Life Insurance

4 Ways To Calculate Your Life Insurance Coverage

Nov 15, 2021

Computing the amount of life insurance policy we require is one of the most essential steps when you are looking to purchase a policy. Most people find it strenuous to enumerate the life insurance amount that they require but that too depends upon the amount of premium that you are able and willing to pay. 

However, there are certain means to determine the life insurance coverage that you require. Basically, there are 4 most common ways to determine your insurance coverage that is widely used in the insurance industry.

Technique 1-Human Life Value ( HLV ) :

This technique depends on calculating your life insurance coverage based on your financial contribution to your family. In another language, it depends on how much money you earn to run your household expenses.

Thus, the amount of life insurance you would want to purchase should be corresponding to your commercial worth also known as Human Life Value ( HLV ) . Therefore , the definition of HLV could be explained as the current value of all future remuneration that you would possibly earn for your family's household expenditure.

Let us look at an example to let us comprehend better :

Piya is 40 years old and is the sole provider of her household expenses. She wishes to retire at the age of 60. Her present salary is INR 10 lakhs and let us assume her income would rise 8% p.a. for the rest of her working life. Now, let us consider her HLV. 

Additional information:

Piya uses INR 3 lakhs for her own personal expenses and the rest INR 7 lakhs for her family. If Piya dies at this point in time, her HLV can be calculated as:

  • Total amount of money her family uses per year for basic sustenance: INR 7 lakhs

Considering inflation at 8% p.a. Piya’s HLV would be INR 3.2 crores.

  •  Rate of inflation 8% p.a.
  • Number of years Piya was expected to earn 20 years (till her retirement at 60 years)
  • Amount her family would need is INR 3.2 crores so that her family would not have any financial concerns if she happens to die early.

The emotional portion cannot be compensated, but the financial bit surely can. 

Technique 2: Income Replacement Value ( IRV ): 

This is an easy and elementary method of calculating life insurance. This is based on your current remuneration. Insurance obligation is equal to your annual income multiplied by the years left for you to retire. 

Assuming that you are 50 years old and your current salary is INR 10 lakhs and you want to retire at the age of 60, you have 10 more years to go. 

In this scenario your insurance cover using IRV technique would be  = 10,00,000 * 10 =  INR 1 CR

This is assuming your income would remain constant over the next few years as well!

Technique 3: Needs Evaluation:

Under this technique, you make an assessment of your personal and family requirements and based upon that, you would have to draw an estimate. The most essential criteria and the people reliant on you will determine your insurance coverage. 

Considerable components include :

  1. Way of life
  2. Various kinds of loan payments
  3. Fundamental requirements
  4. Offspring's further educational needs
  5. Other exceptional needs

When you make an estimate of the above expenses, you would be able to arrive at a figure that your family would need to survive without having to worry or deal with financial concerns in your absence. 

Now, you will have to subtract the life insurance that you possess and include all your current assets. Please make sure that your assets do not include your current place of residence and vehicle. After that, the gap that persists will have to be fulfilled by you to protect yourself adequately.  

Technique 4: Benefactor's Principle:

The above concept refers to being covered in manifolds. It is also called the multiplier principle as it depends on your income and age.

As an illustration, let us assume that you fall in the bracket of 20 to 30 years of age. Then you would require a life insurance coverage of 25 times more than your current per annum remuneration. However, if you fall in the bracket of 40 to 50 years of age you will require a life insurance coverage of 20 times more than your current per annum salary.

Conclusion :

In conclusion, you may choose any of the above techniques to get yourself covered but you need to realise that your requirements would keep evolving and changing from time to time. You would thus need to keep track of your insurance policies on a regular basis. Furthermore, all the above-mentioned measures are suggestive in nature and will solely depend upon your requirement.

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