How Much Insurance Do You Need?

A big part of financial planning is accounting for what-ifs. "No matter how careful you are, accidents, illness, and death are always possibilities," says Chris Kawashima, CFP^®, a senior research analyst at the Schwab Center for Financial Research.

That's where insurance comes in. Coverage in the age of lengthening life spans and increased cybercrime includes not just the customary auto, health, home, and life insurance but also long-term care insurance, long-term disability insurance, umbrella insurance, and even identity-theft protection.

Let's look at both need-to-have and nice-to-have policies, as well as ways to balance the cost of multiple premiums.

If the worst happens, life insurance can offer peace of mind and financial security for your loved ones. "For anyone who is working and has a spouse or dependents, it's a core piece of the financial-planning puzzle," says Joseph Reyes, CFP^®, CWS^®, a senior financial planner at Schwab.

There are typically two types of life insurance to provide your heirs with financial resources in the event you can no longer do so:

Term life insurance provides a specified cash benefit, or payout, upon the insured's death during the period covered by the policy—typically from 10 to 30 years. Premiums are fixed and generally less expensive than those for permanent life insurance, but the policy doesn't have a death benefit if you outlive the term, nor does it accumulate a cash value.

"Term life insurance can be a good solution for the average working person," Joseph says. "You can purchase a policy when you're young and healthy and continue coverage during your working years for a relatively reasonable price." A general rule of thumb is to purchase coverage equivalent to six to 10 times your income or five times your income plus the value of any debt, such as a mortgage.

Permanent life insurance, on the other hand, provides lifetime coverage. In addition to a death benefit, these policies have a cash-value component that the insured can withdraw or borrow during their lifetime. "The cash-value component can be tapped for emergencies if needed, potentially providing additional peace of mind," says Austin Jarvis, director of estate, trust, and high-net-worth tax at the Schwab Center for Financial Research. However, withdrawals permanently reduce the cash value and the death benefit, and loans reduce the cash value and the death benefit by the amount of the outstanding balance plus interest.

There are two main types of permanent life insurance: whole life and universal life:

• Whole life is generally the more expensive option because it has a guaranteed death benefit and fixed premiums for life (unless you withdraw or borrow from it).
• Universal life can offer policyholders the flexibility to make minimum payments to maintain the insurance portion of their policy—or pay in excess of that minimum toward the cash value of the policy (the cash value accumulates interest and can be withdrawn or borrowed against during the policyholder's lifetime).

Permanent life insurance may also be an important estate-planning tool for those with significant wealth. For example, if you're worried about estate taxes but don't have many liquid assets, you may want to consider placing a permanent policy in an irrevocable life insurance trust, which in most cases excludes the proceeds from your taxable estate but can be used to pay state or federal estate taxes. "That way, the estate can avoid a fire sale of assets, potentially at undesirable valuations, in order to pay any taxes," Austin says.

Given the indefinite term and cash value, permanent policies are much more expensive than term policies and often make more sense for people with complex financial needs.

Many Americans will need long-term care—help with daily activities such as bathing, dressing, and eating—at some point in their lives. Family members frequently step in, but sometimes the caregiving requires a home health aide, assisted living, or nursing home care. Unfortunately, long-term care isn't covered by Medicare, and the costs can be exorbitant. (In 2021, the median annual cost of care was $54,000 for assisted living and $94,900 for a semiprivate room at a skilled nursing facility.)¹

Long-term care (LTC) insurance can help offset these expenses, typically covering the cost of care up to a defined lifetime maximum or a certain number of years. Though LTC premiums can be high and rise over time, it may be preferable to pay premiums rather than the cost of long-term care out of pocket.

That said, most policies have an elimination period—the waiting period before coverage kicks in, generally anywhere from 30 to 180 days—during which you must cover the cost of care yourself. Many policies allow care to be provided at home or at an adult day care center, an assisted living facility, or a nursing home.

The most cost-effective time to purchase LTC coverage is in your mid-50s, according to the American Association for Long-Term Care Insurance.² The younger and healthier you are, the lower the price, all else being equal. For example, a 60-year-old single man purchasing a plan with $165,000 in benefits in 2023 would have paid an average of $1,200 per year, whereas a 65-year-old single man would have paid $1,700 for the same coverage. (A single woman would have paid $1,960 and $2,700 per year, respectively). Premiums tend to be much higher if you purchase a plan that accounts for inflation, and you'll also pay more for a policy with a shorter elimination period.

One drawback of LTC policies is that they tend to be use-it-or-lose-it—if you don't make a claim for benefits, the policy will pay you nothing. To address this, there are increasingly popular hybrid policies that combine long-term care benefits with life insurance or an annuity. For example, an accelerated death benefit rider will reimburse some long-term care costs out of the death benefit, while a critical or chronic illness insurance rider will pay out a lump sum for covered illnesses.

"These hybrid policies are expensive, but the premiums are consistent, so you may be protected against future increases," Joseph says. Talk to your financial advisor about the pros and cons of stand-alone policies versus riders for long-term care coverage.

An illness or injury could prevent you from working and potentially reduce or eliminate your earning potential, so it can be important to protect yourself with disability insurance. "The government's Social Security Disability Insurance covers only total disability—when you're unable to work at all—and it likely won't be enough to protect higher earners," Joseph says. There are two forms of private coverage for partial disability:

• Short-term disability insurance, which pays out a percentage of your salary (often 50% or more) for a few weeks or months. Employers frequently provide this for free or a relatively small copay. (Five states—California, Hawaii, New Jersey, New York, and Rhode Island—and Puerto Rico offer short-term disability coverage, the cost of which is automatically deducted from most workers' wages.)
• Long-term disability insurance, by contrast, protects against income lost due to prolonged medical issues and typically covers 50% to 70% of your affected wages.³ There is an elimination period before benefits begin, commonly 90 days—meaning you must be disabled throughout the period to qualify for coverage—so make sure you understand the specific policy and how the length of the elimination period affects your premiums. The cost also varies by length of coverage, which can range from a couple of years to retirement. You'll generally have to purchase a policy outright either through your employer or a third-party provider.

Either way, speak with your financial planner or insurance broker about the myriad options. For example, some policies may allow you to collect benefits only if you can't perform any work at all, rather than being unable to do the type of work you currently do. Also be aware that your benefits could be taxable if part or all of the premiums were paid by your employer, or if you paid for the plan with pretax dollars through your employer.

This type of insurance covers damage for which you're liable, such as accidents that occur on your property or that are caused by you or your family members. It kicks in after the liability coverage on your car, home, or other policies hits its limit. (Umbrella insurance providers generally require a certain amount of liability coverage by your other policies. Discuss your particular risk factors—say, owning a rental home, having a pool or trampoline, or serving on a nonprofit board—when talking to your financial planner or insurance professional about how much coverage you may need.

"A general rule of thumb is to have total liability coverage worth one to two times your net worth across your regular and umbrella policies," Joseph says. "The good news is that it's relatively cheap, running as little as a few hundred dollars a year for $1 million in coverage."

From January through September 2023, there were roughly 805,000 instances of identity theft reported to the Federal Trade Commission.⁴ Insurance against this type of crime usually covers the cost of reporting the fraud and restoring your identity, including lost wages and bank, notary, and legal fees. Some policies may also include credit monitoring. However, most do not reimburse stolen funds, so make sure you understand the details of your policy options.

You can purchase identity theft insurance on its own or as an add-on to a homeowner's policy. It's generally inexpensive—between $25 and $60 per year, according to credit reporting agency Equifax⁵—though you may pay more for products that include additional cybersecurity benefits, such as antivirus software.

"If you're at higher risk—you travel often or shop online frequently, for example—identity-theft protection may be right for you," Joseph says.

"Premiums can add up," Chris says, "but there are typically ways to keep them from collectively spiraling out of control."

One way is to comparison shop before you buy, looking for discounts tied to memberships or loyalty programs. You can also bundle different types of insurance when possible and try to pay in one annual installment rather than monthly, which can yield significant savings.

"At the end of the day, you need to weigh the real cost of insurance against the possible cost of loss," Chris adds. "Running a cost-benefit analysis with your financial advisor can help you find the sweet spot."