Long Term Care Insurance in Transition

I tried to get this oped piece published a couple of months ago.   There was some interest but at the end the editors passed.  Here are more of my thoughts on current issues on long term care insurance.  Interested readers should consider my longer paper, which is on both Kindle and Nook.

Long Term Care Insurance in Transition

Americans are living longer and the large baby boom cohort is beginning to prepare for the likelihood that they will need substantial assistance in their last years of life.  Many financial planners believe that long term care insurance should be part of a standard retirement package.  It has become increasingly evident that individuals cannot plan on the government covering all costs of end-of-life long term care.  Under these circumstances, one would expect a robust demand for private long term care insurance.  Instead, this is a challenging time for the industry.

Interest rates and returns on investment are low.  Long term insurance contracts are difficult to price correctly and premium increases only a few years after the issuance of a policy are now commonplace.   The usage of derivatives to hedge risks has led to more stringent capital requirements.   Many of the more prestigious firms, MetLife, Prudential, and Unum, are exiting the industry or curtailing their presence.

Long term care insurance firms are allowed to increase premiums on existing policies if they can show that the total of premiums and investment returns will not cover benefit.  Historically, the actual cost of long term care insurance almost always exceeds the cost anticipated when the policy was purchased.    The frequency of premium increases may diminish once interest rates rise and the investment environment improves.  In the meantime, premium increases are occurring at a time when many retirees can least afford them.

Insurance firms now allow policyholders to accept reduced benefits instead of a higher benefit.   A reduction in benefits is almost always preferable to allowing the policy to lapse.  However, benefit reductions generally cover policy features, like inflation protection, that were described as essential when the policy was purchased.  Ex-post changes in benefits entail an economic loss.  Chronic requests for premium increases or benefit reductions erode credibility.   It is essential for the industry to fix the pricing errors that have led to chronic increases in premiums after the policy is originated.  This might be accomplished by tying benefits to rates of return in the market.

Long term care insurance is not suitable for everyone.   Individuals without substantial liquidity or individuals who are not preparing adequately for retirement should increase their savings rate rather than purchase long term care insurance.  Individuals entering retirement with a positive mortgage balance should probably pay down their mortgage rather than take on an additional financial obligation.

The cost of long term care insurance to consumers entails both premium payments and the foregone investment income.  Consumers need to consider the impact of all costs on the amount of wealth and income they will have throughout their retirement.  Consumers who purchase long term care insurance in their working years need to consider their ability to sustain payments if they become unemployed or when their income falls in retirement.  The consumer needs to budget for the likelihood of future premium increases.

Long term care insurance policies vary in price depending on the features of the policy.   A long term care insurance contact with lifetime benefits and inflation protection is too expensive even for many well-heeled households.   Around 7% of men and around 15% of women who are admitted to a nursing home will stay there for more than 5 years.   Many conservatives maintain that the reason for the low level of interest in long term care insurance is the existence of Medicaid.  Ironically, even for most purchasers of LTCI, the only viable protection against a long stay in a nursing home is Medicaid.

Medicaid has many flaws. Medicaid does not assure access to a quality nursing home.  The availability of Medicaid coverage for home-based care varies across states.  Increasingly, Medicaid does not cover the entire cost of care. In order to obtain access to the Medicaid long term care benefit a person must spend down assets.  There is something fundamentally wrong with a system that provides an incentive for individuals to impoverish themselves in order to qualify for a benefit.  However, private long term care insurance is not a viable alternative for most households.  Most European countries and Japan have chosen public funding over private options for long term care services.  Even fiscally conservative Germany has adopted a mandatory long term care financing program paid for equally by employers and employees.

Some policymakers believe the private long term care insurance market can be stimulated with additional tax incentives. Tax incentives for the purchase of long term care insurance would primarily benefit the wealthy and scarce tax subsidies would provide greater benefit to society if they were allocated to individuals with lower savings rates.  A less expensive way to subsidize the purchase of private long term care insurance is through expansion of the long term partnership program.  A partnership long term care insurance program allows individuals who have exhausted their insurance benefits to keep assets equal to the benefits they received and still qualify for Medicaid.  It is difficult to understand why a person would, all else equal, purchase a long term care insurance policy that did not provide asset protection over one that did.

While there is no chance that private insurance will replace Medicaid as the primary source of funding for long term services it is possible that long term care insurance and other private sources of funding can play a larger role in the future.  The industry has to recognize that for the overwhelming majority of their potential customers a comprehensive lifetime long term care insurance policy is not an affordable option and that a strong Medicaid is in the industry’s best interest.

David Bernstein recently retired as an economist at the U.S. Treasury after 25 years of service.  His book “Things to Consider before Purchasing Long Term Care Insurance” can be purchased or borrowed on Kindle or Nook.

Kindle Link:

http://www.amazon.com/consider-purchasing-insurance-Economic-ebook/dp/B008N5QO8G

Nook link:

http://www.barnesandnoble.com/w/things-to-consider-before-purchasing-long-term-care-insurance-david-bernstein/1113578815?ean=2940015509168

Is long term care insurance a viable product?


Many financial planners maintain that long term care insurance (LTCI) is an essential purchase.  Many policy makers and politicians believe that the Medicaid long term care benefit needs to be reduced and that private long term care insurance is a viable substitute for Medicaid.  Let’s agree that the political issue of how to reform Medicaid is separate from the personal decision on how you should prepare for retirement.  In my view, private LTCI is not a suitable investment for most individuals preparing for retirement.  Furthermore, private LTCI may not be a viable product.

Many households have insufficient levels of liquid asset and insufficient savings in their retirement accounts.  Studies conducted before the financial crisis indicated that only around one half of the baby generation were adequately preparing for retirement.  These households need to focus on increasing their saving rate rather than divert savings towards an illiquid asset.

Comprehensive multi-year LTCI insurance with inflation protection is extremely expensive.   Ironically, even most LTCI purchasers have only a few years of coverage and must rely on Medicaid for long stays in the nursing home.

LTCI almost always costs more than anticipated at the time the policy is purchased.    Insurance firms cannot raise premiums on a policy simply because a person claims benefits.  However, an insurance company can raise premiums on an entire class of policies if actuaries determine that the sum of premiums and investment income will not cover benefits.    Premium increases, even among the strongest and most conservative firms, are now commonplace only a few years after a policy is issued.

Premium increases are in part attributable to poor investment returns and low interest rates.    Perhaps premium increases will be less prevalent in the future.  However, current premium increases are occurring when individuals can least afford them, when their own portfolios are down in value.

Many of the better-run insurance companies are currently leaving the industry altogether.   (MetLife left the industry and I believe Prudential stopped selling on the individual market.)    This is what Fitch had to say about LTCI in a recent report.

“In addition to higher than expected claims, historically low interest rates have negatively affected LTC results.  We believe the long-tail nature of the product and future renewal premiums make the LTC business more vulnerable to interest-rate risk.  Low rates continue to curb investment income needed to help fund LTC benefits.

We believe mispricing of the LTC product will continue to weigh on the insurers’ earnings and capital, but we note the current in-force individual LTC business accounts for less than 2% of industry reserves and premiums.”

There is one LTCI product that intrigues me.  Many states participate in the LTCI partnership program.  Individual who purchase a partnership policy can keep assets equal to their amount of coverage and still qualify for Medicaid.

It is highly likely that if you live long enough you will need long term care.  You need to prepare.  However, for most of us the purchase of LTCI is not the appropriate option.  More on my views on LTCI can be downloaded on Kindle.  The article can be purchased for $4.99 or borrowed for free.

http://www.amazon.com/Things-consider-purchasing-insurance-ebook/dp/B008N5QO8G/ref=sr_1_1?s=books&ie=UTF8&qid=1342917035&sr=1-1&keywords=thing+to+consider+before+purchasing