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    Taxes; Life Insurance; Family Maintenance Fund; Needs Approach

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    Sue and Tom Wright are assistant professors at the local university. They each take home about $40,000 per year after taxes. Sue is 37 years of age, and Tom is 35. Their two children, Mike and Karen, are 13 and 11.

    Were either one to die, they estimate that the remaining family members would need about 75% of the present combined take-home pay to retain their current standard of living while the children are still dependent. This does not include an extra $50/month in child-care expenses that would be required in a single-parent household. They estimate that survivors' benefits would total about $1,000 per month in child support.

    Both Tom and Sue are knowledgeable investors. In the past, average after-tax returns on their investment portfolio have exceeded the rate of inflation by
    about 3%.

    If Sue Wright was to die today, how much would the Wrights need in the family maintenance fund? Use the "needs approach" and explain the reasons behind your calculations.

    Suppose the Wrights found that both Tom and Sue had a life insurance protection gap of $50,000. How might they go about searching for protection to close that gap?

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    Solution Preview

    Both Sue and Tom each earn 40,000, thus their total current income after taxes is 80,000 and if either one were to die, the remaining family members would need a total of 75% of 80,000 that is 60,000.

    Of this 40,000 would come from the salary of the surviving member giving us a gap of 20,000. Of this 12,000 would be the survival benefit that we assume to be exempt from income tax. This gives us a gap of 8,000 to which we add 50x12 = 600 child care expenses. This gives us a gap of 8,600.

    If we take the applicable tax rate to be 15% we multiply 8,600 by 100 and divide by 85 we get a before tax required income of $10,117.65.

    Now the ...

    Solution Summary

    The solution comprises of 483 words on life insurance gaps and possible solutions, including a source linked.