Long-term Care - Part 2: Insurance

As noted in the first post in this series, the financial risk of long-term care (LTC) can be very substantial. In 2017, 65% of those who needed formal LTC were expected to spend over $50,000 for it in their lifetime, 20% were expected to spend over $250,000, and 7% were expected to spend over $500,000. And these amounts have grown significantly since 2017 as well.

Many believe that Medicare or a medical insurance policy will pay for LTC, but these only pay for certain services and only then for a fairly brief period of time (e.g., 100 days of care in a nursing home). Medicaid covers most LTC expenses in the U.S. at present, but your income and assets must be low enough to qualify; in most states, a married couple cannot have more than $2,000 of countable assets for either spouse to qualify for Medicaid. (More details regarding the potential use of Medicaid in funding LTC will be provided in a future post.)

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Given the wide range of amounts that can be spent on LTC, it would seem that

LTC insurance would be an appropriate means of reducing the risk of catastrophic financial costs. However, LTC insurance has, by and large, been extremely problematic on multiple fronts, to put it mildly. There are some reasonable options for LTC insurance available today, but they are far from a panacea for funding LTC expenses.

Since Medicaid provides a backstop to LTC expenses in most situations, the purpose of LTC insurance is not to ensure that the policyholder will be able to get LTC but to reduce the likelihood of the policyholder having to exhaust his or her assets to pay for LTC. There are LTC facilities that will not accept Medicaid, but many do, and many others will accept residents who can self-pay for their care for the first couple of years or so. Therefore, in accordance with the proper use of insurance, those who can afford to pay for LTC expenses from their own assets, referred to as self-insuring, should generally not buy LTC insurance.

Below is a brief description of the history of LTC insurance, which helps to understand the insurance policies and options available today, followed by a discussion of the various types of LTC insurance and one 'insurance-like' option currently available, along with the pros and cons of LTC insurance.

History of Long-term Care Insurance

As older Americans' lifespans began increasing in the years after World War II, an increasingly large number of the elderly needed LTC, which gave rise to nursing homes as we know them today. From their outset, nursing homes were expensive, though they were used by very few people, so LTC insurance arose and became increasingly popular through the early 2000s.

But as time progressed, it became clear to insurance companies that they had grossly underestimated both the number of people who would have claims on their LTC policies and the size of those claims. Consequently, the insurance companies began dramatically increasing the premiums on LTC policies, including policies that had been in force for decades. Premium hikes of 40% or larger were not uncommon and often occurred repeatedly. This led to a flurry of states enacting new regulations from 2001 to 2012 that imposed stringent requirements on premium increases on new LTC policies. 41 states now have these regulations in place, which has greatly reduced the number and size of premium increases on policies sold since those regulations were enacted. Policies purchased before a state enacted a rate stabilization requirement or in one of the states that do not have such requirements can still increase substantially.

All this was too much for most insurance companies that were selling LTC policies 20 years ago, and the number of insurers offering them has fallen from over 100 to approximately a dozen in 2020. And the number of new LTC policies issued has plummeted. In the year 2002, 754,000 new policies were issued, but this declined to only 49,000 in 2020, a 93% drop, despite the number of Americans age 65 or older having increased from 35.5 million to 56.1 million over the same period.

The tremendous decline in the popularity of LTC insurance is understandable. Premiums for these policies have increased significantly, largely due to the financial risk being much higher than insurers once thought it to be. More than 80% of those who don't have LTC insurance cite its high cost as the primary reason why they don't have a policy, though some believe that they just don't need it (which is likely true for many consumers) or that they are too young to buy it, even among those who are over age 50. And some are concerned that their LTC insurer will go bankrupt, deny their claims, and/or raise their premiums, which is understandable given the history of the industry.

Types of Insurance

Traditional LTC insurance

Traditional LTC insurance is the oldest type of LTC insurance and the simplest to understand. Its benefit is capped at both a daily or monthly maximum amount for LTC expenses for a maximum period of time or money. Policies may reimburse holders for LTC expenses up to the daily maximum benefit or pay a cash benefit directly to holders. The maximum benefit may increase over time, though such an option increases the premiums.

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These policies have no cash value, and their monthly or annual premiums can increase over time, subject to any rate stabilization regulations that may exist in your state. While these policies do not have a deductible, they only begin paying for LTC after it has been needed for a defined period of time known as an elimination period. The most common elimination period by far is 90 days, though longer elimination periods reduce the cost of the policy.

For instance, a policy might pay a maximum of $300 per day for a maximum of 3 years (i.e., total benefit of $300 x 365 x 3 = $328,500). If this benefit was increased by 3% compounded annually and the elimination period was 90 days, the current cost for a reasonably healthy 60 year old man would be about $400 per month.

There are many riders (i.e., options) that may be added to a traditional LTC policy. These include differing benefits depending on where the care is received, a waiver of premiums once you begin collecting a benefit, and others.

Importantly, those seeking to buy traditional LTC insurance must meet the health requirements of the insurance company, and poor health will almost certainly prevent one from buying a policy.

Hybrid LTC insurance

Hybrid LTC insurance, or linked-benefit insurance, is a combination of both LTC insurance and either life insurance or an annuity. These policies pay for LTC expenses and, if the LTC benefit is not exhausted, also a death benefit. They can offer much higher benefits than are possible with most traditional LTC insurance policies. Their premiums are typically paid with a single lump sum, and the health requirement for applicants is generally less stringent than that of traditional LTC insurance.

One of the purported advantages of hybrid LTC insurance is that, unlike traditional LTC insurance, it is not 'use it or lose it'. These policies pay for LTC costs if they are incurred and, if the LTC benefit isn't exhausted, a tax-free death benefit to the beneficiaries, typically the surviving spouse or heirs.

However, this 'feature' is also a 'bug' because the person being insured loses out on most or all of the growth that they could have earned on the premium(s) paid for the policy. In other words, the opportunity cost of a hybrid policy can be very significant. For instance, the annual premium of one such policy for a 55 year old man would be $6,100, the death benefit at age 100 would be $274,405, and the maximum LTC benefit at age 85 would be $753,627; note that this benefit would be just over half that size in earlier years. If that same $6,100 was invested annually at a 5% rate of return, it would grow to $405,011 by age 85 (and $973,532 by age 100). The maximum LTC benefit of the policy would substantially exceed what policyholders could secure on their own in this example, but as shown in the first post in this series, lifetime LTC expenses exceeded $400,000 only 15% of the time. Therefore, in the other 85% of instances, investors would have been better off investing their premiums rather than buying such a policy. Some might point out that this is true of virtually all insurance policies, but the difference between the maximum LTC benefit of such a policy and what could be achieved from investing the premiums is much smaller than is the case with most insurance.

That's not to say that hybrid LTC policies are universally a poor option. As noted by renowned financial advisor Michael Kitces, they can be appropriate for those with (1) poor health who cannot qualify for traditional LTC insurance, (2) low risk tolerance who already allocate a large proportion of their assets to bonds that they are unlikely to ever need to sell, or (3) an annuity that has gained significant value and can be used to buy a hybrid LTC policy.

Continuing Care Retirement Community contracts

A Continuing Care Retirement Community (CCRC) is an organization where seniors can 'age in place' and receive care appropriate to their changing needs. As noted by the AARP, "...a resident can start out living independently in an apartment and later transition to assisted living to get more help with daily activities, or to skilled nursing to receive more medical care, while remaining in the same community."

Many CCRCs offer contracts for lifetime care for their residents. In return for a sizable sum, usually hundreds of thousands of dollars, the CCRC will provide extensive care to the resident for the remainder of his or her life for little or no additional ongoing fees. However, those considering buying such a contract must carefully examine the financial stability, as well as other aspects, of the CCRC before handing them over a very large sum of money. And a lifetime care contract is not insurance, so if the CCRC goes bankrupt, those with such contracts may not get back any of their money. Lifetime care contracts at CCRCs are included here because they may serve as a replacement for LTC insurance.

Pros of LTC Insurance

More certain LTC expenses

As noted in the first post in this series on funding LTC, the range of potential LTC expenses is exceedingly high, spanning zero to over $1 million. LTC insurance reduces this range by making the amount spent for LTC more definite, and policies with larger maximum benefits do this better than those with smaller maximums.

Reduces the need to sell one's own assets at a bad time

It's quite possible that you might need expensive LTC during a time when your own assets, such as your investments, are not performing well. Being forced to sell a significant chunk of these assets during such a time to pay for LTC can be very costly, especially over the long-term. For instance, U.S. stocks fell in value by 50% from 2007-2009 but more than quintupled in inflation-adjusted value from 2009-2021, so funds spent on LTC around 2008-2009 would have missed out on tremendous growth.

May eliminate the need for care from family and/or friends

In 2015, between 6 and 7 million Americans provided help to someone over age 65. Family members and/or friends helping one another is not a bad thing, but purposefully putting someone else in a position where they feel forced to care for you should be problematic, to say the least, for Christians. In many cases, family and friends are providing the care to keep the ailing person from becoming financially destitute. But even those who have enough assets to cover almost any LTC expense sometimes feel compelled to rely on family and/or friends to provide their needed care out of fear that paying for formal LTC may drain their assets. This feeling may not be morally or logically justifiable, but many fears aren't.

Cons of LTC Insurance

Must meet health requirements to purchase

Almost all LTC insurance requires some degree of health screening. Relatively poor health prevents many from buying LTC insurance even at comparatively young ages. More than 20% of applicants for traditional LTC insurance in their 50s were denied coverage in 2021, and this was true of more than 30% among those aged 60-64 and more than 38% among those aged 65-69. Nearly half of those aged 70-74 who applied for a traditional LTC policy were denied.

Part of the trouble with this is that, as noted in the first post in this series, very few people need formal LTC prior to age 70, and over 60% of those who do need it are aged 80 or older. This means that if one obtains a LTC policy at age 55, for instance, it will be at least 15 years and very possibly 30 years or longer before one is likely to have any claim for LTC expenses. In other words, one must buy a policy long before there is a plausible need for it.

Premiums can be very high and/or benefits might be inadequate

Because both the likelihood of needing LTC at some point is high and the cost of LTC is also high, the premiums for LTC policies are high as well. For instance, the combined annual cost of traditional LTC policies for a reasonably healthy married couple aged 50 with a $3,000 monthly benefit that increases at a 3% compounded rate annually, 3 years of coverage, and a 90 day elimination period is about $2,200. That doesn't sound too bad, but remember that the median cost of an assisted living facility in 2021 was $4,500 per month and nearly $8,000 per month for a nursing home. Even with such a policy in place, such a couple could still be forced to pay tens of thousands of dollars every year for LTC expenses out of their pocket. And after 3 years, the benefits of the policy would be exhausted. Recall that women need LTC for an average of 3.7 years, meaning that such a policy wouldn't provide benefits long enough for even a typical woman. But 3 years is the most common benefit period of traditional LTC policies. About 69% of LTC insurance policies have a maximum benefit period of 4 years or fewer, and 81% have a maximum daily benefit under $200.

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Policies with larger daily maximums and longer benefit periods are available, but their premiums are much larger. LTC insurance policies with unlimited benefits were once relatively common, but only two underwriters still offer such policies, and they are much more costly than policies with limited benefits.

Another option is to buy a policy that is qualified for the joint federal-state Long-term Care Partnership Policy. This program helps to protect policyholders' assets from having to be depleted before the policyholder can qualify for Medicaid, the single largest payor of LTC expenses in the U.S. Normally, to qualify for Medicaid benefits, one must have no more than $2,000 of assets, and giving away one's assets to children, for instance, is not generally practical since there is nearly always a 5 year 'lookback period' where states investigate whether such transactions occurred in the years prior to the application for LTC benefits. If assets were gifted to someone during that time, there will be a penalty period during which time the applicant is not eligible for benefits.

However, those with a Partnership-qualified LTC insurance policy can protect an amount of their assets equal to what their policy pays until its benefits are exhausted. The benefits paid for by their policy will be excluded from the $2,000 limit for the purposes of qualifying for Medicaid. For instance, if someone bought such a policy that paid out $200,000 of benefits, that same amount would be protected from Medicaid's asset limit.

Premiums can increase significantly

While insurance companies now have a much better understanding of the financial risks of LTC, and the rate stabilization regulations that are now in place in 41 states have largely been successful, it's still possible for the premiums of traditional LTC policies to increase over time. Note that premiums for hybrid LTC policies do not increase over time.

Comparatively little insurance leverage

The ratio of insurance benefits to the size of the premium(s) is referred to as leverage. A 25 year old female can get a 30 year level premium term life insurance policy with $1 million of coverage for about $38 per month. That's incredible leverage. If such a woman died just before the 30th year ended, she would have paid $13,680 in premiums, but her beneficiaries would receive more than 73 times that much!

Compare this to the above example of a 50 year old couple buying two traditional LTC policies, each with an initial maximum benefit of $108,000 that increased at 3% compounded annually. If they paid for these premiums for 30 years, they would have paid about $66,000 in premiums, and their maximum benefit would have increased to $262,144. That's leverage of under 4 to 1, far less than in the term life insurance example above.

This problem is not the fault of insurance companies. Rather, it is because both the likelihood of needing LTC and its costs are high. In such situations, insurance of any sort is less helpful, and, as noted by Michael Kitces, "traditional long-term care insurance truly may be little more than prepaying long-term care expenses, and not really functioning as effective insurance at all."

However, the leverage of LTC insurance may be improved somewhat by lengthening the elimination period, though many states do not allow insurers to offer traditional LTC policies with elimination periods longer than a year. Elimination periods longer than a year are possible with some hybrid LTC policies.

Likely unable to change policies later

As noted above, it becomes increasingly difficult to meet the health requirements of LTC insurers as one ages. This means that if you buy a policy, you become increasingly 'locked into' keeping that policy if you want continued LTC coverage.

Meeting eligibility requirements

Virtually all LTC policies require that policyholders to be unable to perform 2 of the 6 'activities of daily living' (ADLs) or to have a 'severe cognitive impairment' to make a claim. While not common, it's certainly possible for someone to be unable to perform one of the ADLS and need LTC but not be able to make a claim.

Problems with making a claim

Similar to any other insurance, policyholders can have difficulties with making a claim on their LTC insurance. I've heard of multiple instances where family members of policyholders had to hire an attorney at their own expense to 'persuade' an insurance company to pay for a clearly legitimate LTC claim and only then after months of fighting.

Final Thoughts

Since LTC has both a high likelihood of being needed and its cost are high, insurance to cover it is also relatively expensive and provides much less leverage than do many other types of insurance. Such insurance helps to reduce the range of possible LTC expenses. Traditional LTC insurance provides the 'purest' form of coverage, but the limits on benefits are often too low to cover the costs that many will incur. Hybrid policies can be useful but are usually only appropriate for a narrow group of people. With both traditional and hybrid LTC policies, unlimited benefits are available but are much more costly. Lifetime care contracts at CCRCs can replace the need for LTC insurance but are very expensive.

In the third and final post in this series on LTC, considerations will be discussed for how to fund LTC, including the interplay between LTC insurance, self-insuring, Medicaid compliant annuities, irrevocable trusts, tax-deferred assets, and others.