Oran Hall | Determining your life insurance needs

Financial planning is based on the expectation that people will live for a long time, but many do not and leave behind dependants with a wide range of needs to be met.

Life insurance is a useful tool to fill the void created by the loss of income of a valuable family member.

How much insurance is required varies depending on where a person is in the life cycle considering that it has some bearing on income, resources, and financial and personal responsibilities. Thus, whether a person needs life insurance, and how much, varies over the life cycle.

When a person dies, it is expected that money will be needed to pay funeral expenses, taxes, and expenses related to the settlement of the estate, debts, expenses for the education of dependants, and, very importantly, the day-to-day living expenses of dependants. The time over which these expenses must be met varies, and this must be factored into the determination of how much is required.

Ideally, people want to continue to live as they used to while the major bread winner was alive, and in the absence of the resources required to achieve this, life insurance presents an opportunity to make this possible.

In the early years, single people who have no children may not need insurance except if they have dependent parents and financial commitments such as student loans and personal loans. The situation of those who are married and do not have children is similar. But some people may see the need to provide for their spouses to have additional funds to maintain their standard of living. Of particular importance in this period is that the ability to generate income from investments is not usually strong, hence the need to fill the gap.

Adding children to the family makes a significant difference to the need for insurance. Funds have to be provided to educate them and meet their living expenses – and for a long time. The likelihood of emergencies related to health issues, for example, makes it necessary to have liquid funds to respond to such calls. Having a financial safety net at this stage is critical.

It is also important to provide for the surviving spouse, whose income is very likely to be insufficient to carry the responsibility of funding the family. This need can continue for a long time if the survivor does not remarry.

This situation may continue into the mid-career stage, which extends from the early forties to the mid-fifties. Insurance needs are still high to cover the expenses of the surviving spouse, dependent parents, and the children, now most likely securing costly tertiary education. Investment income at this stage is often better though not sufficient to meet the expenses.

The situation generally changes in the later part of the mid-career stage and by the beginning of the pre-retirement phase. The children are likely to have completed formal education and have set themselves on a course of financial independence. There are generally more investment assets to provide more income, stemming from higher levels of savings due to higher incomes and possibly lower expenses. Additionally, there is a shorter time over which to provide for the needs of the surviving spouse. Thus, there is less need for life insurance.

The retirement period is when there is the least need for life insurance. During this time, the children are expected to be financially independent, investment income is expected to be high, income is expected to come from pension, the time during which the surviving spouse requires support is even less, and as a bonus, some types of insurance policies that were taken out in earlier years become providers by virtue of their accumulated cash values or investment values.

One major consideration at this stage is the availability of funds to settle the estate, but much depends on the estate-planning approach used. Wills and trusts, for example, can be costly. In some cases, though, there is usually enough money to meet these expenses.

Considering that the circumstances, resources, and need for protection of individuals change over time, it is important to have regular reviews of a person’s life-insurance needs to determine if coverage is adequate, inadequate, or excessive.

It is also important to determine if there are dependants who will need financial support, the amount of such support, for how long, when the support is needed, and whether there are sufficient resources to provide such support.

Although life insurance is a valuable-risk management tool, there must be careful analysis before a person commits to it. Maintaining it by paying the premiums in full and on time is key to it being useful, but due consideration must be given to cost considering that the same coverage can have different costs depending on the type of policy.

Oran A. Hall, author of Understanding Investments and principal author of The Handbook of Personal Financial Planning, offers personal financial planning advice and counsel. Email: finviser.jm@gmail.com