A survey released Monday by Nationwide Financial found 98% of Americans with a spouse, domestic partner or dependent are underinsured to the tune of $1.2 million. According to Nationwide, the average life insurance policy will replace about 16% of the insured’s income.
“Too many Americans make the mistake of assuming that simply providing what may appear to be a large lump sum of money for their beneficiaries will be enough to protect them,” Eric Henderson, senior vice president of life insurance and annuities for Nationwide Financial, said in a statement. “Instead, they should think about how much of their income the insurance money will replace. If it doesn’t replace a high percentage of it, their family faces the risk of financial disruption or a reduced standard of living. It’s simple math, and it doesn’t add up for 49 out of 50 of those we surveyed.”
Henderson added that there are a lot of expenses that come up later in a person’s life that could be hard to meet: college, weddings, retirement, health care and long-term care.
Henderson stressed that while income over a number of years may seem more intangible than a car or a house, it’s far more important.
“For most of us, the income we will earn before retirement is far more significant to the financial well-being of our family than any material possession,” he said. “The cost for enough life insurance to replace this income may be less than you spend to insure your home or car. A lack of understanding of the true cost of life insurance may be part of the reason for such widespread consumer inaction.”
About a third of respondents said their biggest reason for purchasing life insurance was to replace their income if they needed it, but just 2% have actually done so. The survey found consumers were willing to pay an average $99 a month on life insurance to keep up their family’s standard of living.
However, according to research from LIMRA, consumers tend to overestimate the cost of life insurance by three times, and less than 30% think they can afford enough life insurance to replace their income.
“Advisors and insurance agents may be able to motivate clients by helping them understand the implications of their income replacement gap,” Henderson said. “We know that consumers don’t respond well to scare tactics, however, they may be relieved to learn that the solution is not as scary as they may expect. Even if they don’t feel compelled to buy enough life insurance to replace all of their income, most consumers can afford enough to put a significant dent in their income replacement gap. That’s at least a step in the right direction.”
About a third of consumers worked with an advisor or agent to determine how much insurance they needed, while 20% just guessed. In spite of that, two-thirds say they are certain they have enough insurance, and 62% either didn’t know how long they could maintain their standard of living with insurance benefits, or put that figure at a mere four years.
“Many Americans have the false perception that they have an adequate life insurance plan in place,” Henderson said. “When they actually do the math, the true picture may become clearer, and hopefully motivate action.”
Check out Middle-Income Boomers More Likely to Plan for Death Than LTC on ThinkAdvisor.