If you're a young parent, how much life insurance do you need?

More. Much more. As demonstrated in a recent column ("Most Need More Life Insurance," 10/ 26/04) most American families have so little life insurance; the surviving spouse (and children) will suffer a severe decline in their standard of living if the primary earner dies.

Unfortunately, having delivered the bad news, I left readers hanging. Many chided me for not providing more positive information.

Fortunately, there is some. How much life insurance you need depends on how old you are, how much you earn, the age and earnings (or lack of same) of your spouse, and the age, number, and educational predispositions of your children. If you are young, have several children, and don't earn much money you won't need much life insurance.   Social Security survivor's benefits will take up much of the slack.

But if you're young, have a high income; you'll need an intimidating amount of money.

To measure need I used a unique software tool called Economic Security Planner. Developed by economists Laurence J. Kotlikoff and Jagadeesh Gokhale, the software is based on "consumption smoothing." Unlike other tools for calculating life insurance needs, this program doesn't simply add your different commitments and tell you how much life insurance you need. It uses sophisticated dynamic programming to integrate all those projects into your lifetime and calculate a constant standard of living.

So how much life insurance do Joe and Sue Couple need? He's 34. She's 32. They have 2 children, ages 4 and 2. He earns $50,000 a year and contributes $5,000 a year to a 401(k) with a 50 percent employer match. She earns $30,000 a year and contributes $1,500 to a 401k plan with no match. They own a $200,000 house with a $168,000 mortgage. They have $15,000 in various cash and money market accounts. They have $40,000 in their 401(k) accounts. They intend to send their kids to public colleges, a project that costs $11,000 a year today, but will certainly cost far more by the time the kids are ready.

How much life insurance do they need?

Economic Security Planner software says he needs a whopping $581,000. That's 11.6 years of income in death benefits. Sue doesn't need to be insured because Social Security survivor benefits will take up the slack. (It wouldn't be this easy if she earned more.) In real life, most people have cataclysmically less. Measured in years of income, most people only have a few years, often because they get a year or two automatically through their employer.

Significantly, the amount of life insurance needed barely changes if no plans are made for financing college. The required amount falls only $22,000 to $569,000. Basically, the cost of college is offset by the higher standard of living that must be protected.

If you are a young parent, it's a near certainty that you don't have enough life insurance.  

Is there any good news in this analysis?

Yes. You don't need life insurance forever.

The same program tells us that Joe Couple may need $580,000 of life insurance at 34 but the need will be down to $377,000 at age 44, $112,000 at age 54, and $0 at age 58. In other words, he'll only need life insurance for a period of 24 years.

He can get the coverage inexpensively by buying several term life insurance policies. He could, for instance, buy a $200,000, ten year term policy for about $7 a month; a $268,000, twenty year term policy for about $15 a month; and a $112,000, twenty-five year term policy for about $11 a month; a total of $33 a month. He could allow each to lapse as his insurance need declined. The simple solution is to buy a single $580,000 twenty-five year level term policy for about $55 a month. (The cost figures come from www.insure.com and are subject to insurability, etc.)

Either way, this young prime earner can protect loved ones for less than $660 a year--- no more than 1.3 percent of income.

What about "permanent" insurance--- the kind that builds cash value?

Sorry, it's a non-starter. The same protection in a whole life policy would cost at least $285 a month. That's more than 5 times as much and nearly 7 percent of income. It would foreclose other avenues of saving and investing, such as 401(k) plans with employer matching funds.

Most Need More Life Insurance

Learn more about Economic Security Planner