Life insurance is an amazing fiscal tool when used properly. The good news is that life insurance has multiple applications which can make a huge difference to you and your family’s financial well-being. Few people realize the versatility of life insurance and how it can be a powerful solution in different scenarios.
In the following scenario, a family decides to inquire about how to use life insurance to protect the family in case the primary wage earner is either incapacitated or dies prematurely. The purpose is to provide sufficient resources for an appropriate length of time for the surviving spouse and children.
This requires an analysis to calculate the “human life value” of the primary earner, the person being insured, as a way of understanding how much tax-free money the family will need each year. The calculation will determine the minimally necessary guaranteed income to sustain the surviving spouse and children should their life be financially disrupted with the death of the insured. Once this minimal sum is known, the family can then decide whether they want to insure the primary provider’s life for an even higher amount. The process starts by first knowing the minimum insurance the family should purchase.
As odd as it may sound, insuring the value of a human life uses the same risk management principles as when insuring assets. The insured has an economic value that is equal to his or her present and future income stream adjusted for inflation. This is the same concept the courts apply when judging the amount of damages, for example, in a car crash that creates economic havoc for a family that loses a wage earner.
In this example Mark is 37 and has a wife and two children. Mark is an engineer with an annual compensation of $100,000 and an income tax rate of 30%. We assume Mark will retire in 28 years, at age 65, inflation will average 3% per year, and the family’s investments will earn 5% per annum after-tax.
Mark’s annual income after taxes is $70,000 and after 28 years the value his earnings represent over that period of time is $1,530,460. This calculation includes the income-adjusted discount rate and other financial assumptions, but it shows that Mark should insure himself for at least $1.53 million. This value may need to be augmented based on the family’s immediate or short-term cash needs at the time of Mark’s death.
Obviously this calculation is made with assumed details and may or may not be applicable to your precise situation, but even so, it gives you an idea about how to start thinking about life insurance as a legitimate and welcome way to secure your family’s financial needs when the unthinkable happens.
You might also wish to inquire about Indexed Universal Life insurance which provides a death benefit for your family while also investing your annual premiums in an investment vehicle that can secure tax-free wealth on withdrawal. Insurance offers many variables that could be just right for you and your unique circumstances.
It’s clear that families must have adequate life insurance coverage, particularly when relying on a single wage earner. It is highly recommended that you take time now, at the end of this calendar year, to review your will, your estate plan, and your life insurance policies so you have the confidence of knowing your family’s future is secure through your forethought, planning, and love.
We hope this article about protecting your family with life insurance provided insightful information on how to start analyzing and planning for your family’s future needs. Synergy Financial Management welcomes your inquiries and is available to discuss your insurance portfolio as well as your investment portfolio’s ability to preserve your wealth from undue risk while also achieving your retirement lifestyle’s needs. Please give us a call for a free introductory discussion about how we can reduce your risk while improving your portfolio’s performance. Thank you!
Joseph M. Maas, CFA, CVA, ABAR, CM&AA, CFP®, ChFC, CLU®, MSFS, CCIM
Synergy Financial Management, LLC
13231 SE 36th Street, Suite 215
Bellevue, WA 98006
This article is for general educational purposes only. Nothing should be construed as individual tax advice. Please consult a tax advisor to see if this information is right for your situation.