The income replacement method calculates how much life insurance is needed to replace your income for dependents.

Formula: Annual Income × Years of Support × Income Replacement Percentage (typically 70-80%) = Base Need.

Example: $80,000 salary × 20 years × 75% = $1,200,000.

Then adjust for: (1) Social Security survivor benefits (~$1,500-$3,000/month reduces need by $360k-$720k over 20 years), (2) Spouse income (working spouse reduces replacement need by their contribution), (3) Inflation adjustment (2-3% annually increases need by 30-45% over 20 years), (4) Investment returns (4-6% on lump sum reduces initial need).

After adjustments, typical coverage needed = 8-12x annual income.

For $80k income with 2 kids and working spouse: $1.2M base - $500k SS benefits - $300k spouse contribution + $200k inflation = $600k-$800k needed.

Industry standard is 70-80% income replacement, not 100%, because: (1) The deceased person's personal expenses (food, transportation, clothing) no longer exist (typically 20-30% of household spending), (2) Payroll taxes (7.65% FICA) are eliminated, (3) Retirement contributions (often 10-15%) are no longer needed for the deceased.

Example breakdown for $100k income household: $100k gross → $75k after personal expenses/taxes → needs $75k replacement.

However, adjust upward for: Single earner families (100% replacement needed since no backup income), Young children (childcare costs $10k-$20k/year for 10+ years), Mortgage/debts (add lump sum for payoff: $300k mortgage = +$300k coverage).

Adjust downward for: Two high earners (each earning $80k+ can survive on one income), Older children/no dependents (shorter replacement period), Significant assets (investment portfolio $500k+ can supplement).

Use 80-100% for sole breadwinners, 70% for dual income, 50-60% for high net worth families.

Yes, but conservatively.

Social Security provides survivor benefits that reduce life insurance needs, but amounts vary significantly. 2025 benefit structure: Surviving spouse with children under 16 receives ~75-100% of deceased worker's benefit (max family benefit ~$3,800/month).

Each child receives 75% of deceased parent's benefit until age 18-19 (in school).

Widow(er) at full retirement age receives 100% of deceased spouse's benefit.

Example family calculation: $80k earner dies, leaving spouse + 2 kids (ages 8, 10).

Estimated monthly survivor benefit: Spouse $1,800 + Child 1 $1,300 + Child 2 $1,300 = $4,400/month ($52,800/year) until youngest turns 16, then spouse benefit stops until widow(er) reaches age 60.

Over 8-year period (until youngest is 16): $52,800 × 8 years = $422,400 total benefit.

Reduce this by 20-30% for conservative planning (benefits may decrease, COLAs uncertain, remarriage ends spouse benefit).

Net reduction in insurance need: $300k-$350k.

Important: Benefits stop when children leave household, so insurance must cover the gap from age 16-18 of youngest child and ongoing support for surviving spouse.

Use SSA.gov's calculator for personalized estimates.

Common timeframes by family situation: (1) Until youngest child is 18-22 (college graduation): Most common approach.

Family with 5-year-old needs 13-17 years of coverage. (2) Until spouse reaches retirement (age 65-67): Longer-term support. 40-year-old widow(er) needs 25-27 years. (3) Hybrid approach (most recommended): Full income replacement until youngest is independent (15-20 years), then 50% replacement until spouse retires (additional 10-20 years).

Example hybrid calculation for 35-year-old with 3-year-old: Years 1-15: $80k × 75% = $60k/year replacement.

Years 16-30: $80k × 50% = $40k/year replacement.

Present value needed (at 5% discount rate): $60k annuity for 15 years = $623k, plus $40k annuity for 15 years (starting year 16) = $208k.

Total: $831k.

Adjust for: Stay-at-home spouse (longer replacement needed, often to retirement), High debt/mortgage (add lump sum to timeframe), Multiple young children (extend to youngest + 4-6 years for college), Spouse with career/income (reduce timeframe by 5-10 years).

Most families: 15-20 years base + 10-15 years reduced coverage = 25-35 year total planning horizon.

Use the "net discount rate" method to simplify.

Formula: Net Rate = Expected Investment Return - Inflation Rate.

Typical assumptions: Investment return on lump sum: 5-7% (balanced portfolio, conservative for life insurance planning).

Inflation: 2.5-3.5% (historical average 3.2%, recent 2.5%).

Net discount rate: 2-4% (use 3% for middle ground).

Example: Need $60,000/year for 20 years with 3% net discount rate.

Without adjustment (ignoring time value): $60k × 20 = $1,200,000.

With 3% net discount rate (present value of annuity): PV = $60,000 × [(1 - (1.03)^-20) / 0.03] = $60,000 × 14.877 = $892,620.

Savings: $307,380 (26% reduction).

Alternative level-premium approach: Increase annual need by inflation, decrease by returns each year.

Year 1: $60,000.

Year 10: $60k × (1.025^10) = $76,801 (inflation) ÷ (1.05^10) = $47,146 (present value).

Year 20: $60k × (1.025^20) = $98,394 ÷ (1.05^20) = $37,085.

Sum all years: ~$850k-$950k.

Most calculators use 4-6% investment return, 2.5-3.5% inflation, resulting in 1.5-3.5% net discount.

Higher net rate = lower lump sum needed (but riskier).

Conservative planning: use 2-3% net rate.

Add lump-sum needs on top of income replacement: (1) Mortgage payoff: $250k-$500k (most significant addition, eliminates largest monthly expense). (2) Other debts: Auto loans $20k-$40k, credit cards $5k-$15k, student loans $30k-$100k (federal loans discharged at death, private loans require payoff). (3) Final expenses: Funeral/burial $10k-$15k, estate settlement/probate $5k-$20k, medical bills $5k-$50k (if lengthy illness). (4) Education funding: $50k-$100k per child for 4-year college (2025 costs, in-state public $115k, private $240k). (5) Emergency fund: 6-12 months expenses ($30k-$60k for surviving family to adjust).

Full example for $80k earner with $300k mortgage, 2 kids, $25k other debts: Income replacement need: $600k (prior calculation).

Plus: Mortgage $300k + Other debts $25k + Final expenses $12k + College (2 kids × $75k) $150k + Emergency fund $40k = $527k additional.

Total coverage needed: $600k + $527k = $1,127,000 (round to $1,100,000-$1,250,000 policy).

Simplification: Many advisors use "10x income + debts + college" rule. $80k × 10 = $800k, plus $300k mortgage + $25k debt + $150k college = $1,275,000 (close to detailed calculation).

Subtract existing coverage: If employer provides $160k group life (2x salary), personal need = $1,127k - $160k = $967k (buy $1,000,000 term policy).