Insurance
How much insurance is enough?
Work backwards from a meaningful retirement income, not from what an agent tries to sell you.
When I was younger and still meeting insurance agents, the same question would always pop up: "How much coverage do you need?" In my mind, the reply was: "The more the better lah. If I knew, I wouldn't need to consult you, right?" After a whole back and forth, I would fall back to the cost of the premiums, and what I could afford at the time. Thinking back, that was the worst way to decide how much to insure. Now that I am a little older, and hopefully a little wiser, I want to share how I think about it. Hopefully you will not make the same mistakes I did.
Do not mix insurance with investment
Insurance agents love selling investment-linked policies (ILPs). Even if you are super duper lazy and know nothing about investing, stay away from ILPs. The commission paid out to the agent is exorbitant. Dollar-cost averaging into the S&P 500, or building a REIT income portfolio through a robo-advisor, will cost far less. Remember, the secret to wealth creation is keeping costs low and investable income high. By mixing insurance with investment, the whole product gets muddled up.
Decide your baseline retirement income
To answer this, you must decide when you will retire, and how much income you need during retirement for it to be meaningful. Instead of looking at a lump sum figure, think small. What is a meaningful stream of income you would like each month? From there it is easy to work out your financial goals. This becomes the key anchor for your insurance strategy.
View insurance as part of your entire portfolio
Do not think of insurance as something static, isolated from your financial portfolio. It has to be viewed holistically, complementing your investing. For example, if you have a lot of passive income, insurance may not even be necessary. As you reach certain milestones in life, you can start to review how much insurance you really need.
So how much is enough?
I had two key numbers to determine my baseline coverage. The first was the mortgage left on the house. If I died tomorrow, I would like my wife and children to still have a roof over their heads. The second was my projected CPF retirement account at 65, having set aside the Enhanced Retirement Sum at 55. The numbers worked out to about $650,000 and $750,000, bringing the total to about $1.4 million.
How do you insure for $1.4M? I am just an average Singaporean. Buying comprehensive policies for a $1.4M payout means sky-high premiums. But with a solid CPF strategy, I could buy more term insurance and less whole-life insurance, keeping premiums palatable.
As long as I have a high degree of certainty on the return of my retirement nest egg, I can keep a significant portion of my insurance as a variable expense, reducing it as financial goals are met.
As you get older, and assuming the nest egg gets larger, the cost of insurance can start to shrink. This is why CPF is fundamental to my strategy. Because of its predictable return rate, I can design an insurance plan suited to my needs. Of course, if you need more than $1.4M, then the idea is to have an investment strategy that reaps higher returns to reach your desired end state.
So how much insurance is enough? The answer has to be worked out individually. Be very clear on what a meaningful monthly retirement income is, and the return rate that comes with it. If you think $2,500 a month is enough at a 3% return, then you are working towards $1M, because $1,000,000 at 3% is $30,000 a year, which is $2,500 a month. I am clear on these variables, and so I can derive how much insurance I need.
I hope this sharing helps. All the best in your financial journey.