Life insurance policies range from tens of thousands to tens of millions of dollars. The average death benefit paid out annually in the U.S. is $163,000. But is that enough?

There’s no hard and fast answer to the question. The amount of life insurance you need depends on your health, family, debts, and assets. Your goal should be to cover outstanding debts and funeral expenses without eating into any retirement income for your spouse.

So, how do you decide how much life insurance you need? We answer the question right here.

Watch our video summary:

Why You Need Life Insurance

Life insurance benefits anyone with dependents (a spouse and/or children) and debt. It covers your back so that if you die, the cost of paying off your debt and holding your funeral doesn’t fall on the ones you leave behind.

If you don’t have debt and you have enough money put away for the cost of dying (including your funeral and an estate lawyer), then life insurance may be an extra cost with minimal benefit. Most of us will benefit from life insurance.

How Much Life Insurance Do You Need?

You have debt you don’t want to pass on to your children. So, how much life insurance do you need? Enough to cover your liabilities? More?

It’s impossible to identify the precise amount of coverage you need. But you can estimate it based on your current finances, your health, and the needs of your family. At a bare minimum, subtract your liabilities from your current assets and get a policy that covers the gap. Here are some old and new strategies used to calculate the best life insurance recommendations:

Multiply Your Income

An old industry rule says new policyholders should multiply their income by 10 to find the right death benefit. This rule is the most basic of the strategies, and it doesn’t reflect the financial situation many people face today. The combination of interest rates and the rise in inflation may not help you down the line.

It also ignores your family’s needs and the rest of your financial picture and doesn’t apply if you’re a stay-at-home parent or have a variable income.

You can use this rule, but compare the calculation with your financial reality before settling on a policy.

Use the DIME Formula

The DIME formula stands for:

• Debt (and final expenses)
• Income
• Mortgage
• Education

The DIME formula is more precise than the 10x rule. It considers what your family needs and any liabilities you have and thinks the substantial costs of your mortgage and education on their own. Again, it doesn’t consider your assets and savings, but this formula can be accurate if you don’t have any (and 21 percent of Americans don’t).

Use a Calculator (or Two)

Do you hate math as much as you dislike thinking about life insurance? Not a problem.

Several providers offer helpful life insurance calculators to help you find how much life insurance you need.

The Bankrate life insurance calculator isn’t attached to any policy provider. So, you can trust that you won’t get a million emails after using it. It asks:

• How much money do you need for burial expenses
• How many years of income do you want to replace
• How much your dependent survivors will need
• How much you have in savings and assets
• How many children do you have
• How many one-time expenses do you want to fund

A click of a button gives you an estimated answer. However, even these are inaccurate unless you precisely know your survivors’ needs.

Consider using personal budget software to estimate your monthly needs. Your life insurance won’t do much to provide for dependents if you don’t know how much they’ll need. Remember that the lump sum payout need not be cash. If you choose a significant payout, like $500,000, your family can invest it and earn money while drawing yearly income.

For example, if you choose $500,000, they can invest it to earn 5 percent a year. Then, they can withdraw $25,000 a year. However, $25,000 is a small amount, and given the continued rise in the cost of living, it could be a pittance by the time they need it.

Finally, remember that life insurance isn’t supposed to replace your income for the rest of your life. It’s only supposed to replace what you’d earn until age 65 when you retire. By then, you should have enough saved in retirement and investment funds to live on and have passive income. The amount you need is lower because there are fewer years left that you need to carry your dependents.

When Should You Buy Your Life Insurance Policy?

Traditional wisdom says that life insurance policies provide the most benefit when you’re young.

Why? Because young, healthy people pay premiums over a more extended period, which makes them the best customers for insurance companies’ profit margins. Buying a good policy when you’re young can get you a better plan in the long run because you might be forced into an adverse risk category later.

There is a myth that you can’t buy life insurance when you reach a certain age. While insurance premiums after 50 or 60 are more expensive, it’s rare for a provider to refuse you coverage as long as you accept a plan within your risk category.

Ultimately, buy insurance if you need it and when you expect to need it. A healthy 20-year-old won’t benefit from paying monthly premiums, and it will get expensive as they get older.

What Life Insurance Policy is Right for You?

For most people, life insurance is the right decision because it adds an extra layer of protection against debt and funerary costs without draining savings.

However, life insurance is not meant to be a big payday for your survivors. Your life insurance should only replace your income up to age 65. After that, you should rely on your savings, investments, and passive income.

What would happen to your family if you were to pass away unexpectedly? Give yourself some peace of mind by considering life insurance as an option. Click here to learn more about how much life insurance you need and what policies may be right for you.