How Life Insurance Fits Into Your Financial Planning Process

By Sanford Ellowitz on January 14th, 2010

When determining how much life insurance you need, it's a good idea to put the decision into the context of an overall financial plan.

A Road Map To Financial Security

Think of your financial plan as laying out a road map to reach the goal of financial security for you and your family.

First, Find Out What You're Worth

With any journey, you should start from a known point. In financial planning terms, this would be your personal balance sheet, which tells you what you're worth today.

You can create one by adding up the value of all of your assets, then subtracting any liabilities. For example, your home is an asset, but the remainder of your mortgage is a liability.

Where Your Money Goes

The next step is to develop an income statement. This spells out what you earn, less what you spend.

A good way to see how much you spend is to take all of your bills for a typical month, and then sort them into categories. For instance, you might group your expenses into the following categories:

  • House payment
  • Utilities
  • Taxes
  • Food
  • Entertainment

Once you have taken inventory of your expenses, you can see how much you spend and where your money goes. This process makes budgeting easier. You now know how much you have available to spend--and perhaps what you can afford in terms of life insurance premiums.

Think About Your Goals

Now that you've determined your net worth and how much you can afford to spend, take some time to think about your financial goals. You should separate your goals into three separate categories:

  1. Short-term Goals: Saving for vacation
  2. Intermediate Goals: Putting your children through college
  3. Long-term Goals: Saving for retirement

Protecting Your Assets

A key part of financial planning is protecting your assets. This includes insuring your home or auto against damage or theft, shielding your savings in case you are sued for liability damage, and having disability insurance to protect your income. Life insurance is another tool that can protect your assets and your family's standard of living.

Protecting Those Who Depend On You

Financial planning is about safeguarding those who depend on you if you can no longer provide for them. You can do this by having enough life insurance to meet their needs.

The Minimum Life Insurance Amount

To determine the amount of coverage you should purchase, add up your obligations, such as the cost of a college education. Next, subtract your savings from your obligations. The difference, between your savings and your obligations, is the minimum amount of insurance coverage you should purchase.

Start With the Worst Case Scenario

When calculating the amount of insurance you need, always start with the worst case scenario. Meaning, think of how much your loved ones may need should you pass away today--not sometime in the far off future. If your spouse works, and your family depends on both incomes, the worst case scenario is that you both die at once--leaving your children with no support at all.

Other Obligations to Consider

Remember to anticipate rising costs when determining how much insurance you need. If your children are young, your insurance needs may be much greater than if they are ready to start college immediately.

Don't forget to provide enough money for living expenses, as well as sufficient money for your family to set aside in case of an emergency. Finally, the insurance should also be able to pay your final expenses, such as burial costs and any estate taxes.

Purchase Just Enough Life Insurance

Once you've determined the amount of life insurance you need, subtract any existing permanent insurance that you have. You might also have insurance through your employer, but if it is based on your continued employment, it may be wise to discount it. Job loss or changes in employment may end this coverage.

The Value of Term Life Insurance

Term life insurance, which covers you for a set period or term, fits very well into your financial plan for two reasons:

  1. It is the most affordable life insurance coverage
  2. You can match the term of a policy to the length of your obligations

For example, if your children should be out of college within 10 years, you can select a policy that provides coverage for that specific period, rather than for the rest of your life.

When To Purchase Term Insurance

The younger you are when you purchase term insurance, the cheaper your life insurance premiums may be. The premiums you pay for term insurance are based on your expected mortality. Therefore, the younger and healthier you are when you purchase term life insurance, the less likely it is that the insurer has to pay a death benefit. Thus, your premiums are lower than if you apply when you are older and possibly less healthy.

Estate Planning

The final step in any financial plan is to create an estate plan to ensure that the maximum amount of your assets are passed down to your heirs.

If taxes may diminish your heirs' inheritance, life insurance can be used to pay your estate taxes. It can also be used to create a legacy for your heirs, or to provide funds for a charitable cause that you supported throughout your life.

When you're ready to purchase term insurance, it's best to compare quotes from multiple insurance companies. Enter your zip code and you can get competing quotes to choose the best policy for you and your family.

Source :
The Role of Insurance in Your Financial Plan • Yahoo! Finance • http://finance.yahoo.com/how-to-guide/insurance/13308
What You Should Know About Buying Life Insurance • pueblo.gsa.gov • http://www.pueblo.gsa.gov/acli/
Do I Need Personal Financial Planning? • pfp.aicpa.org • http://pfp.aicpa.org/Resources/Consumer+Content/Do+I+Need+Personal+Financial+Planning
money 101 Lesson 20 ; Life insurance • CNN Money Magazine • http://money.cnn.com/magazines/moneymag/money101/lesson20/

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