How Much Life Insurance Is Enough?

When it comes to life insurance, there's no such thing as one-size-fits-all. At first glance, $100,000 may seem like a lot of coverage. But if you have a growing family with a middle-class income and average household debts, that amount may only see your family through a few months of living expenses should something happen to you. Follow these six steps to calculate the right amount of life insurance for you.

Step One: Final Expenses

The most obvious role of life insurance is to cover the cost of final expenses for your funeral, burial or cremation. Depending on what type of arrangements you want, you can generally estimate between $5,000 and $10,000 for this expense.

Step Two: Debt Payment

Add up all your unpaid debts that aren't already insured. If you have life insurance to cover your mortgage, for example, you can disregard this debt. Include your average credit card debt, home equity loans and any other debts you may have.

Step Three: Income Replacement

If you're like many Americans, it's unlikely that your spouse will have a pension to fall back on, so you should include enough money to replace your income for an appropriate time period. To do this, multiply your annual income by the number of years you want support for your family. 

Talk to your partner to determine what an appropriate time period is. Newlyweds without children may only want income replacement for three or four years — enough time for the surviving spouse to get back on her feet. A middle-aged couple may prefer a longer period of 20 or 30 years.

Step Four: Children's Education Fund

If you have children, you may consider including enough money to pay for their education. For a local college, factor in at least $24,000 per child, which should cover tuition, books and other costs at most public schools.

Step Five: Other Financial Commitments

Finally, factor in the cost of other commitments, such as donations to your favorite charity or a car for your child. If you own a business, you may need to talk to a professional insurance adviser about using life insurance to defray tax expenses or to fund a buy-sell agreement between your heirs and your business partners.

Step Six: Consider Your Assets

Once you have calculated your needs, add up all of your liquid assets — everything that can be converted to cash after you die. This should include savings accounts, retirement funds and other investments. If you have a boat or a second car, you may want to factor these in, too. However, your house and the family's primary car should not be included if you want your family to continue using them. 

Once you subtract the total amount of your liquid assets from your insurance needs, you are left with the amount of life insurance that is right for your situation.

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