It is beyond dispute that life insurance is important IF you actually need it. So when do you need life insurance? You’ll need life insurance if you have dependents to protect and don’t have enough savings or property that can be liquidated for their support in the event of your passing or incapacity to work. If you’re single without anyone depending on you, then feel free to stop reading.
Now that you have determined that you need life insurance, the next question will be what type of life insurance will you get. I’m 99% sure that your insurance agent will push a VUL product on you because of its many benefits not only to you but, more importantly, to your agent (can you say a hefty commission?), but hold your ground and ask for a quote for term insurance as well in order to make an educated decision.
According to Forbes
, if your main goal is estate planning then whole or universal life (of which VUL is a variant) is what you should get. But if you want to protect your family from the loss of your income, then term insurance is the way to go. Personally, I’m a big supporter of term insurance because I actually do practice “buy term and invest the difference”, moreover I enjoy plotting and checking up on my investments (I’m a personal finance geek that way). But if you don’t get your jollies from that or don’t find it worth the effort to DIY your investments and, more importantly, you have more than enough cash to plunk down on VUL insurance, then go ahead and take out a VUL policy.
The tricky part is determining how much life insurance you should get. The rule of thumb is to get insurance that will be equivalent to 10x your annual salary because it is believed that this is how long it will take for a family to get over the financial loss of a provider (let’s not even talk about the emotional loss). However, that’s not really accurate because that figure doesn’t take into account existing debts and education costs that may end up eating a huge chunk of the insurance proceeds. The more prudent way is to list down all of the immediate expenses that your family will be saddled with upon your death and also figure out what the monthly expenses are and then project these until the time your children can already fend for themselves.
Let’s take the case of Brad and Angelina who have two kids, ages 4 and 2 years old. Brad is a brand manager who brings home a net of Php64,000 a month, while Angelina is a banker who clocks in a slightly lower income than her husband at Php60,600. They also have a side business that they’re growing which nets them an average of Php10,000 a month, giving them a combined monthly income of Php134,600. Here’s how their monthly expenses vis-a-vis their income looks:
If we follow the 10x the annual salary rule, Brad should be insured for Php7,680,000 (Php64,000 x 12 months x 10 years) while Angelina should seek coverage of Php7,272,000 (Php60,600 x 12 months x 10 years). But is that really enough? Let’s dig deeper.
Their two young sons haven’t started their formal education yet and have 17 years of education ahead of them (K to 12 and 4 years of college). For the boys’ basic education (elementary and high school), Brad and Angelina want to send them to a private school near their house. The tuition fee in that school is Php80,000/year per student, and the full tuition fee rate for a student’s entire stay there will be Php1,040,000 (Php80,000 x 13 years). Please take note that I no longer accounted for inflation in coming up with the present tuition fee rate of Php1,040,000 because the idea is to set aside the present value needed for tuition fee from the insurance proceeds.
College tuition fees at a private university can go to as high as Php150,000 per year and again if we take the present value for college costs, ignoring the effects of inflation, four years of college will cost Php600,000. Hence, to be able to ensure the entire education costs of one son, Brad and Angelina will need to set aside Php1,640,000.
Most housing loans are usually insured by Mortgage Redemption Insurance, which ensures that should the borrower die during the existence of the mortgage, the MRI will cover part or the totality of the remaining mortgage. Unfortunately, Brad and Angelina are co-borrowers on their mortgage, so the death of one will not extinguish the mortgage, leaving the surviving spouse with having to shoulder the mortgage, among the other household expenses, by himself/herself.
Assuming that Brad is the first to go, this is how his insurance proceeds might be spent:
The remaining Php4,140,000 now only represents 64.69 months or 5.39 years of his replaced income (Php4,140,000 / Php64,000), a far cry from the 10 year rule usually followed. You might say that 5.39 years of income is still nothing to scoff at, but the harsh reality is that when one spouse in a double income household dies, the remaining spouse will not be able to hit the ground running and function as he/she used to when his/her partner was still alive. The grieving period might be protracted to the point that his/her professional career is put on the line. And the impact of death becomes doubly catastrophic to the family when the sole breadwinner is the one who dies first.
Based on the discussion above, we now see that Brad needs an additional Php3,840,000 (Php64,000 x 60 months) to be added to the originally computed Php7,680,000 to be able to ensure that his family will continue enjoying his income 10 years after his death. So does this mean that he has to take out insurance coverage worth Php11,520,000 (Php7,680,000 + Php3,840,000)? Not necessarily.
If the couple has assets (i.e. real estate, savings, investments) that they can liquidate in the event of the demise of one spouse, then the value of that asset can be considered as a protection source together with the life insurance proceeds.
Let’s say Brad and Jane have a resthouse in Batangas worth Php2,000,000. They are not attached to this resthouse and will not think twice about selling it if the need arises, so the total protection need of Php11,520,000 will now go down to Php9,520,000. Other assets that may also be liquidated for the upkeep of the family will likewise bring down the total protection need and lessen the amount of insurance coverage to be taken out.
To end this ridiculously lengthy post, I would like to emphasize once again how important life insurance is IF you happen to need it (i.e. you have dependents and/or you don’t have enough sources of protection). So now excuse me because I need to hustle some more as I have once again realized how underinsured I am. Eeeep!