John is an attorney in a small firm, he is 32 years old and currently earning $78,000 a year. John must continue paying back his student loan by making monthly payments of $300 per month for the next three years at an interest rate of 5% per year. John is married and has three children, Billy, age 2. Cindy, age 6, and sally, age 10. Johns wife, Mary, currently is a stay-at-home mom. When billy is old enough to attend school, Mary hopes to get a job as an administrative assistant in the children's school. That position pays about $20,000 per year. Mary has a high school diploma and a certificate showing she completed one year of practical secretarial training. Mary is 34 years old. John and Mary pay $900 per month for their home mortgage, which will be paid off in 20 years. The interest rate on their mortgage is 4.0%. (Their current equity in the home is $36,000.) The couple own two cars, both 10 years old, and personal property (such as clothes, electronics, furniture, etc) valued at $45,000. Their investments include checking, savings, and mutual fund accounts equal to $8,000. John has no life insurance. Mary has a $25,000 whole life insurance policy that was given to her by her parents when she turned 18. If John should die, Mary would receive approximately $5,000 per year for each child 18 years of age or younger.
John and Mary spend almost all of John's take-home pay each month. They are able to save $300 per month that they deposit into a tax-deferred college fund for the children. The college fund has been earning a respectable rate of return of about 7% per year. Their other investments earn about 5% per year. John is worried about what may happen to his family if he should die. He is considering the purchase of life insurance and asks for your advice.
1) Assuming neither John nor Mary will receive large inheritances, how much life insurance do you think John needs? Calculate the amount using the needs approach. Show all calculations and explain your answer. Also indicate the type of insurance you would recommend, whole life or term. If you recommend term, specify length of the term policy.
2) Assume that John and Mary purchase a whole life policy on John's life in the amount you determined in part 1. (If the amount you determined is less than $200,000, assume an amount of $200,000) Fifteen years later, John decides he doesnt want to make any more premium payments. Which non-forfeiture option would you recommend? Explain the selection.
3) Assume that John and Mary purchase a whole life policy on John's life in the amount you determined in part 1. (If the amount you determined is less than $200,000, assume an amount of $200,000) John dies at age 55. Which settlement option would you recommend? explain your selection and note any assumptions made.
