Let me say upfront: my goal is NOT to get you to buy long-term care insurance. Long-term care insurance has been pitched by insurance agents for over 40 years without much success. Approximately 11% of Americans over age 65 have purchased it according to the latest Urban Institute study. If you have purchased it then I congratulate you as being way ahead of the planning curve and transferring this risk from your retirement savings to an insurance company.
I do understand why most people avoid this topic, and the reasons make sense:
“It’s not affordable”
“I could pay premiums all those years and never need it”
“I won’t need it” (although I know many others will)
The list goes on, and I get it. However, even if you don’t like the way long-term insurance works, every retirement plan really should have a plan to cover long-term care expenses. I don’t want to re-hash the litany of statistical reasons and arguments here (especially in light of other risks in our lives we routinely insure without giving much thought), but we all know this: it’s extremely expensive care and it is a huge uncovered gap for most families. According to the 15th annual Genworth Cost of Care Study, the median cost in California of long-term care for a single person annually is:
Home Care: $59,484 per year.
Assisted Living: 54,000 per year.
Nursing Home (private room): $117,804 per year.
I am still amazed by how many people think Medicare covers these costs. Unfortunately, many people find out too late this is not true, and it is one of the biggest spending shocks there is in retirement.
For those who have decided not to purchase long-term care insurance, I want to highlight some of the latest, innovative “cutting edge” other strategies to consider getting some plan in place to address these ever-rising costs:
In some cases a person has a significant amount of money invested and saved, and they have just decided they can afford to self-insure and pay for any long-term care costs themselves. Often, advisors will recommend wealthy individuals, or couples go this route instead of paying an insurance company to bear the risk. Too often this is due to a negative opinion of traditional long-term care insurance, and doesn’t take into account some of the recent changes to use leverage to address this gaping hole in most retirement planning.
Reverse Mortgage Credit Line
To paraphrase the old Buick ad, today’s reverse mortgages are not the one’s your father told you about. Wade Pfau, Ph.D., CFA, Professor of Financial an Retirement Planning at The American College of Financial Services put it this way in his recent, extensively detailed book on the subject, “How to use Reverse Mortgages to Secure Your Retirement”: “In the past, any discussion of reverse mortgages as a retirement income tool typically focused on real or perceived negatives related to traditionally high costs and potentially inappropriate uses of these funds. These conversations often include misguided ideas about the homeowner losing the title to their home and hyperbole about the “American Dream” becoming the “American Nightmare.” Reverse mortgages are portrayed as a desperate last resort. However, developments of the past decade have made reverse mortgages harder to dismiss outright.”
I agree that many still let old bad press around the irresponsible use of this tool color their thinking. If used wisely, this is nothing more than a financial tool that will be a huge benefit to many retirees or unnecessary or unavailable for others. A prime example is a financially savvy advisor friend of mine who recently retired and told me he used a new reverse mortgage rather than a traditional mortgage when he and his wife recently downsized and bought their retirement home. He simply put half down, took out a reverse mortgage for the balance, and can look forward to no more house payments for the rest of their lives, keeping half of the money he would have used to pay off the house liquid and available to them.
If you have your home paid off already, or if you have few financial assets and most of your net worth tied up in your home, this could be a responsible option for you to create liquidity for an otherwise illiquid asset (the value of your home).
For those not familiar with reverse mortgages, liquidity is created by allowing homeowners (62 or older) to borrow against the value of the home and allowing the flexibility to defer any repayment until the homeowners leave the home permanently.
As for long-term care planning, the use of the line of credit feature is worth considering if you have your home paid off and do not have any plan to help cover long-term care expenses. Simply put, by opening a reverse mortgage line of credit, it grows at a variable interest rate as an available asset to cover any contingencies that may occur later in retirement. You decide when and if you take distributions from the line of credit without any concern about how you will pay for it, because no payment is necessary. If you never need it, you never reduce your line of credit.
If the amount of the line of credit is not enough to give you peace of mind, you could also use the credit line to leverage a much higher amount of long-term care insurance or one of the newer hybrid long-term care approaches we’ll discuss next. If I’ve piqued your interest for your situation, a good start to educate yourself on all aspects of reverse mortgages would be Dr. Wade Pfau’s book on the subject.
“Hybrid” Asset-Based Long-Term Care Policies
When you combine the benefits of life insurance with long-term care benefits you get a “hybrid asset-based long-term care policy”. This type of policy is put in place by paying a one-time lump sum or paying over several years. You then have both life insurance and long-term care benefits for the rest of your life from the day the policy is in place. If it turns out you never need any type of long-term care, the policy works much like a traditional life insurance policy, and a death benefit is paid to a beneficiary when the insured person passes away. The death benefit protects those who end up not needing any long-term care, while providing the policy owner with the knowledge that any money put towards long term care coverage will not be wasted since the death benefit will stay in the family.
But a hybrid policy really shines if long-term care is ever needed, providing a living benefit to cover long-term care that is usually several times more than the death benefit. Some companies even allow couples to be covered on the same policy with one initial payment. Let’s take an example from a recent quote I ran for a husband and wife, both 65 years old. The total initial premium of $100,000 covered both of them with a death benefit of $169,429, and a long-term care benefit for each of them if needed of $4583 per month for as long as either of them needed care. The nice thing about hybrid policies also is they are contractually guaranteed because they fall under life insurance guidelines. This means the life insurance company cannot change the benefits or raise premiums in the future because they are contractually guaranteed. Also, if this couple changed their minds for any reason in the future, the policy also provides for a full return of premium at any time for any reason. Of course, if they ask the company to return their money, they lose the benefits for life insurance and long-term care.
Don’t Forget About Using Your IRA and Retirement Accounts For LTC Planning
One scenario I see quite often is one spouse who has a significantly higher balance in a retirement account such as an IRA or 401(k). One other advantage of this strategy of combining both spouses on one policy is the ability of one spouse to take a portion of a retirement account and complete a rollover to be positioned in a hybrid asset-based long-term care policy that will cover both spouses. This can be a powerful planning tool but requires specialization and care, and knowledge due to the nature and taxation of retirement accounts. In other words, when it comes to these hybrid asset-based strategies, don’t try this one at home unless you have an experienced advisor in this area guiding you.
Finally, life insurance and financial companies are getting more and more creative with new riders on policies to cover long-term care. There are several income annuities that double if long-term care is needed, and even long-term care riders on term or permanent life insurance that accelerate the death benefit if you need home care or assisted living in the future. The point is, many clients now in their 60’s and 70’s have experienced firsthand the costly nature of long-term care dealing with their own parents or families. For years, many narrowed their planning choices to either traditional long-term care insurance or “throwing the dice” and self-insuring with their life savings. Self-insuring, even for those “well off”, may not be the best strategy anymore. The evolution of these asset-based hybrid strategies gives us so many more choices today!