The annoying thing about life insurance and disability insurance — or just about any kind of policy, really — is that it’s a product you buy in hopes that you never actually need to use it.
Still, it remains an important part of protecting your financial plan, along with yourself and your family. No one wants to think about facing a worst-case scenario, but the proper protection might provide a little peace of mind.
It can help you rest just a bit easier knowing that, even if things do go wrong, you and your loved ones at least have some safeguards against financial hardships in place.
Another annoying aspect of getting the right insurance? The fact that “getting the right insurance” can be difficult to do if you don’t educate yourself on the process first.
Understand Your Needs Before You Shop For A Policy
Insurance, both life and disability, is a product that’s sold by salespeople or brokers. Those individuals generally earn commissions from your purchase, which can present a conflict of interest.
Knowing that those who sell insurance may be incentivized to present bigger, more complex, and therefore more expensive policies — because they earn more money when you buy those as opposed to less-costly options — is a good reason to make sure you at least have an idea of what kind of policy you actually need before you shop around for one.
I’m a fee-only financial planner, so I don’t sell insurance. But many of my clients come to me with existing policies, and often, they either:
- Have too much insurance and are paying more than they need to for their policy
- Have the wrong insurance for their situation and would be better suited with a different product
And of course some have no insurance at all, even when they need it, because the process for buying the right policy can be confusing to navigate on your own.
The right insurance policies for you will be ones that, in the case of life insurance, protect anyone who relies on all or part of your income from a financial hardship if you were to pass away and could no longer financially support them. And for disability, the right policy is one that protects against the risk of you losing the ability to earn an income during your working years.
General Considerations For Determining Your Need For Life Insurance
Very generally stated, you need some amount of life insurance if someone who financially depends on you would face a financial hardship if you passed away.
So if you’re single and no one depends on you financially? Then life insurance might not make sense.
However, some kind of need-for-coverage almost always applies if you have minor children; it will usually apply if you’re married and share finances, especially major debts (or are in a committed, long-term partnership in a dual-income household).
For example, even if you don’t have kids but you and your significant other both work and earn incomes… would your spouse be able to pay the mortgage on your house without the financial support your income creates if you passed away? Would they be able to maintain their current lifestyle and achieve goals on just their income alone?
If the answer is no, it might be worth looking into life insurance so neither one of you would be left in a place were you could not handle your financial responsibilities without the other’s support.
The same goes if you’re married but one of you doesn’t earn an income — you may still want that person to have a policy, even if they don’t have a wage or salary, because they likely contribute to the household in other ways that you would struggle to maintain on your own without paying for help.
If they passed away, would you then have to pay for childcare? Housekeeping? Cooking and help running errands? Contributing to your overall household goes beyond just earning money, so account for these other contributions too.
Rules Of Thumb For Coverage Amounts
That should help you think through whether or not you’re someone who has a need for life insurance — and when it comes to determining how much, a baseline rule of thumb is to say your benefit amount should be ten times your current income.
So if you earn $100,000, you may need coverage worth $1,000,000. Keep in mind this is just a starting point; you can adjust that amount up or down depending on things like:
- How comfortable you are with risk; if it stresses you out to keep minimal coverage, a slightly bigger policy might reduce your anxiety.
- How flexible you and your partner believe your financial plan is; if one of you passed away, would the other still want to maintain the same lifestyle or progress toward the same goals? They might be okay on their own income if they would no longer be pursuing your current, jointly-held goals.
- How many financial obligations you currently have and how much liquidity you’d want to leave behind for beneficiaries; you may need more in coverage if you have many debts that would fall to your heirs should something happen to you.
There’s a lot of nuance here and no one, single “best” answer for what’s right for everyone. But this should get you thinking in a good direction in terms of how much you might need for coverage to adequately protect yourself.
Make Sure You Get the Right Insurance Type
Type of insurance is an important consideration as well. Most of the time, for most people, term life insurance is a good choice.
There are other options out there, including whole, permanent, universal, and others — but for most people, a term life insurance policy will be the most appropriate match for their needs.
Term allows you to carry the insurance policy for a specific period of time, like 20 or 30 years. Your policy automatically drops off at the end of the term, and you don’t have to keep paying premiums after that.
This makes term much much more cost effective for most people… especially considering you may not need life insurance forever. If your kids are currently 12 and 14 years old, for example, then a 10-year term policy might be perfect for you — because in 10 years, your youngest will be 22 years old and in a worst-case scenario, could feasibly hold a job to financially support themselves at that point.
There are circumstances when other life insurance products, like whole or universal life, do make sense. These aren’t inherently bad options; they just don’t make sense for most people’s protection needs. Unless you’re dealing with an exceptional family circumstance, term life is probably a safe bet that’s affordable and that won’t require you to pay into the policy forever.
Thinking Through Your Need for Disability Insurance
In addition to life insurance, you need some kind of disability insurance if you need the money you earn from an income to pay your living expenses and afford important goals.
That’s going to apply to just about all of us. Because if we have 10, 20, or 30 years’ worth of our careers ahead of us, that means we’re risking 10, 20, or 30 years of lost income if something happened where we were unable to work.
Disability insurance, should you need it, would pay out a monthly benefit to ensure you maintained an income stream, even if you couldn’t earn a paycheck.
Coverage usually provides you with a benefit of about 60% of your current monthly income. (The reason it’s not closer to 100% is because insurance companies don’t want to incentivize people to claim disability if they don’t need it.) But you can sometimes get a bit more (around 70%), or you may need less.
Here’s what to consider when determining how much is enough, but not too much, in disability insurance:
- Do you currently have debts or other financial liabilities? How much? Your policy should be large enough so that the benefit would allow you to continue paying down balances without defaulting on loans.
- How much money do you need per month to maintain your average lifestyle? Your policy should pay out enough so you could afford all your fixed, non-negotiable costs. You may want to consider additional healthcare costs, or how your lifestyle might change if you were no longer able to work.
- How much money do you currently save per month toward your goals? Would you want to keep funding those goals if you experienced a disability Your policy should pay out enough for you to stay on track toward existing goals that will require significant funding over time, like college savings for a loved one.
You may also want to think about what kind of elimination period makes sense; this is the time between your claim for disability and when benefits begin. A longer elimination period can help you save on premiums, but this may only make sense if you maintain an emergency fund big enough to cover the gap between potential disability and when your benefit would begin paying out to you.
Speaking of emergency funds, we often recommend saving up your own cash reserve to use if you were unable to earn your usual income from 3 to 6 months — and use that as your safeguard in place of short-term disability insurance when possible. Self insuring in the short term can help save some money on premium costs.
Long-term disability is the more important policy, because that’s covering you for years, even decades, rather than just a few months.
Also consider how long you need benefits. You may not need them from now until age 65; covering yourself until 55 or even 50 could be sufficient.
Finally, think through the riders you may need or want. Some may come free with your policy; others might be an additional cost. A really important one that many people forget about, but most people could benefit from, is a cost of living adjustment rider.
This means your benefit automatically adjusts over time, to ensure the amount that would be paid out to you keeps up with inflation.
There’s a lot to digest here — and even this only scratches the surface of the protection planning conversation. Still, it’s a starting point, and I highly recommend continuing your reading and education so you feel more confident and informed about your potential insurance needs before gathering quotes for policies.
The more you understand, the better equipped you’ll be to make great decisions about what products best fit your needs.