Life insurance is pure risk protection which ensures your financial presence will not be missed by your family. However, how much life insurance is good enough for you?
Life insurance is pure risk protection. In the unfortunate event that you are no longer around, this financial product ensures your financial presence will not be missed by your family. However, the question arises: how much life insurance should you buy?
According to financial experts, this depends on your needs. For instance, if you earn Rs 50,000 per month, you may think your family will require this amount in perpetuity. “This means they will require Rs 6 lakh a year, or a fixed deposit of Rs 90 lakh that pays 6.75% interest annually. But, inflation and higher expenses can make even this Rs 6 lakh inadequate in just a few years. A sound estimate of your current financial situation and future expenses is most critical to measure the amount of insurance,” says Anil Rego, Founder and CEO of Right Horizons.
There are three important questions to ask yourself before you buy life insurance. Does anyone depend on you financially? If yes, then how long will they depend? Assuming inflation at 7% annually, how much do they need including any existing liabilities and payments?
If nobody depends on you financially, don’t buy life insurance.
Once you find out how many people depend on you financially, there are a few helpful approaches to buy the right life cover for you.
One, “you should find your ideal life insurance policy amount by calculating your long-term financial obligations and then subtracting your assets. The remainder amount is the gap that life insurance must fill,” suggests Rego.
For e.g., if your loans and other obligations are Rs 2 crore and your present assets are worth Rs 34 lakh, life insurance must pay you Rs 1.66 crore.
Remember that any thumb-rule like 10 times income doesn’t take a detailed look at your family’s needs, or loan repayments. So, it’s best to avoid such general formulas. Personalize your formula with real facts and figures.
Two, if you have no long-term financial loans right now but will have expenses related to child education and family upkeep, then buy adequate life cover.
Education expenses are an important component of your life insurance calculation if you have kids. “Cover their education till college, by making a sound estimate. Take into education inflation at 12-15%, while family upkeep will require 5-7% every year due to price rise. For example, family may require Rs 50,000 per month or Rs 6 lakh a year or a corpus of Rs 90 lakh. Children education over two decades can run into similar amounts if not more. So, add the two expenses and buy requisite life insurance,” says Rego.
Three, besides loans, child education and family upkeep, health expenses can be an important item for those who have dependent aged parents. Medical expenses for 10-15 years can be covered with medical insurance but that would require timely premium payments. Estimate all the expenses and come to a figure.
For example, “family upkeep will require Rs 50,000 a month, child’s education over 20 years will need Rs 1 crore and medical insurance premium will cost Rs 50,000 per year for 15 years. So, your life insurance need will be Rs 90 lakh for family, Rs 1 crore for child education and Rs 7.5 lakh for parents health cover = nearly Rs 2 crore,” informs Rego.
Using any of the approaches, once you know the amount, you can map the life insurance on top of your overall financial plan.
Remember that while under-insuring yourself will put you and your family at risk, buying more insurance than you need will result into a higher premium outgo which will also be a waste of money. Therefore, getting yourself adequately insured should be your aim.