Thursday, January 19, 2017

Thrift Week 2017, Day 3: Check Your Life Insurance Day

In the original scheme of Thrift Week, Day 3 was Carry Life Insurance Day. At first glance, there doesn't seem to be any way to put an ecofrugal spin on that. Investments, and even banks, can be more or less eco-friendly, but there's no such thing as socially responsible insurance (at least as far as I know).

However, let's not forget that ecofrugality isn't just about protecting the planet. It's about avoiding waste—all forms of waste. And that includes wasting your money on an insurance policy that you don't actually need, or that isn't a good fit for you.

So for this day of Thrift Week, instead of talking about why you need life insurance and how to get some, I'll be posing the question: do you, in fact, need life insurance? And if so, how much?

First of all, we need to get a handle on just what life insurance is good for. This article at NerdWallet lists several reasons you might want it:

  • To provide income for your dependents
  • To cover the cost of child care, if you are currently your kids' main caregiver
  • To meet your child support payments if you're a non-custodial parent
  • To provide care and support for another dependent relative (such as a special-needs child who will never be fully independent)
  • To cover mortgage payments, so your family doesn't need to move
  • To pay off debts you've co-signed for
  • To meet the costs of estate or inheritance taxes, if your estate is big enough to owe any (we're talking over $5.49 million for the federal estate tax, though states can have lower cutoffs)
  • To leave an inheritance for your heirs if your actual estate is very small
  • To support a business you own (pay off debts, allow a business partner to buy out your share)
  • To provide an additional source of retirement savings (if you choose whole-life insurance rather than term)
  • To cover funeral costs
Now, obviously, not all these reasons apply to everyone. If you don't have any kids, for instance, you don't need to worry about providing for their support. If you don't have any debts, you don't need to worry about paying them off. If you have a normal-sized estate, inheritance tax isn't an issue, but you also don't have to worry that your family will be too broke to cover the cost of the funeral.

For Brian and me, the only possible reason we might need a life insurance policy is the first one on the list. And even that one doesn't apply equally to both of us. Since we live frugally, Brian is not in any way dependent on my income; we can both live comfortably on his salary alone, and he could certainly continue to do so if I died.

If Brian were the one to die, I probably couldn't make ends meet on my freelance earnings alone—mainly because I would need to buy private health insurance, and the Obamacare subsidies that would have made that a manageable expense for me are about to be unceremoniously snatched away. However, I wouldn't need that much extra income to cover this cost. Another $3,000 a year or so would do it—and I'd only need that for the next 21 years until I become eligible for Medicare (assuming the government doesn't snatch that away as well.) So that's $63,000, plus maybe a bit of padding to account for inflation.

Now, as it happens, Brian's job provides him with a life insurance benefit equal to 3.5 times his salary. And I don't think it's giving too much away to say that that amount comes to well over $63,000. So if Brian were to die at any point while he had this job, that insurance payout, added to my income, would be more than enough for me to get by on until I'm ready to retire.

So for us, there's no need for any additional insurance—as long as Brian keeps this job. If he were to lose his job, we'd then need to buy a policy—probably not for him, in that case, but for me, as I'd be the sole breadwinner at that point. But as of right now, there's no benefit to buying more.

Of course, your situation could be different from ours. So how can you figure out if you, personally, need life insurance, and how much? The best answer I've ever seen to this question is by my favorite financial writer, Andrew Tobias, in his The Only Investment Guide You'll Ever Need:
If you're single, with no dependents, you need little—to assist with burial expenses and, posthumously, pay off a few debts—or none. The great push to sell students life insurance is not entirely unlike the selling of ice to Eskimos, except that a lot more insurance is sold that way than ice.
  If you're married, with a hopelessly incompetent spouse, a family history of heart disease, and a horde of little children, you should carry a great deal of insurance. Less if your spouse has a reliable income. Less still if you have fewer children of if those children have wealthy and benevolent grandparents. And still less as those children grow up.
  If you are very rich, you need no insurance at all, except as it is helpful in providing liquidity to settle your estate. If you live richly off a high income but own outright little more than a deck of credit cards and some cardigan sweaters, it will take a lot of insurance to keep from exposing your dependents to an altogether seamier side of life when you are gone.
This is a bit general, so to figure out where exactly you fall in this scheme, you can check out this Nolo article. It poses several questions to help you assess your family's needs, such as "How many people depend on your earning capacity?" and "How long would it take for your dependents to become self-sufficient?" Going through these questions is a quick way to figure out whether your family will need insurance to cover either long-term needs (making up lost income) or short-term needs (such as funeral expenses or estate taxes).

If you find that you do need insurance, the next step is to figure out how much to carry. Naturally, you want to have enough to meet all your family's needs, but you don't want to carry too much, because that's tying up income that could be put to better use—either for present needs or for other investments that pay more.

I can't give you a simple, concise formula here that will answer this question, because there are too many variables (Are you married? Does your spouse have income? Do you have children to put through college? Do you have debts?). However, there are plenty of online life insurance calculators, such as this one from Bankrate, that can factor in all these variables and come up with a target number that hits the sweet spot: not too much insurance, not too little, but just right.

The final decision to make is what type of policy to get: term or whole-life. Term gives you coverage and nothing else; whole life gives you coverage plus a tax-sheltered savings plan. However, according to Tobias, whose advice I generally trust, the earnings on whole-life insurance aren't usually as good as you could get from other investments, so it makes more sense to "buy term and invest the difference." To find a good deal on a policy, he suggests checking out comparison sites like QuickQuote.com.

By following these steps, you can find an insurance policy that fits your family's needs—or, better yet, find out that you can get by without one. Then you'll have more money left over to funnel into those Socially Responsible Investments we talked about yesterday. Or insulate your house...or buy a hybrid car...or any of those other numerous ecofrugal lifestyle choices you can make that cost money up front, but pay off in the long run.
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