Tom Bodin, a Practice Integration Advisor with Buckingham Strategic Wealth, works with dentists to help them achieve financial freedom through a comprehensive approach to wealth management.
On August 13, 2011, a Derecho storm swept across the Midwest. A Derecho is a storm with wind gusts of at least 58 mph and damage covering more than 250 miles. The storm front far exceeded the severity of the forecasted weather for that night in Indianapolis. When it hit the city, it did so just as the band Sugarland was getting ready to perform at the Indiana State Fair. Winds of more than 75 mph roared across the city with torrential rains following, causing the stage to collapse at the state fairgrounds just as the crowd had assembled for the show. The damage was extensive. Five people died at the scene, two more passed away later that night, and 58 additional concertgoers were injured.
At the time, I was the chief economist for the Indiana Attorney General’s office, the office that would be responsible for representing the state in impending lawsuits. In my role, I handled settlement calculations and distributions. I was square in the background of the subsequent effort, which spanned years, to write the formulas to distribute limited funds to the injured and the families of the dead. All this sent me on a morbid academic journey to discover the monetary value of a life. In that task, I benefited from the experience of and consultation with Ken Feinberg (9/11 fund, BP oil spill, Penn State settlement).
In this article, I will discuss how to determine the right amount of life insurance to carry, which is an endeavor no less meaningful than understanding the value of your life from a financial perspective. What are your responsibilities? What is the care you want to provide to loved ones? What are the unique opportunities you are working hard to provide for yourself, your family and your loved ones?
The appropriate amount of life insurance coverage results in a different benefit number for each individual. There are many rules of thumb when it comes to life insurance. The one that I like for those not working with a holistic financial planner, who would help you explore this need more in-depth, is the DIME formula.
D = Debt and Final Expenses: Sum all debts (outside of your primary home’s mortgage) and add to this number an estimate of your funeral expenses.
I = Income: Sum the number of years you will need to support your family and multiply this by your current income. This is your income replacement number.
M = Mortgage: Include the principal amount of your mortgage.
E = Education: Estimate the future cost of desired funding for your children’s education.
Where this heuristic fails is in its generality and time dependence. Lifestyle expenses, funeral costs and education expenses inflate at various rates. You will continue to accumulate assets over time; this leads to slowly becoming more self-insured. The model equates income to lifestyle expense, which is not always the case. The model also does not account for legacy goals. The preceding formula, however, can provide a more informed approach to help you generally purchase an amount of life insurance based on your estimated needs and not on an insurance broker’s desired commission.
When life insurance is part of a holistic financial plan, it is designed to accomplish and complement your estate plan. The amounts will change over time to ensure life insurance coverage meets the needs most important to you and your family and remains balanced against your wealth creation goals to avoid extemporaneous costs. As a business owner, your estate plan will extend beyond personal aspects and should include business continuity coverage for your practice, along with office coverage agreements. Your practice is an asset; in the unfortunate event of an untimely demise, time will not be on your estate’s side to extract the value of your practice, and that could significantly affect your family’s financial standing even with life insurance included.
When constructing settlement formulas for the state fair tragedy, I was bound by constitutional ceilings for the settlement figures. Even with a supplemental fund provided by the state legislature, the amount I had to work with was less than the totality of the medical bills submitted by the victims, prior even to accounting for the dead. I understood that somehow measuring success would be difficult. Ken succinctly defined “success” for me as equitable disappointment for the victims. With proper life insurance coverage in the event of your death, such an outcome doesn’t have to be the case for you and your family.