Traditional long-term-care insurance (LTCI) has been in a long-term decline. Fewer than 50,000 policies were issued in 2020, a small fraction of the more than 500,000 sold each year a few decades ago. Many insurers have stopped issuing traditional LTCI policies altogether because they were losing money on them. Meanwhile, consumers have been frightened off by rate increases imposed on earlier LTCI policyholders, and they don’t want to pay thousands of dollars in premiums for insurance that may never provide any benefits.
Are those consumer concerns warranted? Is traditional LTCI still worth considering? And what are the alternatives for financing long-term care? Here’s a look at LTCI and other long-term-care coverage options today….
Weighing the options
Long-term care can cost $50,000 to more than $150,000 a year, depending on where you live and the type of care that you require. This is more than most retirees could afford to pay out of pocket for long without devastating their savings. Options for covering these bills include traditional LTCI…“hybrid” or “linked-benefit” policies that combine elements of LTCI and life insurance or annuities…LTC riders on life insurance policies…and Medicaid.
Traditional LTCI: The sector’s worst pricing problems are behind it—but is anyone even paying attention? People who purchased LTCI many years ago often have horror stories about massive premium increases. Notices arrive in the mailbox one day informing them of a rate increase of 30%…50%…or even more. These policyholders feel trapped—they don’t want to lose the coverage that they have been faithfully funding for years, but the rate hikes strain their retirement budgets. Insurers offer options to reduce the hikes by reducing the maximum daily benefit, the benefit period or the inflation adjustment, but it is hard to know which option to choose.
What happened: In the beginning, LTCI was a relatively new insurance, and insurers had to make guesses about how much to charge for early policies. Every major pricing assumption turned out to be too optimistic. Insurers assumed that many policyholders would let their policies lapse over the years—but most people continued to pay premiums. Also, fewer people died than expected. These two factors led to more claims. Insurers underestimated the length of nursing home stays due to neurodegenerative diseases. Finally, insurers were counting on significant earnings from their investments in bonds and mortgages, but interest rates have remained low.
Good news: Policies sold today are far less likely to face major rate increases due to more conservative pricing assumptions and better oversight by state insurance regulators. Insurers that remain in the sector today aren’t making those early mistakes, and state insurance regulators have made it more difficult for insurers to justify future rate hikes.
The rates you’re quoted will vary based on your age, health, gender, amount of coverage you want and specific policy terms including its inflation protection—adding significant inflation protection can more than double a policy’s premiums.
Examples: A healthy 55-year-old man might pay $950 in annual premiums for a policy with no inflation protection that provides $165,000 in benefits…a healthy 55-year-old woman, $1,500…a healthy 55-year-old married couple, $2,080 combined, according to the American Association for Long-Term Care Insurance’s 2022 Price Index survey. But add 3% annual benefit growth to protect against inflation, and that man will pay $2,200…the woman, $3,700…and the couple, $5,025.
More good news: Traditional LTCI enjoys tax subsidies. If you’re self-employed and file a Schedule C, Profit or Loss from Business, you likely can deduct the cost of your LTCI premiums (subject to a dollar limit based on your age) for yourself and/or your spouse up to the total amount of your Schedule C income. Exception: You can’t claim this tax break if a subsidized LTCI plan is available to you and/or your spouse through an employer.
If you don’t file a Schedule C, you still might be able to deduct LTCI premiums to the extent that those premiums together with your other unreimbursed medical expenses exceed 7.5% of your adjusted gross income (AGI). To take advantage, you’ll have to file a Schedule A, Itemized Deductions, rather than claim the standard deduction.
Note that LTCI premiums are deductible only for “qualified” policies that meet a list of criteria—ask your insurance agent to confirm that a policy is qualified before purchasing it. There also are caps on the size of the annual LTCI premiums that can be deducted—as of 2022, those caps are $450 for taxpayers age 40 and younger, but they climb to $5,640 for taxpayers age 71 and older. These caps are doubled for married couples when both spouses have LTCI coverage.
Some states offer significant tax breaks for LTCI premiums as well. Example: In New York, taxpayers who have AGIs less than $250,000 can receive annual nonrefundable state tax credits worth either 20% of the total amount paid in premiums or $1,500, whichever is less.
Those state tax credits, together with the federal deductions above, sometimes slash the after-tax actuarial cost of premiums to less than the actuarial value of the policy’s benefits. In other words, once taxes are factored in, New Yorkers who file a Schedule C may, on average, receive more back from traditional LTCI policies than they pay into them. Consult your tax adviser for advice.
Important: At the first sign that you may have a need for long-term care, consult your agent or other knowledgeable professional to review the claims process for your policy. Some advance planning will increase your odds of getting the benefits that you have paid for.
Hybrid policies: These policies use life insurance and annuities as a base for providing LTC benefits. Example: A $100,000 single premium buys a hybrid life/LTC policy with a $102,000 death benefit. A long-term-care claim will draw down the death benefit by $3,050 per month for 33 months. After 33 months, another pool of money will provide a lifetime $3,050 LTC benefit with 3% inflation. The policy also has a cash value that grows to $102,000 at age 121 if you have no claims.
To understand what you are getting, you need to do an actuarial valuation of each benefit. However, it’s clear that some of your money is buying life insurance, not LTCI, so this policy is likely to be less useful than traditional LTCI if your goal is to pay for long-term-care expenses.
A hybrid policy is designed to provide the comfort of knowing that some benefit will be paid whether or not you need long-term care, but that comfort is just an illusion if you don’t know the value of the benefits.
Annuity/LTC hybrids use the annuity’s cash value and an additional pool of money to provide long-term-care benefits. If you own an annuity with a large taxable gain, you can turn the taxable gain into tax-free long-term-care benefits by doing a tax-free exchange (“Section 1035 exchange”) from your existing annuity to the hybrid.
The hybrid advantage: People who cannot get traditional LTCI at affordable rates due to poor health may be able to find an affordable hybrid policy.
LTC riders: LTC riders are an add-on to a life insurance policy that you are buying for a known purpose, such as leaving a legacy for your heirs. The long-term-care benefits reduce the policy’s death benefit, subject to a minimum. The rider increases the usefulness of the policy while possibly jeopardizing the policy’s primary purpose.
Medicaid: The eligibility rules are unpalatable—and they could get worse. Most Americans don’t buy any variety of LTCI—if they require long-term care that they can’t pay for out of pocket, they expect the government to pick up the bill. But qualifying for Medicaid long-term-care coverage requires spending down almost all of your assets and living as a virtual ward of the state.
And there’s no guarantee that these rules won’t be even less appealing years from now when you might need nursing home care. Federal government debt skyrocketed during the pandemic, and Medicaid long-term-care coverage could be curtailed if future politicians are looking for ways to trim spending.
On the other hand, some politicians have proposed greatly expanding government coverage of long-term care. So can we count on the government to pay for our long-term care when we need it…or can’t we? Any answer to that question is little more than guesswork—which means any financial planning that depends on government assistance in this area is risky at best.
Possible solution: Many experts have advocated combining LTCI with lifetime income, provided by an annuity, redesigned pensions or Social Security. Example: You get $1,000 each month when you’re healthy and that increases to $2,000, $3,000 or more when you need long-term care. Income annuity/LTC hybrids would provide two benefits that many people need—income they can’t outlive and money for long-term care.