Calculating Your Life Insurance Needs

Transcription

1 Calculating Your Life Insurance Needs (E&OE-Errors and Omissions Excepted-See Disclosure) A. Determining the Value of Your Estate The first step is to determine how much your estate would be worth, if you were to die today. Specifically, we will look at assets in your estate that would be available to produce income (for reasons that will become apparent in B.). This figure will probably differ from your total estate worth, calculated in Checklist 2. For example, you may not wish to include some assets such as your home that may be retained by your heirs as their residence. Assets Savings accounts, cash $ Life insurance individual Life insurance group Lump sum value of any employer pension plan payable on death Lump sum value of RRSPs * Guaranteed Investment Certificates, Canada Savings Bonds, Treasury Bills CPP/QPP death benefit ** Stocks, bonds, mutual funds Business interests (net of liabilities) Market value of your home *** Market value of other real estate that would be liquidated Market value of any other assets not listed that would be liquidated (e.g. cars) Other

2 Total Income-producing Assets $ Liabilities Final expenses (funeral costs, uninsured medical bills, legal fees, etc.) $ Uninsured debts (credit card balances, personal loans or mortgages if not life insured, income taxes, etc.) Capital gains tax, if applicable **** Total Liabilities $ Now, subtract your liabilities from your assets: Value of Income-producing Assets in Your estate $ * Registered Retirement Savings Plans (RRSPs) allow you to save for your retirement and to defer tax on the amount saved for the purpose. If RRSPs are withdrawn (cashed in), tax must be paid on the amount withdrawn. However, if the beneficiary is your spouse, he/she may defer payment of the tax by transferring the funds (rolling over) to his/her own RRSP. If your spouse would roll over your RRSPs to his/her own RRSP, then this should not be included as an asset in your estate, for the purpose of this exercise. If your beneficiary is other than your spouse, be aware that tax will be payable by your estate. ** The Canada and Quebec Pension Plans (CPP and QPP, respectively) provide for a lump sum benefit payable to the spouse of a deceased CPP/QPP contributor. *** Include the market value of your residence only if your family would not continue to live in the home and it would be sold to provide a source of income to your family. **** Your estate may have to pay a federal tax on capital gains, because the government deems you to have disposed of your capital property (such as shares) on death. If your spouse inherits the property, any tax may be deferred until he/she sells the property, or passes the capital assets to the children or other beneficiaries at the time of his/her death. B. Calculating the Monthly Income Available to Survivors If your concern is to leave a lump sum so that debts can be paid off, or to leave a gift to a relative or a charity, then you need not continue with this second step. However, if you

3 are like most people, the total value of the income-producing assets of your estate is important, because it will help to answer crucial questions such as: How much income will your estate provide, after your death, for those who depend on you financially? And for how long will this income last? The purpose of this exercise, therefore, is to determine what income flow your estate will generate, and what other sources of income will be available. Income from Estate For illustration purposes, let s estimate that the income-producing assets of your estate (as determined in A.) could earn a gross return of 10% a year. This equates to a net after-tax annual interest rate of approximately 6%. Using this assumed net interest rate, each $1,000 in your estate will provide an income of approximately $60 per year, or $5 per month. No inflation factor has been added in. Calculate the monthly income your estate will generate by multiplying the Value of Income-producing Assets in Your Estate by (Value of Income-producing Assets in Your Estate) x = $ * *Note: This is the amount of monthly income available using only the interest on your capital. This leaves the actual capital untouched. Depending on the provisions of your Will, your survivors would usually have the option of using the capital in other ways. Canada/Quebec Pension Plan Monthly Income Benefits The Canada and Quebec Pension Plans (CPP and QPP, respectively) may provide your family with additional monthly income in the form of survivors benefits. These are available to the spouse and children of a CPP/QPP contributor, and the amount paid is adjusted at the beginning of each year. Spouse s benefit $ Orphan s (s ) benefit $ Employment Income Would your spouse work or continue to work in the event of your death? If so, estimate the monthly take-home pay. (It s a good idea to deduct from this figure child care/housekeeping expenses: e.g. take-home pay = $1,600, less daycare expenses of $650 = net pay $950.) Net employment income $

4 Pension Income Some life insurance plans and employer pension plans offer a monthly survivor s income rather than a lump sum benefit. If that s your situation, please enter the amount here. If you are in receipt of a pension that would continue to your spouse, this should be entered here. Also, if your spouse would receive Old Age Security or other government pension benefits, include this figure. Pension income $ Any other sources of income that would be available (e.g. support payment, investment income, etc.) $ Total Monthly Income That Would Be Available to Your Survivors If You Died Today $ C. Determining Your Life Insurance Needs Estimate the monthly income need of your family, after your death. (60-80% of current total net monthly income is the usual recommended figure.) What would be the appropriate in your situation? Family income needs $ Available family income from your estate And other sources (final figure from B.) $ Difference $ If the difference is such that the available family income is not sufficient to meet the estimated monthly income needs, now is the time to consider how that shortfall can best be met. There are a number of possibilities (including cutting back on family expenses, taking on an extra job, etc.). The one that we will deal with here is the use of life insurance to guarantee the needed dollars to provide income. Monthly income needed (the difference figure if there is a shortfall) $ Multiply by 12 to determine annual income shortage $

5 Annual income Assumed net after- Capital Required Shortage tax interest rate * $ % = $ ** The Capital Required figure represents the additional insurance needed in order to meet your own income objectives for your family should you die prematurely. Please note that this is a simplified calculation and does not take into the consideration the impact of inflation. For a more detailed analysis, ask a life insurance agent to assist you with a financial (or capital) needs analysis. * As per calculations in B, you can use 6%. Alternatively, use the interest rate that you believe is appropriate. ** This calculation is designed to leave the capital intact, using only interest to provide income. Copyright 2002, Douglas Gray. All rights reserved. Any reproduction of the material contained in this website is strictly prohibited. Excerpted with modification, from The Canadian Guide to Will and Estate Planning, 2 nd edition, by Douglas Gray, LL.B., and John Budd, FCA. Published by McGraw-Hill Ryerson. E&OE (Errors and Omissions Excepted). See Disclaimer.