Life insurance is always a very heated topic in the personal finance world; there are those who believe it’s vital in financial planning and those who say it’s useless.  I belong to the first group; life insurance is a vital part of sound financial planning.

One of the most common questions about life insurance is “how much do I need” this is even more true for younger individuals, I constantly receive emails or see questions on forums posted by twenty something’s asking this question. Most recently a reader provided me with his situation asking “Do I need life insurance and if so how much?”

Let’s call him Jason (I don’t want to use his name), here is his case:

– Just purchased a home for $167,000 (New Brunswick).
– I am a 26 year old government employee and my girlfriend is a 24 year old PhD student.
– Presently with work, my beneficiary would receive life insurance of 1 X annual salary whereas my girlfriend does not have a life insurance policy right now.
– We have no kids or other dependants (but will someday I’m sure).

My thinking is that if I were to pass away, my girlfriend would probably look to sell the house. She would receive my 1 year salary to help her out, and would also have both sets of parents able to help out. On the other hand, if my girlfriend was to pass, I could still afford the mortgage payments myself, but it would be more of a financial burden (would evaluate my needs at that point). If we had kids, then there would be no question that I would want extra life insurance.

So in short, should I look into life insurance? If so, should I look into coverage of a little over the mortgage amount ($200,000 for instance)? Or should I wait until I have children?

Thanks again!

This is a very typical situation and I get questions of this nature regularly, so I thought I’d share it with everyone.

There are two fundamental questions here:

1. Do I need Life Insurance?

2. How much do I need?

Question 1

The purpose of life insurance is to protect your loved ones in case something was to happen to you. This need is usually nominal at the early stages in life, increases as the family expands and children are added to the equation, and diminishes once children move out and couple’s reach retirement. Jason is in the early stages of his life, it seems his only debt is the mortgage on his house which he shares with his girlfriend. Jason also has some group life insurance through his employer (not sure what the amount is) which would cover some of his debt.  Does Jason need life insurance? Maybe. If he has a good cash flow and can afford a guaranteed term policy than he may want to look into it. Since Jason does not have dependents (yet) and has some coverage through his employer it is not vital for him to have an individual policy. However, it seems he is planning on having children in the future which means more expenses and probably moving to a bigger home and so on – at which point he will definitely require life insurance. If Jason can afford to purchase adequate amount of life insurance at his current age and health status, it can save him on premiums later on. I don’t believe that he needs individual insurance right now, but it maybe a sound long term decision.

Question 2

Should Jason decide to go ahead and purchase an individual life insurance policy, the question will be how much does he need right now? This by far is the most common question when it comes to life insurance “how much do I need?” Insurance agents will tell you “as much as you can afford” (the more you buy the more they make), I generally use this rule of thumb:

Insurance Needed = All Debt + Estimate Funeral Costs + Income Replacement – Current Coverage – Liquid Assets.

Note that this is a very general rule of thumb; it may change with different situations. This gives you a rough estimate of how much you would need and you can customize it from there. Since Jason’s case is a fairly simple case he can use this rule to determine the amount needs currently!

Insurance should NOT be Static!

Life insurance is needs based, and your needs change over time. One common mistake is that once people purchase a policy they just forget about it. Remember you are buying life insurance to protect your loved ones in case something was to happen to you, but your situation changes over time. You may have children, you may move to a bigger house, a change in lifestyle, etc. All these changes require you to review your life insurance policy at least annually to ensure it still meets your needs.

Jason can purchase a small life insurance policy to meet his current needs and as his situation changes he can modify the policy to meet his new needs.

What do you think of Jason’s situation? Should he just forget about it? Any tips to help him and others in similar situations out?


Ray is an ex-financial adviser and the founder of Financial Highway. Currently working in the financial industry and working towards completing his Chartered Financial Analyst, CFA, designation.