Take a complete stock of the existing funds you hold. This is the money or financial assets that you currently have - Fixed deposits, Mutual Funds, Equity shares, Cash, Cash in the bank, etc.
It might seem pretty straightforward that you will simply add up all the money and value of assets you’ve got. But, that’s where you will go wrong.
You see, not all assets have the same risk factor. Meaning, not all of them might be readily available for your family - as liquid funds to spend on their needs. So, you will have to multiply these risk factors to plan for the worst-case scenario. Here are the risk factors you should consider.
- Existing Life Insurance Covers @ 100%
- Savings, FDs & Cash @ 100% - You can consider these amounts at a 100% value
- Equity investments @ 50% - Conservatively, take all your equity shares and equity-linked investments at half their total value
- Gold & residential property@ 0%: Practically speaking, you would not want these assets to be liquidated for grocery purchases. So, take them at zero value.
- Stock options @ 0%: As these are high-risk investments, take them at zero value. If any of them pay off, consider it a bonus.
Summing up all these numbers will give you the actual amount you own.
Now, you can calculate the total cover or sum insured you will need using the formula -
This is the most meticulous and scientific way to calculate the exact amount that your family needs - instead of depending on a random figure.
Let’s look at an example to understand how this works.
Sakshi is a 27-year-old analyst, who draws a yearly salary of 6 lakh rupees. This is how her finances look, at this moment.
Her expenses
Current Living Expenses
|
Rs 30,000/- per month (excluding EMIs on loan)
|
Major Expenses - Planning to do a masters from a premier university in the next 3 years
|
Rs 50 Lakhs
|
Major Liabilities |
No liabilities
|
Existing Funds - Savings
|
- Savings - Rs 5 Lakhs
- Mutual Fund - 20 Lakhs
- Fixed Deposit - 5 Lakhs
|
Let’s retabulate these figures to make the calculation simpler.
Money Sakshi owes
Living Expenses Fund
|
Rs 30,000 × 12 ÷ 3% = Rs 1.2 crores
|
Major Expenses Fund |
Rs 50 lakhs |
Major Liabilities |
Zero
|
Total Liabilities
|
Rs 1.7 crores
|
Money Sakshi owns
Savings @100%
|
Rs 5 Lakhs X 100% = 5 Lakhs
|
Fixed Deposit @100% |
Rs 5 Lakhs X 100% = 5 Lakhs
|
Mutual Funds @50% |
Rs 20 Lakhs × 50% = Rs 10 Lakhs
|
Total Existing Fund |
Rs 20 Lakhs
|
So, the required cover for Sakshi is the difference between her liabilities and her existing funds.
Liabilities - Existing fund = 1.7 Crores - 20 Lakhs = 1.5 Crores
If she went by the usual calculation of 20X her yearly salary, she would only take a cover of 20 X 6 Lakhs, that is - 1.2 Crore Rupees, leaving her family without a sufficient cover - 30 lakhs short.
Further, in this calculation, we haven't factored inflation. If you have to - you should factor at least 2.5X this coverage amount or buy an increasing cover that takes your cover systematically to 2X.