Understanding how much term insurance cover you need can feel overwhelming, but it’s essential for protecting your family’s financial future. In this guide, we’ll break down the process into easy-to-follow steps. You can figure out the right amount of coverage by looking at what you owe and what you own and considering inflation. Let’s simplify the complexities of term insurance calculation together so you can make the best choices for your family’s security.
Calculating Your Term Insurance Cover
Calculating your term insurance cover involves two crucial steps: assessing what you owe and evaluating what you own.
First, you must tally up your financial obligations, including living expenses, future significant expenditures like education or weddings, and any outstanding loans. Then, you assess your assets, considering their liquidity and risk factors.
By subtracting what you own from what you owe, you determine the financial gap that needs to be covered through term life insurance.
Remember to account for inflation and consider increasing coverage to meet your family’s needs. With careful evaluation, you can find the correct term insurance cover to protect your loved ones’ financial well-being.
Utilise our Term Insurance Coverage Calculator to simplify and assess your insurance needs accurately. With careful evaluation, you can find the correct term insurance cover to protect your loved ones’ financial well-being.
Let’s analyse this in more detail.
How exactly do you calculate this gap?
The process typically involves two main steps:
- Assessing the Amount You Owe
- Evaluating the Amount You Own
The difference between these two sums provides the financial gap that must be covered through term life insurance to ensure the financial security of your dependents.
Assessing the Amount You Owe
The amount you owe encompasses various financial obligations that your family would need to manage in your absence, including both short-term expenses and long-term financial goals. The amount you owe can be broken down into three primary categories:
A. Living Expenses: This fund creates a corpus that generates regular passive income to cover your family’s day-to-day needs. Calculating this involves totalling monthly and annual expenses such as school fees, rent, utility bills, groceries, etc. The resulting amount is then divided by the expected interest rate, typically around 3%, factoring in taxes.
B. Big Dreams: This fund accounts for significant lump-sum expenses in the long term, such as your spouse’s education, your child’s higher education, weddings, etc.
C. Major Liabilities: It’s essential to take stock of any outstanding loans or liabilities you have, as your family would need to repay them in the event of your demise. Major liabilities include home loans, personal loans, vehicle loans, joint liabilities, etc.
Evaluating the Amount You Own
Determining your amount involves assessing all your assets, but it may seem more complex than it may seem. Not all assets are readily liquidable and come with varying risk factors. To arrive at the “effective amount” you own, you need to multiply each asset by its respective risk factor:
- Existing Life Insurance Covers: 100%
- Savings, FDs & Cash: 100%
- Equity Investments: 50% (considering them at half their total value)
- Gold & Residential Property: 0% (practically, not easily to liquidate)
- Stock Options: 0% (considering them high-risk investments)
Summing up these calculations helps you arrive at your effective assets.
Calculating the Total Cover Required
With the assessments of both the amount you owe and the amount you own completed, you can now calculate the total cover needed using the formula:
Total Cover Amount = Living Expenses Corpus + Big Dreams Fund + Major Liabilities Fund – Existing Funds
Accounting for Inflation
As mentioned earlier, while the calculation assumes a scenario where death occurs today, it’s crucial to consider inflation over the policy term. To address this, opting for the increasing cover option offered by leading term life insurance plans is advisable. This feature ensures that your coverage systematically increases over time, staying ahead of inflation. As a rule of thumb, multiply the cover amount by 2.5 to 3X to determine the inflation-proof cover required.
By meticulously evaluating your financial obligations and assets and factoring in inflation, you can effectively determine the optimal term insurance cover to safeguard your family’s financial future.
Final Words:
Determining the correct term insurance cover is a critical step in ensuring the financial security of your loved ones in your absence. By carefully assessing your financial obligations and assets, you can bridge the gap between what your family needs and what you leave behind. It’s essential to remember that the calculation process involves considering both short-term expenses and long-term financial goals and accounting for inflation over the policy term.
Moreover, opting for the increasing cover option provided by leading term life insurance plans can help safeguard against the impact of inflation, ensuring that your coverage remains adequate over time. By following these steps and taking proactive measures to secure the correct term insurance cover, you can provide your family with peace of mind and financial stability in the face of life’s uncertainties.