Most life insurance policies have benefit figures that seem absolutely, ridiculously overblown to many of us! Our line of thinking runs something like: "Why would my family need a million dollars, just because I died?". Unfortunately, most of us grossly underestimate our contributions to the family. If you're currently the sole breadwinner in the family with several dependants, you'll need to put a bit of calculation time into your life cover benefit amount. Today we check out two alternative methods for doing this: the 'Needs Approach' and the 'Replacement Income Approach', as well as the benefits and drawbacks of each.
The Life Insurance Needs Approach
You can use the Needs Approach to calculate the level of life benefit that your family will 'need' after you die. Using this approach, you would need to add the single-instance expenses of:
* Funeral and burial expenses
* Unpaid medical bills
* Payment of outstanding debts, including mortgages, credit cards and personal loans
Then include ongoing expenses such as the following, for the period that your family would absolutely need the income support:
* Food
* Housing (Will you pay out your mortgage, or would your family move house anyway?)
* Transport
* Schooling
* Utilities
* Child support costs
* Provision for Family Income
Using the Needs Approach to calculate your necessary life insurance benefit can be quite a burdensome task if you don't already have good financial records. If you choose to use it, don't forget to factor inflation into the yearly figure.
The Basic Income Approach When Calculating Life Insurance
This method of calculating your life benefit is far simpler. You simply take your current income and multiply it by ten. This figure is a general rule of thumb that can be used to estimate your life cover needs.
How To Best Compare Life Insurance
There are other more complicated ways of calculating your life cover needs. One such way needs you to multiply your income by the number of years that your family would need its support (usually until your youngest child turns 18), account for inflation, subtract any governmental support, and factor in superannuation contribution amounts into future cash-flows. However if you intend on using this more complicated method you may be better off speaking to a financial adviser who can accurately calculate your needs.
The Needs Approach takes more time to calculate, but gives you an accurate bottom-end estimate of what your family could survive on without the benefit of your income. The Basic Income Approach to calculating your life benefit gives you a rules of thumb to estimate your family's needs - but may create higher life benefits, and therefore premiums.
These are both good starting points in calculating your levels of cover, but if you would like a full recommendation talk to a financial adviser who will help you with a detailed calculation.
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