# How Much Life Insurance Coverage Do You Need?

Posted by under Personal Finance . Updated: July 18, 2018

If you have dependents or a family breadwinner, then you need life insurance. If you’re not sure if you need one, then just imagine what would happen to your loved ones when you die tomorrow.

Will they be able to survive and continue living the way they are doing now, or will their lifestyle suffer and experience financial difficulties?

Moreover, when you die, all your assets get frozen, and your heirs will have to pay estate taxes to liquidate or transfer ownership. Do note that by assets, I mean all your properties and investments.

So also imagine, will your loved ones and heirs have the capacity to pay 6% of the value of your assets as estate taxes when you pass away?

If the scenarios you imagined are bleak, then life insurance is your best solution.

Now that you understand why you need life insurance, the next question you need to answer is exactly how much coverage do you need?

And today, we’ll take a closer look on how exactly do you calculate this figure. Below is a step-by-step guide which I hope you find useful.

### Step 1: Calculate Your Net Worth

This means if all your assets are worth P3M and you have P1M worth of liabilities, then your net worth is P2M. If the figures are the other way around, then you have a negative net worth of P2M (or -P2M).

Numbers to note in this step: ASSET VALUE and NET WORTH

### Step 2: Calculate your family’s monthly living expenses

How much does your household spend in a month?

If you don’t know, then you have to start tracking your expenses now and more importantly, learn how to create a budget.

Number to note in this step: MONTHLY EXPENSES

### Step 3: Compute the educational needs of your children

Every parent wants to see their child finish school, and that’s why it’s important to ensure that you’ll be able to provide for their educational needs.

You can work hard and invest your money while you’re still alive, but what if you pass away before your investments have enough time to grow to cover their tuition?

Here’s a post that can help you estimate this cost: How Much Will The College Education of Your Child Cost?

Moreover, consider adding to this your child’s costs for preschool and K12 education. And you should do this for every child you have.

Number to note in this step: EDUCATIONAL COSTS

### Step 4: Tabulate the numbers

A. MONTHLY EXPENSES x 60
The number 60 is meant to give your family 5 years to “get back up on their feet”, and depending on your family’s situation, this can be as little as 24 or 2 years

B. EDUCATIONAL COSTS
This should be the total for all your children

C. ASSET VALUE x 0.06
This is to cover the 6% estate taxes of your assets

D. MISCELLANEOUS
This is the cost of hospitalization and/or funeral costs when you die

The formula to compute how much life insurance coverage you need is: LIFE INSURANCE COVERAGE = NEEDS – NET WORTH

Please be careful with this formula, particularly when plugging in your net worth.

If you have a positive NET WORTH, then that value gets subtracted to your NEEDS.

But if your NET WORTH is negative, then by law of Mathematics, the “double negative” becomes a “plus sign” – which means you’ll be adding the NET WORTH and NEEDS.

The value of NEEDS will cover the immediate costs of your death (D), unfreeze your assets (C), send your children to school (B), and help them survive a few years (A).

Once your family liquidate your ASSETS, it can now be used to pay for your LIABILITIES. If you have a positive NET WORTH, what’s left can be used as a source of fund for the NEEDS (that’s why it’s subtracted) – and that’s why you can afford less insurance coverage.

If you have a negative NET WORTH, then your family needs more money to pay for them, which will be covered by the life insurance since you “added” that value to the coverage.

I hope you were able to follow all the steps and tabulation above. If not, then I hope the two examples below can help you understand this better.

EXAMPLE COMPUTATION

NEEDS

1. MONTHLY EXPENSES x 60: P50,000 x 60 = P3,000,000.00
2. EDUCATIONAL COSTS: P1,000,000.00
3. ASSET VALUE x 0.06: P3M x 0.06 = P180,000.00
4. MISCELLANEOUS: P300,000.00

If the ASSETS is worth P3M and this person’s LIABILITIES are worth P1M, then his NET WORTH is P2,000,000. Thus, this breadwinner’s life insurance coverage should be: P2,480,000

If the ASSETS is worth P3M, but this person’s LIABILITIES are worth P4M, then his NET WORTH is -P1,000,000 (negative). Thus, this breadwinner’s life insurance coverage should be: P5,480,000

### Step 5: Get life insurance

No use in calculating all these numbers if you don’t get life insurance in the end, so this is your fifth and final step. I recommend getting TERM LIFE INSURANCE because it is the most affordable type of life insurance; and especially if your budget is tight.

More importantly, always remember that “Personal Finance is Personal” – so it’s best that you adjust the figures above according to your own situation.

One option is to get life insurance that covers only one part of the formula such as the “MONTHLY EXPENSES x 60” part if you can’t afford getting “full coverage” now, and just get a new policy when your cashflow gets better to cover for the remainder.

Also, don’t buy life insurance from the first agent you meet. Shop around and see which one gives the best insurance quote, with consideration to the company’s stability and quality of client service.

I hope you learned something new today, and now have a better appreciation on life insurance.

One of my colleagues, Alvin Tabanag, shared these in the comments section, and I decided to add his points here. He writes:

The calculation can be refined further so as not to overstate the required coverage.

1. Estate tax is applied to the net estate (total assets less allowable deductions which can reach about P2M)

2. For monthly expenses include only the amount covered by the one getting the insurance. For example, if the household expenses are equally shared by the husband and wife, then only 50% of the expenses should be used in the calculation. If the husband-wife share is 60-40, then use 60% of the expenses to calculate insurance needs of the husband.

3. The same thing applies in calculating coverage for educational needs.

To avoid understating the need the following should be considered:

1. Consider only the assets that will be used to cover living expenses and other financial needs when the insured dies. If the P3M asset above includes, say, the family’s residence, it’s unlikely that it will be sold by the heirs to cover their expenses when you go. So this should be excluded in the calculation.

2. Include any inheritance money you would like to leave your heirs.

3. Include coverage for debts if payments are not included in the monthly expenses.

4. Miscellaneous items can also include emergency fund and vacation/leisure fund (that is if you still want your family to enjoy after you’re gone).

Update:
This post has been edited to accommodate the TRAIN Law which reduces estate tax rate from 20% to 6%.

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Photo credits: alancleaver and imarlon

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### 20 Responses to “How Much Life Insurance Coverage Do You Need?”

1. Niño says:

I felt dizzy after I red this article but It makes Me realized how Life Insurance important is. therefore aside of applying Life Insurance we need to be Healthy living too.
Thank you again Fitz for this article you help me alot in terms of finances technique, more Bless to come to all your readers.

2. Look says:

Do you also take into considerations the life insurance and HMO from your employer?

3. Fitz says:

Hi Look… yes, you should consider those… and deduct the coverage there from what you’re planning to get.

4. Ruth says:

Hi Fritz,

Which company offers the best term life insurance? Please advise. I am interested in getting one to secure my kids future.

5. roberto tito t. pacana says:

Hello!
Where possible we wou;d like to know more capital transfer & life insurance trusts.

We would appreciate if can include this in your blogs or updates.

Thank you very much and God bless!

Roberto

6. Michelle says:

Hi Fritz

What does it mean when the amount of Life Insurance Coverage that came out is negative? Seems it doesn’t make sense to say that you won’t need insurance since you still need to pay for the estate taxes.

Thanks

7. Fitz says:

Hi Michelle,

If your required coverage is negative, then it means you don’t need life insurance as a form of protection – but rather, for estate planning purposes (which is another topic altogether).

Consult a lawyer to know your options, some of which can be putting up a family corporation and transferring your “excess net worth” there, particularly the amount needed to cover the estate taxes of your assets when you pass on.

Hope I was able to help. 😀

8. ALVIN TABANAG says:

The calculation can be refined further so as not to overstate the required coverage.

1. Estate tax is applied to the net estate (total assets less allowable deductions which can reach about P2M)

2. For monthly expenses include only the amount covered by the one getting the insurance. For example, if the household expenses are equally shared by the husband and wife, then only 50% of the expenses should be used in the calculation. If the husband-wife share is 60-40, then use 60% of the expenses to calculate insurance needs of the husband.

3. The same thing applies in calculating coverage for educational needs.

To avoid understating the need the following should be considered:

1. Consider only the assets that will be used to cover living expenses and other financial needs when the insured dies. If the P3M asset above includes, say, the family’s residence, it’s unlikely that it will be sold by the heirs to cover their expenses when you go. So this should be excluded in the calculation.

2. Include any inheritance money you would like to leave your heirs.

3. Include coverage for debts if payments are not included in the monthly expenses.

4. Miscellaneous items can also include emergency fund and vacation/leisure fund (that is if you still want your family to enjoy after you’re gone).

9. aris says:

Is it advisable to have savings thru mutual fund with a coverage of life insurance?

10. elleica says:

Thanks for another great article Fitz! It’s dizzying to read but it’s worth the effort. I am now about to enter a new industry – bankassure – for which I feel confident in entering because of all the financial knowledge I gained from reading your blog.

Now, I am in a position to educate people about their finances and where best to put their hard earned money.

Thanks and more power!

11. […] 8. Buy term life insurance. […]

12. […] [How much life insurance coverage do you need?] […]

13. NOTfitz says:

Include dreams and goals that you want your family to achieve even if you turn out not to be alive to witness it.

14. Iza says:

I badly need your help. My friend offers me an insurance plan linked to investment which will cost me around 5500 a month for 15 years, What I liked in her plan is the protection from critical illness which would cover me around 800 K, it’s more important to me than the face amount of 1M since all I want is not to be a burden when I get sick. My mother and two of his brothers died of cancer.

If I’m going to invest that money in the same amount of time in mutual funds would my returns be better than what the insurance offers?

15. […] Buy life insurance to effectively share or “transfer” the financial burden of your death to the insurance […]

16. […] in every case, life insurance is often the best tool to utilize as it can readily pay the estate […]

17. […] Life is uncertain, and accidents happen when you least expect it – that’s why it’s best to protect your family from a financial disaster by acquiring life insurance. Shop around for policies, play around your budget, and make a way to afford adequate coverage. […]

18. […] This calculator is based on the life insurance formula that I wrote here. […]

19. Hardie says:

When calculating for assets and liabilities, is the house and property that we are living now considered as asset? or liability?

20. Dwight says:

How about HMO? How much coverage is needed?