Consider Your Assets
Once you have your big death benefit figure all worked out, it’s a good time to evaluate your assets. An asset is anything you own that has value. When you pass away, your assets may be sold, utilized, or otherwise allocated to pay off debt and keep your loved ones from financial ruin. Because of this, the monetary value of your assets can be subtracted from your big death benefit figure. Here are some examples of assets that may help lower your death benefit amount, and therefore, your monthly premium…
- A home, investment properties, and/or land (fully paid off or able to be sold).
- Vehicles (full paid off or able to be sold).
- Gold, jewelry, and other heirlooms.
- Existing retirement accounts, savings, and investments (stocks, bonds, etc.).
- A business, brand, or otherwise tangible or intellectual property.
If you’re unsure about the value of your current assets, consult with a trusted financial advisor who can draw up a market-appropriate appraisal.
Step 4: Research, Calculate, Consult
Once you’ve crunched the numbers on your own—after all, no one knows your situation better than you—it’s important to spend time researching potential life insurance companies and their products. The company you choose should be reputable and built to last. The reason why the company’s future should be prioritized is because you’re looking to purchase a product that will cover you decades from now. No one knows when they’ll die, so your provider should be future-proofed. If that company no longer exists by the time you need your policy to pay out, then you’re out of luck.
Also, while you shop around, take advantage of online life insurance calculators to continue refining your death benefit figure and get an idea of what you’ll be paying each month for your plan. Finally, it’s a good idea to bring all your findings to a trusted life insurance agent so they can make sure you select a plan that will check all your boxes.
Final Thoughts
Figuring out how much life insurance you need is a very personal process that should be undertaken with the utmost care. It’s important to consider every factor, bring observations and questions to experts, and be honest with yourself and your finances and goals. At the end of the day, your life insurance policy is an extension of yourself. Be an intentional, thorough, and proactive consumer, and you will be prepared for whatever weather rages.
If you’re interested in learning more about what life insurance can do for you, check out the following links:
- How Much Life Insurance Do You Need? (article)
- 6 Secret Benefits of Life Insurance (video)
Life Insurance Questions?
We hope this information on life insurance has been helpful to you.
If you’d like to learn how we can help you plan your retirement, call Empower Brokerage at (888) 539-1633 to speak to one of our Life and Annuity experts or leave a comment down below.
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