Sue and Tom Wright are assistant professors at the local university. They each take home about $40,000 per year after taxes. Sue is 37 years of age, and Tom is 35. Their two children, Mike and Karen, are 13 and 11.
Were either one to die, they estimate that the remaining family members would need about 75% of the present combined take-home pay to retain their current standard of living while the children are still dependent. This does not include an extra $50/month in child-care expenses that would be required in a single-parent household. They estimate that survivors' benefits would total about $1,000 per month in child support.
Both Tom and Sue are knowledgeable investors. In the past, average after-tax returns on their investment portfolio have exceeded the rate of inflation by about 3%.
If Sue Wright was to die today, how much would the Wrights need in the family maintenance fund? Use the "needs approach" and explain the reasons behind your calculations.
Suppose the Wrights found that both Tom and Sue had a life insurance protection gap of $50,000. Present the steps in sequence how Wrights should proceed to search for protection to close that gap?
To determine how much the Wrights would need in the family maintenance fund if Sue were to die today, we need to use the "needs approach" which considers various financial factors and expenses.
Step 1: Calculate Sue's income replacement needs.
Since Sue's take-home pay is about $40,000 per year, we need to determine how much income the family would need to maintain their current standard of living. According to the estimate, they would need about 75% of the present combined take-home pay, so the income replacement need for Sue's contribution would be 75% of $40,000, which is $30,000 per year.
Step 2: Determine the timeframe for providing income support.
Since the children are currently 13 and 11 years old, we need to consider the number of years left until they are no longer dependent. Let's assume they will be dependent for the next 10 years. This means the income replacement need should be provided for a period of 10 years.
Step 3: Calculate the total income replacement need.
To calculate the total income replacement need, we multiply the annual income replacement by the number of years needed. In this case, the total income replacement need would be $30,000 per year times 10 years, which equals $300,000.
Step 4: Consider additional expenses.
In addition to the income replacement need, we need to consider the extra $50/month in child-care expenses that would be required in a single-parent household. This amounts to $600 per year ($50 x 12 months).
Step 5: Subtract potential survivors' benefits.
If Sue were to die, the family would receive an estimated $1,000 per month in child support. In a year, this amounts to $12,000. Since we estimated the need for 10 years, we subtract $12,000 per year times 10 years, which equals $120,000.
Step 6: Calculate the final amount needed in the family maintenance fund.
To calculate the final amount needed in the fund, we add the total income replacement need ($300,000) to the additional child-care expenses ($600 per year) and deduct the potential survivors' benefits ($120,000). Therefore, the Wrights would need $300,000 + $600 - $120,000, which equals $180,600 in the family maintenance fund if Sue were to die today.
Regarding the steps to search for protection to close the $50,000 life insurance protection gap:
Step 1: Evaluate existing life insurance coverage.
Check if Tom and Sue currently have any life insurance policies in place. Determine their coverage amounts and see if it adequately covers the protection gap.
Step 2: Research life insurance options.
Shop around for life insurance policies that can provide the necessary coverage to close the $50,000 gap. Consider different types of policies such as term life insurance or permanent life insurance.
Step 3: Get quotes from multiple insurance companies.
Obtain quotes from several insurance companies to compare premiums and coverage options. This will help find the most cost-effective policy that meets the Wrights' needs.
Step 4: Review policy features and terms.
Carefully review the features, terms, and conditions of each policy being considered. Ensure that the policy covers the protection gap adequately, takes into account the family's specific needs, and fits within their budget.
Step 5: Consult with an insurance professional.
If needed, seek advice from an insurance professional who can guide the Wrights through the process of selecting the most suitable life insurance coverage to close the protection gap. They can provide expert recommendations and assist with policy selection.
Step 6: Apply for the chosen life insurance policy.
Once the Wrights have made their decision, they need to apply for the chosen life insurance policy. They will need to complete the necessary paperwork, provide any required documentation, and undergo any required medical examinations.
Step 7: Review and update the policy regularly.
After obtaining the life insurance policy, it is essential to periodically review and update it as circumstances change. This ensures that the coverage remains appropriate and adequate for the family's evolving needs.