Have you ever wondered how much life insurance, is too much life insurance? Well, here’s a secret. A life insurance company won’t insure you for more than you’re worth.
Now there are a few ways you’re able to calculate the value of a human life. These are methods that the insurance companies use to determine how much life insurance you’re actually able to get on a life for each different purpose.
One method is called income replacement. The insurance company takes your current income and projects how many years you should be working to determine how much life insurance death benefit you can have on your life.
For example, if you’re in your twenties or thirties, or even your forties, the insurance company might determine that you could apply and receive a policy in the amount of 30 times your current income.
Contrastingly if you’re later in your life, the insurance company may determine that you only qualify for, let’s say, five years of your income. And that’s simply because we’re using a calculation to determine how much income you’re going to be losing if you were to die prematurely.
This is why it’s important to find the balance between when you’re making a decent income and when you are still young. That way you could get the maximum amount of death benefit on your life.
Another thing that the insurance company will take into consideration is the amount of debt that you have. It could be that you qualify for 30 times your income, plus 100% of your outside debt: mortgages, business equipment, car loans, or student loans. They’ll allow you to insure that separately over and above your income.
Another thing the insurance company can take into consideration is your net worth. They’ll take your assets, subtract your liabilities, and determine what is your net worth. Based upon that, they may allow you to insure 100% of your net worth. So that pretty much encompasses the personal uses.
However, there’s also a business side. If you are a key employee of a business or an owner of the business, there’s a separate calculation that would be determined for additional death benefit coverage on your life.
So if you’re a business owner, you can ensure the value of your business interest. For example, let’s say you own a business that’s worth $500,000 and you’re a 50% shareholder or 50% owner of that business. Your business interest is 250,000, and you could purchase up to $250,000 of life insurance coverage to insure the value of your business interest.
Another business use for life insurance is a key employee policy. With that, the insurance company is able to calculate the value of that key employee as it relates to the business, and you’ll be able to purchase a life insurance death benefit for that key employee. You’re able to have both a business policy where you’re insuring your equity in the business, and if you’re a key employee, you could have a separate policy or separate interest for the key person.
Life insurance companies are in the business of insuring risk. The thing they will not do is provide insurance for more than what the risk is.
You see, adverse selection is a distortion of market value. And simply what it means is you’re insured for more than you’re worth. Just like you couldn’t purchase a $500,000 piece of property and be insured for $10 million. The same thing applies to life insurance. You can’t take somebody who’s earning $20,000 per year and get a $50 million life insurance policy on them. The insurance company knows that there’s adverse selection in that situation.
That’s why it’s important to know all of these nuances or have your insurance agent know all of these nuances so that they’re able to advocate for you to get the most death benefit possible if that’s what you’re looking for.
If you’d like to get started with the life insurance policy, be sure to schedule your free Strategy Session today. And remember, it’s not how much money you make it’s how much money you keep that really matters.