Flexible Income Programming

Abstract

This study develops a process for determining amounts of life insurance required to meet the survivors' needs for postdeath income which exceed amounts available from such sources as social security, earnings of the surviving spouse, and personal services. Inflation rates and earnings patterns of the predeath and postdeath periods are considered in the process of dynamic income programming developed in this paper. The amount of life insurance required each year and their premiums over the program's life are generated by a computer. The postdeath income benefits are expressed as a geometrically increasing life annuity. Efforts to preserve a family's financial status following the death of the breadwinner frequently involve the purchase of life insurance. The ideal postdeath financial plan is one in which the life insurance proceeds payable at death, when combined with other assets, are sufficient to offset the cost of estate settlement and to allow the surviving beneficiaries to maintain the same standard of living that they would have enjoyed had the breadwinner survived. In nearly all cases, insurance proceeds fall short of meeting this ideal. The family budget places an upper limit on the amount of postdeath resources that the breadwinner can provide. The planning objective becomes one of meeting basic needs. Income programming is a planning system used to determine the amount of predeath protection required to meet the postdeath income needs of survivors [3]. When breadwinners say that following their death they want their spouses and children to have an income of $800 per month if death occurs today, they generally are thinking in terms of current nominal income which can be used to purchase goods and services at current prices. While this amount may be adequate immediately following the breadwinner's death, the survivors no longer are able to look forward to benefits from the breadwinner's expected rising income. Patently, whatever inflation protection these pay increases offer also is lost. If these problems can be solved in an income program Terry Rose is Assistant Professor of Accounting and Finance, School of Business at Auburn University. Robert I. Mehr is Professor of Finance at the University of Illinois at UrbanaChampaign. He is the editor of The Journal of Risk and Insurance, a past president and current member of the Board of Directors of ARIA, a past director of the American Finance Association, a founder of the Risk Theory Seminar, the Pacific Insurance Conference, and the Interamerican Risk and Insurance Forum. He is a two time winner of the Elizur Wright Award for outstanding original contribution to the literature of risk and insurance. The authors thank two anonymous referees for their constructive criticism and helpful suggestions.