Sue and Tom Wright are assistant professors at the local university. They each take home about $42,000 per year after taxes. Sue is 37 years of age, and Tom is 35. Their two children, Mike and Karen, are 11 and 9.
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 $400/month in child-care expenses that would be required in a single-parent household. They estimate that survivors' benefits would total about $1,200 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%.
1. 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.
2. 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?
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To answer question 1, we will use the "needs approach" to calculate the amount the Wrights would need in the family maintenance fund if Sue Wright were to die today. The needs approach takes into account the current and future financial needs of the surviving family members.
Step 1: Calculate the current combined take-home pay of Sue and Tom. The question states that they each take home about $42,000 per year after taxes, so their current combined take-home pay is $42,000 * 2 = $84,000 per year.
Step 2: Determine the percentage of the combined take-home pay needed to retain the current standard of living. The question states that the remaining family members would need about 75% of the present combined take-home pay to maintain their current standard of living. Therefore, the amount needed is $84,000 * 0.75 = $63,000 per year.
Step 3: Consider the additional child-care expenses. The question mentions that there would be an extra $400 per month in child-care expenses in a single-parent household. To convert this to yearly expenses, we multiply it by 12, which gives us $400 * 12 = $4,800 per year.
Step 4: Calculate the survivors' benefits. The question states that survivors' benefits would total about $1,200 per month in child support. To convert this to yearly benefits, we multiply it by 12, which gives us $1,200 * 12 = $14,400 per year.
Step 5: Add up the calculated amounts. The total amount needed in the family maintenance fund can be calculated as follows: $63,000 (combined take-home pay needed) + $4,800 (additional child-care expenses) + $14,400 (survivors' benefits) = $82,200 per year.
Therefore, if Sue Wright were to die today, the Wrights would need $82,200 per year in the family maintenance fund to retain their current standard of living while the children are still dependent.
Now let's move to question 2 and explore the steps the Wrights should take to search for protection to close their life insurance protection gap of $50,000.
Step 1: Assess the current life insurance coverage. The Wrights should start by assessing their existing life insurance coverage to determine if they have any policies in place and if they meet their needs. They should review the coverage amounts, beneficiaries, and policy terms.
Step 2: Calculate the desired life insurance coverage. Since the Wrights have identified a protection gap of $50,000, they need to determine the additional coverage needed to close this gap. They can subtract their existing coverage from the desired coverage to determine the shortfall.
Step 3: Research life insurance options. The Wrights should explore different types of life insurance policies, such as term life insurance or whole life insurance, and compare quotes from multiple insurance providers to find the best coverage for their needs. They should consider factors such as coverage amounts, premiums, policy terms, and any additional benefits or riders.
Step 4: Consult with a financial advisor or insurance agent. It is highly recommended for the Wrights to seek professional advice from a financial advisor or insurance agent who specializes in life insurance. They can provide guidance on the appropriate coverage amount, policy options, and potential riders based on the Wrights' specific situation and financial goals.
Step 5: Apply for life insurance coverage. Once the Wrights have determined the desired coverage amount and chosen the best policy for their needs, they can proceed with the application process. This typically involves filling out an application form, providing relevant personal and medical information, and undergoing any necessary medical examinations or tests.
Step 6: Review and update regularly. It's important for the Wrights to review their life insurance coverage periodically. Life circumstances can change, such as a change in income, the birth of a new child, or the aging of the children, which may necessitate adjustments to their life insurance coverage.
By following these steps, the Wrights can systematically search for the right life insurance protection to close the $50,000 gap they have identified.