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Life Insurance: What Kind of Coverage, and How Much, Do You Need?

Recent events have reminded Americans of the need to review the insurance coverage that they have in place to provide for their families in the event of disability or death. If you have been considering these issues, here are some basics that can guide you to their resolution.

There are two types of insurance that can combine to meet these needs. The first, and best known, is life insurance. Less familiar, but as least as important in many situations, is disability insurance – a product that is intended to provide for your care when you are disabled.

How much life insurance? Most of us know that life insurance is designed to provide proceeds to those people who depend on you financially. If you are single and have no dependents, you may need less life insurance than if you are the sole breadwinner in a large family with little savings. Many methods exist for determining how much life insurance you need.

One common guideline says your insurance should equal six to eight times your gross annual income, plus the total of any debts and obligations, such as mortgages, personal debts or college tuition for children. So if your income is $50,000 and you have expenses totaling $150,000, you’d need at least $450,000 (6 x $50,000, plus $150,000 for expenses). This would allow your heirs to pay your immediate expenses and invest the balance to provide replacement income on an ongoing basis, both from the lump sum and the interest it generates.

Another method, known as Human Life Value, takes into account your true value to your family now and in the future. Your ability to provide income and the potential for future earnings is only one aspect of what you provide for your family. Human Life Value considers your role as caregiver and your contribution to the maintenance of your home.

The best type of insurance for you. There are two different types of life insurance – term insurance (often called temporary insurance) and permanent or cash value insurance, which is available in many different forms.

Term insurance provides protection for a specified period of time. It provides “pure death protection,” meaning if the insured does not die within the policy period, the policy will expire without paying a death benefit to the beneficiary.

Permanent insurance, on the other hand, typically provides the insured with lifetime coverage. It provides death benefits regardless of when you die. In addition to death protection, it also provides a cash value accumulation element with a minimum guaranteed rate of return. [This guarantee is based on IDS Life Insurance Company’s continued claims-paying ability. This guarantee does not apply to the management or performance of the subaccounts, which may fluctuate with market conditions.]

Comparing the costs. Because term insurance policies have no cash value, initial premiums for term insurance are generally lower than initial premiums for other types of insurance. However, in many cases, long-term premiums are usually higher than other types of insurance as you get older.

Disability insurance. Most of us consider health insurance to be a critical need, especially as protection from serious illness or accident. But does it make sense to prepare for the medical costs of a disability without taking into consideration the costs of food and shelter for our families? If you depend on your income to pay the bills, details on disability insurance are available in the June 7, 2001, Advice column. 

Determining the right combination of life and disability insurance can be quite complicated. Before buying insurance, consult with a knowledgeable financial advisor to get a full understanding of the various policy types, cost, conditions, etc. and how protection planning fits into a comprehensive financial plan tailored to meet your specific financial goals.

April 18, 2002

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