Knowing how long you may live is an important variable to consider in putting together a successful retirement plan. Many online sites can give you a scientific estimate of your life expectancy; one that I recommend is livingto100.com. When I retook the evaluation recently, I was surprised that my life expectancy had increased from 93 to 98. In an instant I related to one of the greatest fears of older Americans: outliving your sources of income.
The greatest financial risk for depleting retirement resources is an unexpected and lengthy stay in a long-term health care facility, like a nursing home or an assisted living center. Not surprisingly then, “What do you think about long term care insurance (LTCI)?” is one of the questions I often hear.
LTCI is a difficult product to analyze and recommend. It has existed in some form for 40 years, but the industry seems to exist in a continual state of disarray. Low interest rates, low lapse rates, and rising longevity have driven premiums high enough that sales of the insurance have declined 70% from their high in 2002.
Exacerbating the problem is that most LTCI companies issued policies with “guaranteed” premiums. According to a report by Michael Kitces at kitces.com, just a small variation in actuarial assumptions can have a significant impact on premiums. He says “it’s estimated that as little as a 1% change in interest rates correlates to a 15% required change in premiums to keep an LTC insurance policy actuarially sound. Having a 1% lapse rate instead of a 5% lapse rate can increase future claims for an insurer by as much as 50%.”
As a result, Kitces notes, LTCI providers have struggled to be profitable. In some cases, companies were unable to honor their original prices and had to request permission from state insurance departments to increase premiums on existing policies by as much as 85%. Premiums for new policies have gone even higher.
Simply stated, a guaranteed premium LTC policy needs to be priced high enough to provide a cushion against these variables or the company may be unable to regain profitability with rate increases later.
One way of addressing this challenge is to eliminate any aspect of a “guaranteed” premium and make long-term care insurance premiums more flexible. One flexible premium policy envisions paying dividends similar to a participating life insurance policy issued by a mutual insurance company. Kitces notes, “To the extent that future claims (or the insurance company’s investment returns) turn out to be better than the original (conservative) projections, the ‘excess’ results will be returned to the policy owner in the form of either an “Insurance Credit” or an “Interest Credit”, to help reduce future premiums.” One such policy is currently priced 20 to 30% under traditionally priced policies with “guaranteed” premiums.
Naturally, there is no guarantee a flexible premium policy will end up costing less than the traditional polity with a guaranteed premium. Probably the biggest concern is the conflict of interest a shareholder-owned company will face in deliberately refunding any savings in the form of dividends to the policy holders. This conflict does not exist with a mutual insurance company, where the owners of the company are the policy holders.
Still, the potential benefits look interesting enough that taking a hard look at a flexible premium LTCI policy makes sense. Long-term health care is one of the aspects of aging that most of us don’t want to think about but many of us will need. While LTCI is not for everyone, considering it is a worthwhile part of financial planning for retirement.