Deciding how much life insurance to buy can be confusing. Many insurers provide a huge range of options with regard to the death benefit, with some policies offering as little as a few thousand dollars worth of protection and others providing a payout worth millions to surviving loved ones.
How can consumers decide how much coverage is right for them? There's one simple approach that may be the best way to calculate their life insurance needs. It's called the DIME method.
What is the DIME method?
The DIME method is a common approach to calculating how large a life insurance death benefit should be. It involves taking into account four key factors, as delineated by the acronym "DIME." These factors include:
- Debt: All existing debt should be added up to determine how much it would cost to repay the outstanding balance due after an untimely death.
- Income: Those purchasing life insurance should determine how much their annual income is and how many years of income replacement are necessary to provide for loved ones. For example, if a spouse and children would be reliant on the policyholder's $50,000 annual income for 15 more years, $750,000 in coverage would be needed.
- Mortgage: Many people want surviving family members to be able to keep the family home. So the remaining mortgage balance should be taken into account and added to the amount of life insurance protection purchased.
- Education: School can be extremely expensive. To make sure their children are educated properly, many people figure out how much educational costs would be and add this amount to the death benefit.
The combination of debt, income, mortgage, and education will allow would-be policyholders to figure the exact total amount of life insurance necessary for all financial obligations to be fulfilled after an untimely death.
Is the DIME method the right approach?
The DIME method can be trickier than other approaches for calculating the required amount of life insurance. For example, a simpler technique involves simply assuming the death benefit should equal 10 times the covered person's salary. In this case, someone who made $50,000 would assume they require $500,000 in coverage.
But while the rule-of-10 has the advantage of being easy, it's also inexact and doesn't take into account each person's unique circumstances. For example, a potential policyholder may have stretched to buy a mortgage and taken out a large loan on the assumption their salary would go up over time. This could mean surviving family members would be left struggling with a huge mortgage if the life insurance payout was simply based on the deceased's current salary at the time they bought coverage.
Since life insurance is an important purchase, it's worth making the effort to take specific costs into account and set a personalized death benefit based on the individual policyholder's financial situation and future goals. The DIME method can guide consumers purchasing life insurance, and is a great way to see how large a death benefit should be.
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