How to Calculate Your Insurance Coverage Amount
How to Calculate Your Insurance Coverage Amount
Insurance helps bring peace of mind to your life and protects you and your family from financial loss in the worst of circumstances. All types of insurance plans, including life, home, and auto, come with a choice of various levels of protection and benefits. Choosing the incorrect type of insurance or selecting an amount of coverage that is too small can have difficult consequences. Fortunately, understanding your insurance needs is simpler than it seems.
Calculating How Much Life Insurance You Need
Decide if you need life insurance.While life insurance is important, not everybody needs it. The purpose of life insurance is to cover immediate expenses at death, as well to replace your income and provide for your family or dependents should something happen to you. Therefore, if you are single and/or have no children, life insurance is a costly and likely unnecessary solution.
- If you have a partner, children, or anybody who would be affected financially by something happening to you, life insurance is an important way to keep them protected.
- If you have significant assets, life insurance may not be necessary as well. The key question is "Do I have the means now to ensure my family is taken care of should something happen to me?" If the answer is no, consider insurance.
- Even if you are single, you may consider minimal insurance to cover final expenses (cost of a funeral, etc.) if you don't think you have enough other assets to cover these costs.
Consider term life insurance.There are two basic types of life insurance — term life insurance and whole (or permanent) life insurance. Term life insurance does exactly as the name suggests — it guarantees coverage for a particular period of time (anywhere from one to 30 years). If you die during the term, your dependents are paid the agreed-upon death benefit (which may be a percentage of your pension or predetermined amount granted from the insurance policy).
- If your goal is simply to protect your family for a period (until your children grow up or until your significant other reaches the age where they are eligible for pension/social security) term insurance is the best, most affordable option.
- It is also useful if certain expenses you are worried about covering, like a mortgage payment, end at a certain date.
Consider whole life insurance.Whole life insurance does not end before you die like term insurance, but rather continues up until your death. In addition, part of your whole life premium goes towards a savings/investment component that grows tax-free over time. Experts typically recommend term insurance, as it is significantly less expensive than whole life insurance and provides the same amount of coverage, just without a savings element..
- Because you are covered for your whole life (as long as you pay your premiums), whole life insurance is significantly more expensive than term insurance (sometimes 10 to 20 times more). The fact there is a savings component to your premium adds to the cost.
- While the savings component is good for people who have difficulty saving, some experts say that Roth IRA's, 401(k)'s and IRA's are far more efficient and effective ways to save. Use these first.
- Consider whole life insurance if you can afford it, or if you have significant business or estate costs after you die (like estate taxes) that you need to protect your family from.
- If you have children or a partner with special needs or requirements who will be dependent long-term, you could also consider whole life.
Visit an insurance professional or financial adviser.An insurance agent or broker can walk you through the various options and help you choose a type of coverage that works for your particular family and financial situation. He can also assist you with the process of calculating your required coverage.
Determine your current outstanding debt payments.It is very important that your life insurance amount is large enough to cover payments on any outstanding debts. The important thing to know here is the monthly amount you pay towards your current debt, rather than the total amount. If your mortgage payment is ,600 per month, multiply this by 12 to determine your annual mortgage expense.
- Do this for all your outstanding debts. This will include car payments, line of credit payments, or any other obligations you have.
- Add the amounts together to determine your total annual debt spending.
Determine your future obligations.It is possible that you are saving each month for future obligations like retirement, education for your kids, or future expenses like car purchases. Should something happen to you, your life insurance would need to be large enough to continue putting funds aside for these obligations.
- Whatever the current amount of monthly savings you are using, multiply this by 12 and add it to the amount you calculated for your total debt payments.
- If you currently are not saving anything, you will want to determine how much you should save each month to cover your obligations. Since your life insurance amount will replace your income should you die, you will not need to factor retirement savings each month into your calculation. You will need to factor in savings for things like children's education.
- To do this, you can use an online calculator, which will take the total cost of your children's education, the time until they go to post-secondary, and the interest rate you are likely to receive on those savings. It will then calculate how much you need to put aside monthly. Search Bankrate.com College Savings Calculator online for a high-quality calculator.
Calculate your family's monthly expenses.Once you know how much you need to pay for debt monthly and how much you need to save monthly for future obligations, you need to determine what your family's monthly expenses are. This is the amount you will need to cover with your life insurance.
- The easiest way to determine monthly expenses is to look at your bank statements. They will contain an accurate record of how much money leaves your account every month.
- Alternatively, consider using personal budgeting software. These programs allow you to sync your accounts the program and will accurately track what your total monthly spending is. Popular programs include "Mint" and "You Need A Budget."
Add up your total annual expenses and subtract your partners (or any other income).Add up your monthly debt expenses, monthly savings, and total monthly family expenses. Then, subtract your partner's income or any other income that comes in from sources other than you. This is an important step, because it determines how much of the total family expenses would need to be covered if you were not there.
- For example assume your monthly debt, savings, and expenses are ,000. Multiply this by 12 to get the annual amount. Your total family expenses would therefore be ,000 annually.
- Assume your partner makes ,000 annually. Subtracting ,000 from ,000 gives total remaining expenses of ,000.
- You would therefore need enough money to provide ,000 annually.
Calculate the insurance coverage amount.The goal is to determine the lump sum payment you need to generate ,000 of annual income. When you receive a lump sum, you can invest that money to generate interest. Interest rates vary depending on how you choose to invest your money (dividend paying stocks can pay up to 6%, whereas money market funds may only pay 1%). Assume you can get 4% on your money.
- To determine how much money you would need to generate ,000 annually (assuming a 4% interest rate), divide ,000 by 0.04. ,000/0.04 equals 5,000.
- Therefore, you will need 5,000 of total coverage. If you were to invest this money at a rate of 4%, it would provide your family with ,000 of income per year. (Note that figures do not consider the use of any principal.)
Factor in taxes and inflation.Of course, that ,000 would be taxed (reducing the amount), and inflation would drive up the cost of living. Inflation is an issue, but fortunately your overall family expenses would likely fall over time, offsetting its effects.
- For example, goods may get more costly, but once your child goes to post-secondary school you will also be able to reduce your savings that you applied towards their education. The same applies for mortgage payments.
- As for taxes, the ,000 per year you would get from interest would begross, that is to say, before taxes. You will want to make sure you have ,000 after taxes. To determine this, you can use Bankrate's Net-to-gross paycheck calculator.
- Once you determine the gross income you would need to give you ,000 annually, simply divide that gross income by 0.04 to give you the total coverage you need.
Confirm your results.The above should give you a solid ballpark figure as to what your coverage needs are. You should always confirm your results though. You can do this by contacting an insurance broker/agent, or a financial planner/adviser. They can help you to confirm your needs are accurate and take into account any unforeseen circumstances.
- In addition, there are plenty of life insurance coverage calculators online. Try them to out to see how the results compare to your own.
Calculating Your Homeowners or Renters Insurance Coverage Amount
Understand what these types of insurance protect against.In general, both homeowners and renters insurance cover destruction of personal property and personal liability for damages. That is, if your house or apartment is damaged or someone is injured on your property, the insurance provider will cover the costs associated with repairing the damage or settlements paid to the injured, respectively.
- Both protections come with various levels of coverage. Your required level of protection will vary based on the value of your possessions, your property's needs, and your risk tolerance.
- Homeowners insurance will repair your home and possessions in case of damage, while renters insurance will only cover your possessions. The landlord's insurance will cover the cost of (unintentional) damage to your property if you are renting.
- Homeowners insurance is required if the property is subject to a mortgage.
Consider the cost of rebuilding your home.In the worst case scenario, a total loss, you would need enough coverage to completely rebuild your home with no additional cost to you. This is where to start when determining your homeowners insurance policy. Luckily, your insurance agent can usually estimate these costs for you when you go in to apply for insurance. When estimating rebuilding costs, you should consider:
- Removing the value of the land. You won't have to rebuild the land, so there's no need to include this in the cost.
- The age of your house. If you have an old house, it may be more expensive to rebuild to modern building codes.
- Rebuilding costs. Prices of materials and construction work fluctuate. Talk to a reputable contractor to make sure your agent's coverage estimate is on the right track here.
- The value of upgrades to your house. If you've made any additions or updates to your house since you bought it, consider their cost to rebuild as well.
- Consider, too, that if you must rebuild your home, you may have addition living expenses to pay for temporary housing while construction is in progress. You may have to rent an apartment or house or pay for a hotel, so be sure to consider these costs as well.
- This step only applies to homeowners insurance, not renters.
Take stock of your belongings.For both types of policy, you will need to know how much your personal possessions are worth. Take stock of anything and everything valuable you own. The key here is to be thorough so that you can get proper compensation for your loss. For everything from furniture and appliances to diamonds and coins collections, record the following estimate price, purchase date, make, model, and any other information you can.
- In addition, take pictures of everything. You can also use video.
- Store this information somewhere outside your house, like in a bank or online.
- Be sure to update it periodically.
- Total your estimated values for your belongings and be sure to buy enough insurance to cover replacement costs.
Think about liability coverage.Liability coverage protects you from any liability in paying for injuries to others on your property. It also covers you from legal action in other circumstances like, say, your dog biting your neighbor. Lower level policies offer about 0,000 in coverage, but experts suggest having at least 0,000 worth. Odds are, you won't ever have to make this type of claim, so make this investment depending on how much risk you are willing to handle.
- Remember, if you don't have enough coverage to cover personal lawsuits, the courts can go after your assets. For peace of mind, it can be best to have as much coverage as possible.
- The presence of some items like swimming pools that increase the risk of peril and liability.
- For a slightly larger insurance premium, you can get "umbrella coverage", which offers much more protection.
Choose a coverage level.For homeowners insurance, there are three different levels of coverage that determine payouts in the event of losses or damages: actual cash value, replacement cost, and guaranteed (extended) replacement cost. They all determine the value you get back for your estimated values for your home and belongings.
- Actual cash value insurance covers your house and the value of your items after depreciation, meaning that you will likely not be able to completely replace all of your possessions with the payout.
- Replacement cost insurance ignores depreciation, so you can rebuild and repurchase your house and possessions at their original value (which may still be difficult with your possessions because of inflation).
- Guaranteed replacement cost is the highest level of coverage. This covers costs above and beyond your actual coverage for rebuilding your home, up to 20–25% over your coverage level.
Consider adding riders.Riders are additional insurance coverages that you may or may not need based on your situation. For example, riders can protect you from damage not covered by most insurance policies, like flood or earthquake damage. If you live in an area where this type of damage is possible, you may want to consider adding a rider.
- Some items such as jewelry, art, etc. need to be specifically identified and may require special coverage as most general insurance has a per-item limit on liability.
Figuring Out How Much Auto Insurance To Get
Understand what auto insurance covers.Your auto insurance is a group of policies that protect you and other drivers from damages caused on the road. It can also pay to replace or repair cars damaged in an accident, depending on who is at fault for the accident. Finally, your auto insurance can cover any legal action taken against you in the event you hurt someone else on the road.
- Auto insurance is regulated by state governments. Be sure to check with your state first to determine minimum coverages for each type of policy.
Decide how much liability coverage you need.Liability insurance covers damage to passengers and vehicles when you are at fault for an accident. The two types here are Bodily Injury Liability (BIL) policies and Property Damage Liability (PDL) policies. The first covers injury of other drivers and passengers and the second covers damage to their vehicles.
- BIL and PDL policies are often specified as sets of numbers, like 20/50/10. This means that this package of both types of policy will cover ,000 in medical expenses per person affected (excluding you), up to ,000 for the group, and ,000 in damage to vehicles involved (excluding yours).
- How much protection you need here depends first on your state required minimums and then on your assets. You should have at least as much coverage as you do assets (your possessions like your money, house, and cars).
Consider personal injury protection.This policy pays for your medical bills in case you are involved in an accident. It may also cover wages lost due to missed work. Like for other policies, many states have a required minimum. Be sure to buy at least the minimum.
- In many cases though, you will not need any more than the minimum, as your health insurance and disability insurance through work should cover most of these costs.
Get enough uninsured/underinsured motorist coverage.This policy covers you in the event that you are struck by a motorist with inadequate or nonexistent insurance. It will cover both your vehicle damage and your personal harm, even where your health insurance will not cover you. Luckily, this protection is usually inexpensive. A policy like this will likely be about per year for 0,000 in coverage.
Think about how much collision and comprehensive insurance you need.Finally, these policies cover repairs to your car after an accident and repairs to your car from events not involving an accident, respectively. These will usually be calculated for you, based on the current market value of your car. It's up to you whether or not you want your car covered. For very cheap cars, it may not be worth it.
Video: How to calculate right life insurance cover | Investment Tips by Yadnya
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