 Personal finance practice problem using OneNote. Life insurance calculation based on child age. Prepare to get financially fit by practicing personal finance. You're not required to, but if you have access to OneNote, would like to follow along. We're in the icon left-hand side practice problem tab in the 10030 life insurance calculation based on child age tab. Also take a look at the immersive reader tool of the practice problems, typically in the text area too with the same name, same number, but with transcripts. Transcripts that can be translated into multiple languages either listened to or read in them. Information's on the left-hand side. We're calculating how much life insurance we need, noting that in prior presentations, we looked at online calculators that are often offered by insurance companies on their websites, and we noted that the different insurance calculators have different data input and often provide us with a different data output, which is not really surprising given the fact that you can approach this question, how much life insurance we need from many different angles. Therefore, what we would like to do is know the different tools, know the different approaches, and try to choose the tools and approaches that are best for our particular situation possibly than using the online calculators as a double check, as a guide to see if we're kind of in the bull park. Given that, we're going back to our data. We've got a married couple here, two children, child one, age three, child two, age nine. One spouse is not working, taking care of the home. So we've got the one spouse doing more of the earning, the other spouse doing, working on more of the home care, support needed per year. Now, this number, the 15,000, you might say, where does that number come from? That's not really our focus right here, but we could take it from the wages of the earner or we can take it as an expense, needed kind of calculation, or we might try to use kind of some heuristic in terms of an average number that is typically needed for particular situations. We're then going to have our rate of return inflation calculations. We'll use those in a little bit in the future. We don't need them right now, so I won't talk about them too much here. So as we're imagining a situation where the primary spouse passes away, we can think about what the cash flow needs will be for the other spouse and we can break those cash flow needs into different categories. The main category being what are going to be their cash flow needs on a year to year basis in order to meet their financial obligations. And then we could tack onto that, for example, one time kind of needs such as our funeral costs. We could tack onto that the needs for college tuition, for example, which is more of a goal oriented kind of calculation. We could tack onto that basically needs for the spouse's retirement if we so choose. But the primary thing we're thinking about typically is how much are they going to need on a year by year basis for cash flow in order to meet their current needs. As we ask that question, we've got one, how much do they need here? And this really isn't our main focus at this point. You could calculate the expenses or you can calculate your income, for example, we're focused up here in terms of how long will they need that amount of cash flow. And you can base that on different things. We could say how long we as the earner had until retirement, for example, or we can think about basically how long it would take for let's say our youngest child to reach 18 because at that point in time, you would think that the spouse wouldn't have to spend as much time on the childcare. And so that's one way that you could basically do the calculation. So that's what we'll do here. And again, you might say, well, they might need still some more support these days after 18 and so on. They might need college or something like that with a college calculation. You might then again do a different calculation, which you would add on top of this because that's a goal oriented calculation as opposed to a cash flow in a year by year need. So we'll talk more about that later. But we've got the kids, the kids are 18. And so age of the youngest child is three. So we're gonna say then 18 minus three, we've got 15 years of them being under 18. And you would think then would be needing more support up until that point. So we got 15 years, the support needed per year. We've got the 15,000. Again, this isn't our focus in terms of where did we get that 15,000? It could be based on your wages, could be a heuristic, could be based on basically expenses. So 15 times 15,000 is gonna give us the 225,000. Now note that if someone was to die, then you would get the 225,000 might be at that point in time, getting the payout basically at that point in time. So that might actually be a little bit higher because you might say, well, if they get a lump sum at the point of death that they're gonna need in order to spend for the next 15 years, they could invest some of that, the part that they don't need for the immediate cash flow. So you might say, well, is there a way that I can, you know, lower this for example, and then again, use this possibly as a baseline and tack on other stuff that might be included. We'll talk about later such as funeral costs, such as college tuition, such as planning for the spouse's retirement, if you wanted to think about those things and make it a bit more complex. So if you took in a time value of money and we did our present value calculation, and I won't get into too much detail with it here, just to give you the concept of it. And we do do this in Excel. So if you wanna work this in Excel, you can work it there. But we can do our present value calculation and say they could get the 172,761, assuming the present value conditions, which is gonna be a rate of return, 6%. We're saying that the inflation though is 2.5%, meaning the value of the dollar is going down by the 2.5%. So even though they're earning 6%, they're really only getting in terms of purchasing power, 6% minus the 2.5 or the 3.5%. So that would mean then if we present value, the cash flow needed, we get the 172,761. Okay, so let's kind of prove that to ourselves with the calculation down here. So let's run the table and say, what does that really mean? Well, one way we can think about it, let's take this number just to kind of prove that that works to us. We're gonna say the 172,761. And if we say that there's an increase, and I'm gonna take the net increase for the real rate of return to see how the present value calculation works, 172,761 times the 0.035, 3.5%, 0.035, that gives us our 6046, 6047. And then they're gonna be using or spending 15,000 because that's the cash flow that we said they're gonna need or the added cash flow. So 172,761 plus the 6047 minus the 15000 would bring the balance down to the 163,808. Now note, again, this is nice. I'll show you, we'll kind of make it more precise here because notice what we're using is the return after inflation, the real rate of return to see how this present value calculation works, really, in real dollars, they would be earning 6%, but the inflation would be eaten into it in terms of purchasing power. So in reality, and we'll see that over here shortly, how we can kind of estimate that calculation, they would be earning 6% on it, but they would need more than 15,000 in order to have the same purchasing power to buy the same basket of goods because it would be more expensive at that point. But let's just prove it this way first, prove that present value calculation. If I take this one, 163,808 times .035, that's gonna give us the 5,733 that they would be earning on it, so they're earning less per year, and then they're gonna use or spend 15,000. And so if I took the prior balance, the 163,808 plus the 5733 minus the 15,000, now they're at the 154,541, and then of course the earnings are going down, they're spending 15,000 each year, the balance goes down. Then the earnings go down, they spend the 15,000, balance goes down, and so on. And if we take that after 15 years, it's down to zero. So that's why this is gonna be a bit lower number that you might be able to still say, okay, that makes sense as opposed to just taking the 225,000, which isn't taking into consideration time value of money. Now to be a little bit more precise about it, you might say, well really what's happening is they're earning 6%, but then there's inflation. So it should look something like this. So it's gonna be 170, this won't be exact, but it'll give you kind of a general idea. So if you got the 172,761, and then they're earning 6% on it. So let's say that they earn a return of 6%, 172,761, and you probably wanna average, if you're doing this kind of calculation, a return of like four to 5% to be conservative, on the low return side of things, but it's up to you what you think, in any case. We're gonna take that times the .06, and that's gonna be the 10, 365 if they were to invest it, and then you'd have the fifth, really if it was a year later that they're gonna get paid in order to get the same purchasing power of the 15,000 in period zero, they would need 15,000 out 75. In other words, they would need the 15,000 times, inflation was point, or 2.5 times .025, 2.5%. They would need another $375 to deal with the inflation. So now we're saying, okay, we got 172,761 plus 10,366 minus 15,375. And so now we're talking like in future value terms with this one, whereas this one, we just used the net value to prove the present value calculation. So this present value calculation is really only kind of correct as of point zero, as of this point in time, and then this calculation is kind of proving it. And over here, we're trying to get, these calculations are given as kind of more of the future value of what we expect would actually kind of have to happen. So then we're gonna say that now they've got, they've got 167,752, and then they're gonna earn .06 on it. That would get us to the 10,065, but now in order to buy the same basket of goods, they'd have to spend, it'd have to take out more, right, 15,759. So now we're gonna take it was 15,375, but because of inflation, we're gonna have to say times .025, they're gonna need another 384,37 to deal with inflation. So we add that plus the 15,375, that's gonna give us our 15,759. So now we have the prior balance 167,752, and then they're gonna earn 10,65, but then now they have to take out more because of inflation. So now it's up to 15,759 in order to spend the same amount to buy the same basket of goods, which gets to the 162, let's do it one more time. So if I took that times the .06, that's gonna give us the 9,723, but now they're gonna have to spend more in order to buy the same basket of goods according to inflation. So 15,759 times the .025 is another 393 plus the prior balance of the 15,759, is gonna give us our 16,5 or 153. So we have before 162,058 plus 9,723 minus 16,153, that's gonna give us the 155,628. And again, you can do that on down and it doesn't work out exactly like this one because of the way we're breaking this out, but it gets you an idea of what's actually kind of happening here in terms of the returns and the fact that the payments you would expect would have to go up to deal with the fact that you would be spending more money. So these are great problems to work in Excel and we do do them in Excel, so check that out.