Let’s talk about life insurance insurance for a few minutes as it is Life Insurance Awareness Month, or LIAM. Specifically let’s talk about how much life insurance you should have.

Basically you should have enough life insurance to make sure that any obligations you have are taken care of, and that any dreams you have don’t die with you. There are all sorts of calculators available from the major life insurance companies or LIFE (The Life Insurance Foundation for Education), but instead of an esoteric black box gadget I want to give you a few basic back of envelop ways to figure out ballpark how much coverage to purchase.

First, how much debt do you have? You should start with that much coverage (total) so that you do not burden others with your debts. AS for the mortgage, it makes sense to purchase the full amount owed to create a cushion and flexibility but to generally not pay it off for tax reasons.

Add to this number expected end of life needs. The last number I saw was the greater of $15,000 or 4% of your net worth, unless you are in a “complex scenario” meaning you have a business, particular property (like the family cabin in the mountains that everyone wants), or will have to pay estate taxes. We believe that this number is a little conservative because it does not take into consideration more than the most rudimentary medical bills or if there are any special desires such as my huge Irish wake, but it can be a good starting point. Dying is more expensive than most people believe.

If there are any future expenditures (like college costs, Sweet 16 Party, etc), add the current price of these in. Yes, college is going up faster than the general inflation rate, but we will take this into account in a few different ways to make sure that the kids still graduate from Whatsamatta U.

Add to this what is needed to produce the income stream that is needed. First calculate the net income needed (after taxes) on a monthly basis, then subtract from here the after tax income that you can count on (spouses income, pensions, Social Security, etc.). This leaves the monthly income shortage. To cover this we need insurance that will generate an income stream upon death, and a good rule of thumb is $1 Million buys $2,000 a month of income, after taxes, adjusted for inflation, for the rest of your lifetime. So if you need an additional $1,500 per month of income for your wife to supplement her income and the Social Security, the calculation would be:

Income Generation # = $need/month x ($1M/$2,000/month)

= $1,500 x ($1M/$2,000)

= $3/4 M

=$750,000

Then you add up the debts, the final expense costs, future needs, and the amount needed to generate the income. If you have any existing insurance subtract it from the total, and you get the total amount of insurance you should be buying to make sure that your dreams don’t die with you. It is probably more than what you thought. But insurance is designed to replace you as an economic entity,m and you are going to be dead a long time so that income needs to be replaced.

One note, we didn’t put in the safety factor yet. Take the number you got and add 10% and you have a good financial engineering fudge factor to cover stock market declines (like now), bonds having low interest rates (like now), spiralling property tax bills (again, like now) and the sundry other things that can affect the best laid plans.

Remember that this is just a back of the envelop calculation, but it makes a good starting point for your planning if you want to verify what an agent has told you or want to try and figure it out on your own.