One of the major objections people have to buying long-term care (LTC) insurance is that they feel if they never go into a nursing home, that their money has been wasted. This need not be the case if they have bought a LTC rider on top of their regular life insurance policy OR on their annuity. These hybrid insurance products allow you to benefit no matter whether you ever wind up in a nursing home or not, because the bulk of your premium has still bought you either life insurance protection or your retirement annuity.
There are two families of hybrid LTC products: the LTC rider can be attached to either a Universal Life policy, or to an Annuity. The annuity can be either deferred or immediate. Hybrids may also be called linked benefit products.
Consumers have had the option to add a LTC rider to a Universal Life policy for almost 20 years. Yet so few average Americans are aware of this. Americans did not, however, have the option of a LTC rider on top of their annuity until January 1, 2010, when certain provisions of the Pension Protection Act of 2006 (PPA) kicked in.
THE ANNUITY WITH LTC RIDER
The core product is the annuity, which carries a rider for LTC which kicks in if the policyholder should be so unfortunate as to need nursing home care. The rider benefits are IN ADDITION to the benefits being paid out by the core annuity policy. This way, the policyholder’s retirement assets are protected by this rider; in other words, the rider spares the policyholder and his family from having to liquidate other assets in order to pay the rising expense of decent Long Term Care.
In addition, the taxable gains in the annuity contract will get paid out as tax-free long-term care benefits. But as always, see your own insurance representative to confirm the structure and details of the policies offered by their company.
Whether one holds a fixed or variable annuity, the LTC benefit is a combination of amounts paid from the annuity’s account, PLUS an amount which is paid by the insurance company under the provisions of the LTC contract. But the structure of the payout can vary depending on the insurance carrier, or sometimes on the rules in the state where the policyholder resides.
Under one scenario, the LTC benefits are paid first out of the annuity account until that is exhausted. Then the rider for LTC kicks in, and begins paying the bills for the nursing home or other facility. The funds for the rider payout come entirely from the insurance company. This is called a ‘tail’ design, and so far is the more popular design.
Then there is another design which is called the ‘coinsurance’ design. Benefits from Day One come partly from the annuity and partly from the LTC rider. This is of course trickier to calculate and account for. Typically, 80 percent will come from the annuity and the rest will come from the rider (that is, from the insurance company).
Did you catch the part in all these plans about NOT going to the policyholder or his family to cover any unpaid bills?
There is yet a third option, called the Guaranteed Lifetime Withdrawal Benefit (GLWB). This is very close to the annuity-plus-LTC-rider design described above. The GLWB is only found with a variable annuity. Here, the beneficiary receives his or her annuity from the account value, and if a LTC event occurs, then the rider kicks in and pays out an additional amount.
THE LIFE POLICY WITH LTC RIDER
The primary purpose of the Universal Life insurance policy with the LTC rider is to create a tax-efficient vehicle; the remainder of value in the policy is still paid out to the beneficiaries in a tax-free lump sum. This is obviously a high-value life insurance policy, at a minimum of $100,000. Such policies are most likely to be found among the wealthiest of Americans, if self-funded.
Life insurance policies are highly defined products; just look at the front page to see what the maximum defined benefit is. As always the main advantage of life insurance is that benefits are paid out tax-free. (This is in contrast to the annuity where the amount you first put into it, comes out tax-free; but the payouts that come from accrued value may be taxed.)
The rider on a life insurance policy has the drawback of coming out of that defined-benefit value. In other words, the more money that is paid to the nursing home, etc. out of the policy, means less money will be paid to your survivors. There is also usually a maximum monthly benefit; in other words, if the nursing home is more expensive than your policy provisions allow for, then your spouse or family will have to dip into their funds to make up the difference.
The Life/LTC hybrid policy sometimes offers an optional extension. The extension will continue to pay a monthly benefit for a period of time, often up to four years, after the policy has exhausted its face value. This extension is generally funded by accrued value of the policy, assuming that the company has invested wisely in the stock market, etc.
So while the Universal Life insurance policy with LTC rider has been very popular, it carries some definite drawbacks. These drawbacks should be carefully weighed to see if your estate and family can bear the risk or not. The overwhelming primary advantage is, again, the tax-free nature of the lump-sum payout to named beneficiaries. There are not many vehicles out there for estate planning that give your loved ones a guaranteed amount that is tax-free. Cherish it, while you have this option.
TAX RULES ABOUT POLICY EXCHANGES
By now you may be saying to yourself, whoa, had I but known about these options, I might have discussed something very different for Mom and Dad, or for yourself. How can I go back and give myself (or Mom and Dad) a LTC rider?
The Pension Protection Act has a list of strict rules about exchanging one kind of policy for another. If you have a qualified LTC insurance policy already, it CANNOT be exchanged (tax-free, anyway) for a life insurance policy with or without a LTC rider.
If You Have a Life Insurance Policy WITH a LTC rider, you can exchange it (tax-free) for a Life policy WITHOUT a LTC rider, although I don’t know why you would do that.
If You Have a Life Insurance Policy WITHOUT a LTC rider, you can exchange it for a Life policy WITH a LTC rider.
If You Have a Life Insurance Policy WITH a LTC rider, you can exchange it (tax-free) for an Annuity, with or without a LTC rider. You can even swap it for a traditional LTC insurance policy.
Annuities can still be swapped for another annuity, whether it has a LTC rider or not. You can even swap it for a traditional LTC policy.
What you cannot do is take your annuity or your traditional LTC insurance policy and swap it for a LIFE INSURANCE policy, with or without a LTC rider. Not tax-free, anyway.
HOW MUCH LONG-TERM CARE DOES ANYONE NEED?
The truth, my friends, is that most of us need far less long-term care insurance than they think. People are terrified that Mom or Dad will be in a nursing home for twenty years and that the kids will wind up having to pay for their care when the estate (or other insurance) is exhausted.
The data, however, shows something very different. The data shows that most people are in nursing facilities for three years or less. A large chunk of the nursing home population dies within two years, and by the time the third year is passed, the majority (meaning over half) of residents have died. The reason for that is that Mom or Dad may have been coping as long as they could either in their own homes or in their children’s homes, before their condition deteriorates to the point where constant medical attention is needed. You may wish to buy coverage for five years, just in case, but that is your decision.
The population that is most likely to be in a nursing facility for twenty years or more, is made up of people who were injured very young. This population is made up of young people who suffered car accidents or diving accidents while in their teens or twenties, and will likely never regain full mobility.
That is why I would like to take this moment to ask that if you make any kind of medical research donation ever, please consider making that donation to spinal cord research. We as a society have made great strides in returning the handicapped to a level of productiveness that is truly amazing. However, victims of injuries high up on the spinal cord face daunting challenges to regain any level of independence.
Hamilton, Michael and Herr, Dan, Combination LTC products, Life Insurance Selling, October 2010.
Statistics on Nursing Homes and Their Residents (see heading Average Length of Stay), www.therubins.com, Nov. 22, 2009, http://www.therubins.com/homes/stathome.htm