Don’t Buy Too Much Life Insurance

7 Tips to Save Money on Your Life Insurance

Read Time: 8 Minutes

Many people who need life insurance don’t buy it because of how expensive it can be.

I recently got a quote saying a 30-year, $500,000 term policy would cost me about $40/month. That’s 4x as much as my Netflix subscription costs! Actually I have no idea how much Netflix costs…What millennial actually pays for Netflix anyways?

Back to the point. If you have family who is dependent on your income, you should at least consider buying life insurance. But that doesn’t mean it has to break the bank. And it also doesn’t mean you should trust the smooth talking insurance salesmen who might trick you into buying way more than you need.

Below are my top 7 tips when buying life insurance. Numbers 5 & 6 are a little controversial, but the rest should be common sense. They will prevent you from overpaying for the life insurance you need. They will also prevent you from buying more insurance than you need in the 1st place. Let’s get to it.

1. Don’t Forget About Taxes

Unlike your salary, life insurance proceeds are not usually taxable. According to the IRS, “generally, life insurance proceeds you receive as a beneficiary due to the death of the insured person, aren’t includable in gross income and you don’t have to report them.”

That is much different than your salary, which is subject to Federal and State income taxes, Social Security taxes, Medicare taxes, and more. For me, over ⅓ of my gross salary goes to taxes.

Life insurance being tax-free is good news because it means you only truly need to replace your after-tax income to ensure your family can maintain their same standard of living if you pass away.

Let’s take a hypothetical example of somebody whose gross salary is $100,000/year and wants to buy life insurance to replace her income. If she pays ⅓ of her salary in taxes, that means her take-home pay is only $67,000/year. That is the number she needs to replace.

If she forgot to account for the $33,000 she pays in taxes, and instead replaced her gross $100,000 salary, she could end up buying almost 50% too much life insurance! ($33,000 in unnecessary coverage / $67,000 she actually needs = 49.3% too much insurance). That could drastically increase how much she pays per month.

Save yourself some money and don’t forget about taxes.

2. Don’t Replace Your Direct Expenses

After eliminating taxes, you might be able to reduce the life insurance you need even more. This is by not replacing your direct expenses. Let me explain.

The whole point of life insurance is to make sure your loved ones can continue their standard of living if you were to pass away. Continuing our example from above, if your after-tax income was $67,000, you might think you need to replace that full amount. But that’s incorrect.

Some of that $67,000 goes towards your direct expenses. Things like your food, your clothes, or your gas money. These are things that would not need to paid for anymore after you’ve passed away. That means you can probably get away with only replacing a percentage of your after-tax salary, and still have your family maintain their exact same lifestyle.

That percentage will be different for everybody, depending on your own spending habits. And remember that some fixed expenses, like rent or internet, will stay the same regardless if you’re around or not. So don’t cut your expenses in half. Many people choose to replace between 75% – 90% of their after-tax income. 75% of $67,000 equals roughly $50,000.

You can see quickly we have already cut this hypothetical gross salary of $100,000 in half, while still providing for your family. That’s some serious savings.

3. Don’t Forget About Social Security

Social Security is best known for paying old people money when they are retired. But it can also pay benefits to your surviving spouse and minor children if you pass away. This is called Social Security Survivors Benefits.

If you’re eligible for these survivors benefits, it can help support your family, thus reducing the life insurance you need even further! Many life insurance salesmen ignore Social Security when calculating how much life insurance you need. In my cynical opinion, that is usually so they can sell you a larger life insurance policy.

It’s easy to see if you qualify for Social Security Survivor Benefits. Just go to the Social Security official website and download your Social Security Statement. Page 2 will list the benefits you are eligible for, and the estimated amount of those benefits. Below is a screenshot of my actual statement, showing the Survivors Benefits my family could be eligible for if I passed away.

Social Security Statement Screenshot
Social Security Statement screenshot highlighting Survivors Benefits

There are lots of complicated rules about Survivors Benefits such as how they are taxed, family maximums, and eligibility requirements. Those are beyond the scope of this article. But the point is you should find out if your family is eligible for these. If they are, you could further reduce the amount of life insurance you need, saving you even more money.

4. Don’t Forget About Your Group Life Insurance

Many companies offer group life insurance as an employee benefit. A common amount is 1x your annual salary. That small amount is usually not nearly enough to cover many years of your family’s expenses, but every little bit helps.

Once you find out the total amount of insurance you need, you can subtract how much you already have from your group insurance plan. This too can save you some extra bucks.

5. Don’t Pay Off The Mortgage & College

This is probably my most controversial tip on the list.

Most life insurance agents and online calculators recommend you get enough insurance to replace your income and to pay for major expenses like your mortgage or kid’s college. I strongly disagree, and here’s why.

If you get enough insurance to replace your after-tax income, that should be enough to continue your family’s lifestyle, including your regular mortgage payment and regular savings for your kid’s college. So adding more insurance to pay those off is redundant and unnecessary.

If you are having trouble paying the mortgage or saving for college, the solution is not more life insurance. It’s better budgeting. Don’t use life insurance as a crutch for your bad savings habits.

Some people still choose to include those large expenses in their life insurance calculation because they don’t want their spouse to have to worry about them. That is perfectly fine, but that is more of a behavioral decision, not a mathematical one, and it shouldn’t be the default.

6. Assume Your Spouse will Remarry

This is another topic that might be a little taboo, but it really shouldn’t be.

My wife is a smart, gorgeous, amazing woman. If I died, I am 99% sure she would eventually find someone else who would make her happy (not nearly as happy as I do, of course, but happy nonetheless). That would mean any life insurance I have would not need to last her all the way to retirement, but only until she meets somebody else.

You don’t want to make your spouse feel like there is a countdown timer, but enough insurance to last 5-10 years might be all that is needed.

I highly recommend you and your spouse discuss this one before making any decisions. You may decide to ignore this idea, which is perfectly fine. But it is something to consider, and can drastically reduce the amount of life insurance you purchase.

7. Don’t Forget to Shop Around

This last tip is very straightforward, but recent technology has made it even easier.

When making any major purchase, it is wise to shop around and see different options before you pull the trigger. Life insurance is no different.

There are many ways you can shop around for life insurance. One way is to do the shopping yourself and speak with many different companies. This can be a bit time-consuming though. Another way is to work with an insurance broker, who represents multiple companies and can compare rates for you.

A relatively new way to compare life insurance is online. Websites like Policygenius allow you to rate shop multiple companies in minutes. If nothing else, they can give you a ballpark estimate of how expensive insurance should cost you, so you don’t get ripped off somewhere else.

Policygenius Screenshot
Policygenius Screenshot comparing quotes of different companies

Take the extra time to make sure the policy you buy is the best policy for you and your loved ones.

Wrapping It All Up

Buying life insurance is a huge decision. You may end up having that policy for the next 10, 20 or even 30 years. These 7 tips can drastically reduce your cost by preventing you from buying more insurance than you need.

The conclusions drawn throughout this website are not advice meeting the particular investment needs of any investor, and they are not intended to serve as the basis for financial planning, tax, or investment decisions. This website is for informational purposes only and is not a solicitation or an offer to buy any product, service, security or instrument. The opinions expressed throughout this website are my own and not those of any company I work for.