Asset Based Long Term Care Using Life Insurance or Annuities [Pros and Cons]

Asset Based Long Term Care Insurance is an innovative insurance strategy that provides coverage for long-term care expenses without running the risk of “wasting” premiums if you don’t need long-term care. It’s “asset-based” because you’re leveraging the value of an existing asset – generally a cash value insurance policy or annuity – as a means of paying for necessary care.

Hybrid Long Term Care Insurance

Pairing Long Term Care Insurance with Life Insurance and Annuities

Table of Contents

• Key Takeaways
• The Problem
• Traditional Long-Term Care Insurance
• How do Asset Based Long Term Care Plans Work?
• Best Asset Based Long Term Care Companies
• Asset Based Long Term Care Policy Options
• Reimbursement vs. Cash Indemnity
• Asset Based Long Term Care with Whole Life Insurance
• Asset Based Long Term Care with an Annuity
• Asset Based Life Insurance Pros and Cons
• Asset Based Long Term Care FAQs
• Conclusion

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The Problem

Long term care services are expensive. Whether it’s a nursing home or other assisted-living facility, or home-based services, the extended duration and continuous care result in quickly mounting costs.

Private nursing homes average around $80,000 per year, and even home-based care comes in at around $40,000. Source . Long term care costs can rapidly deplete a retiree’s entire savings, leaving Medicaid as the only option and no wealth to pass on to loved ones. So, preparing for the potentially enormous expense is a priority in many retirement plans.

Traditional Long-Term Care Insurance

Historically, the best way to prepare for the potential future costs of long-term care was through long-term care insurance (“LTCI”). Long Term Care Insurance is a fairly straight-forward insurance policy under which the policyholder makes regular premium payments to the insurer and, in exchange, the insurer pays for some or all costs of long-term care if the policyholder ever ends up needing it.

By covering what can end up being hundreds of thousands of dollars in bills, LTC insurance prevents an insured’s nest egg from being wiped out – whether directly through provider payments or through an asset “spend-down” to qualify for Medicaid assistance. Long term care insurance has been a saving grace for many people, and many still have the coverage, often through their employers.

25%

According to Forbes, 25% of employed Baby Boomers had LTCI policies as of 2014. (2) But that number has been steadily decreasing for a couple reasons.

First, many long term care insurance companies are phasing out LTCI and are no longer issuing new policies.

Second, due to the high-costs of long-term care and ever-increasing longevity, Long term care insurance premiums are quite high, particularly for policyholders who don’t obtain coverage until later in life. Due to the high premiums, more and more consumers – even those who recognize the need to prepare for long-term care costs – have decided against LTCI.

Utility of LTC insurance

It’s not that LTC insurance isn’t useful.  If you end up needing nursing-home care, LTCI can be one of the best financial decisions you ever made. The problem is that the prospect of paying high premiums for a policy that might never pay out is unappealing to many people. Not everyone ultimately needs long-term care, and so not every LTC insurance policy proves its value.  But enough do that the premiums have to be fairly high.

In the face of this dilemma, insurers have introduced an alternative, asset-based approach to protecting against future long-term care costs. Over the last few years, asset-based long-term care has rapidly grown in popularity, surpassing traditional LTCI among new purchasers.

LTC insurance coverage and Death Benefit

If an asset based LTC plan is triggered, funds from the cash value life insurance policy or annuity are applied toward long-term care expenses.  Any value that’s left over gets paid out to heirs as a death benefit.

As with just about any insurance product, there are coverage caps, but the caps are usually significantly higher than the present cash value of the asset at the time the policy is issued.

So, you have a lot more money for long-term care expenses than if you just surrendered an existing whole life policy and earmarked the cash for nursing home costs.

Because the asset used for the plan retains its independent value, asset based long term care insurance plans are sometimes referred to as “combination plans” or “linked-benefit plans,” depending on the specific insurer and product.

How do Asset Based Long Term Care Plans Work?

Assert based long term care insurance plans function similarly to regular cash value life insurance policies or annuities, but with the added benefit of long-term care coverage. After applying for the coverage and going through underwriting, you make premium payments to the insurer.

In many cases, the premium is paid via a single, up-front, lump-sum payment. Single premium life insurance is a great chassis for asset based long term care insurance.

The beauty of asset based long term care insurance is that, if you don’t need long-term care, the annuity or cash value life insurance policy retains its value and pays out to your designated beneficiary.  And many people who might not qualify for traditional LTCI due to preexisting conditions may still be able to obtain coverage.

1035

The funds to pay for the policy can come from liquidating other investments or through a tax-free 1035 exchange that converts an existing life insurance policy or annuity into an asset based long term care insurance policy.

An an example, a 70-year-old with a permanent life insurance policy that has a $300,000 death benefit, a cash surrender value of $185,000, and a cost basis of $130,000. If this person were to surrender the policy, they would face $55,000 in taxable income as a reportable gain. They could opt for non-taxable withdrawals up to the cost basis or take loans against the policy. However, if the policy is eventually surrendered or lapses, any gains would then become taxable. By using a 1035 exchange to switch this policy for an asset based life insurance long term care policy, the individual eliminates the tax risk associated with the policy lapsing after withdrawals for LTC expenses. If the individual can’t meet medical underwriting criteria anymore, they could still use a 1035 exchange to convert their life insurance policy into an annuity-based LTC policy, which would allow for tax-advantaged distributions.

Limited Pay

Single premium life insurance policies are available. In addition, Insurers offer limited pay whole life insurance coverage with premium payments extended over a defined period, usually five to ten years, though a larger down payment may be required upfront.

IRA or 401K

For recent retirees, a popular approach is to fund an asset based long term care insurance policy using cash from an IRA or 401k.  Because money from the retirement account is pre-tax, the transfer to pay the premium is a taxable event.  However, the withdrawals can be organized over several years to mitigate income tax liability.

Fixed Premium

If more than a single premium is involved, future premium payment amounts are almost always guaranteed to stay the same for the life of the plan. Likewise, the long-term care benefits are usually guaranteed for life.

And, as with a regular whole life insurance policy, the cash value earns guaranteed growth and potential dividends. So, if the long-term care benefits are never tapped, the money is not just sitting there doing nothing – it’s earning interest that your beneficiary receives on the back end in the form of a death benefit.

Surrender

Most asset based long term care insurance policies allow for a full premium refund should you choose to surrender the plan. That is, if you decide after a few years that you don’t want an asset based LTC plan anymore, you can get back all of the money you put into it. Of course, if you do so, you will no longer have the long-term care coverage or a death benefit.

Benefits Trigger

Long-term care triggering events can vary by policy, but benefits commonly kick in if the insured needs assistance with two or more activities of daily living (e.g., eating, dressing, bathing).

Some, but not all, policies from the various long term care insurance companies have a waiting period of around thirty or sixty days from the time a healthcare provider verifies eligibility until benefit payments commence.

Once triggered, benefits can be paid to the long-term care provider directly, as reimbursements for bills and receipts, or in the form of a check to the insured – depending on the policy language.  However paid, benefits are typically subject to a predefined monthly benefit cap.

Some policies only pay expenses from licensed healthcare providers, while some permit expenses for care provided by an unlicensed family member. So, if an adult son or daughter takes time off work to provide assistance, the policy can help make up the difference in missed pay.

Income Tax Free

As long as used for long-term care expenses, asset based long term care insurance plan distributions are not subject to income tax. The Pension Protection Act of 2006, which provides for tax-free distributions from annuities or life insurance policies when applied to long-term care expenses, has played a large role in the recent surge in popularity of asset based LTC plans.

Riders

Various customizations and riders are available to tailor asset based LTC plans to a policyholder’s specific needs, including dual plans that cover couples within a single policy. Extension of coverage riders, which provide coverage for an additional period after initial benefits run out, are among the most common riders.

So, for instance, an asset based long term care insurance plan linked to a whole life policy could continue paying long-term care benefits even after the policy’s death benefit had been exhausted. Or, a catastrophic illness rider can allow for extended or lifetime benefits in the event of certain severe diagnoses, such as Alzheimer’s.

Riders require additional premiums, and not all riders are offered by all insurers.

Best Asset Based Long Term Care Companies

We believe the following companies provide the best asset based long term care life insurance in the marketplace.

• One America: Asset Care
• Securian: SecureCare
• Nationwide: CareMatters II
• Lincoln: Moneyguard
• Pacific Life: PremierCare

At I&E, we work with all of these companies, so if you are interested in finding out what a policy would look like for you, based on your own numbers, please schedule an appointment today.

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Asset Based Long Term Care Policy Options

Based on the company you choose, the following highlights are provided in an asset based long term care policy.

• Select between Single Pay or 5-, 7-, 10- or 15-year payment options.
• If you wish to stop paying premiums, you’ll receive a reduced paid-up
  benefit guaranteed for the rest of your life.
• Ensures a fixed level of benefits for long-term care (LTC).
• Offers a tax-free death benefit to your heirs if the LTC benefits are not utilized.
• Provides an option to get back your entire initial payment (minus any withdrawals made) if you decide to cancel your policy.
• Includes a guaranteed minimum interest rate, securing the growth of the policy’s cash value.
• Features joint protection choice, enabling coverage for two individuals within a single policy.
• Allows for LTC benefits to be accessed as early as 60 days following the start of care.

Reimbursement vs. Cash Indemnity

Another area to consider when choosing the best company for asset based long term care insurance is how your benefits are paid, either reimbursement or cash indemnity.

Eligibility Criteria:

• Both require the insured to be officially recognized as chronically ill, with a care plan in place, and the waiting period completed.

Monthly Long-Term Care Benefit:

• Reimbursement: Covers only the actual expenses incurred, up to a set monthly limit.
• Cash Indemnity: Provides a cash benefit each month, up to the maximum limit, regardless of actual expenses.

Documentation Requirements:

• Reimbursement: Submission of monthly bills and receipts is necessary to receive payment.
• Cash Indemnity: No need to submit bills or receipts.

Coverage for Informal Care:

• Reimbursement: Generally offers limited or no payment for care provided by unlicensed individuals, such as family members.
• Cash Indemnity: Allows the full monthly benefit to be used for informal care, including services from family or friends.

Restrictions on Benefit Use:

• Reimbursement: Benefits can only be used for qualified long-term care expenses as specified in the policy.
• Cash Indemnity: There are no restrictions on how the benefits can be used.

Asset Based Long Term Care with Whole Life Insurance

There are two basic approaches to linking asset based LTC with whole life insurance.  One way is to get a policy that comes with a long-term care rider, which, if triggered, accelerates the policy’s death benefit to pay for long-term care expenses. If you have a policy with a $100,000 death benefit and need long-term care, the insurance company will pay the expenses and deduct the payments from the eventual death benefit.

Long-term care riders usually have a monthly cap, expressed as a percentage of the death benefit. For instance, if a policy has a $100,000 death benefit and a 4% monthly cap, it would pay out up to $4,000 per month for long-term care expenses.

Hybrid Long Term Care

The other approach is what is known as a “hybrid” plan, a/k/a asset based long term care, which is a single policy providing life insurance and long-term care coverage. The two benefits exist separately except that they are both paid from the same pool of money.

Benefits of Hybrid Long Term Care

• You can buy this coverage for just yourself or for both you and another person, with benefits that apply to both of you.
• Your monthly payments will never go up, and your coverage benefits will stay the same.
• This plan is based on life insurance, so if you don’t use the long-term care benefits, the death benefit will go to your chosen beneficiaries.
• You’ll be eligible for long-term care benefits if you’re unable to do at least two daily activities like bathing, dressing, eating, using the restroom, moving around, or if you have a cognitive condition such as Alzheimer’s disease.
• You can choose how long you want this protection, from a set number of months to lifetime coverage.
• The plan covers a wide range of long-term care services, so you can get care at home, in adult day care, nursing homes, or assisted living facilities.
• It also covers hospice care, short breaks for caregivers, training for caregivers, and equipment to help you.

Underwriting Required

Whole life policies including asset based long term care require premiums and underwriting similar to standard whole life insurance policies. And, like any life insurance policy, younger, healthier insureds are generally eligible for lower premiums (or greater coverage for the same premium).

Example

As an example, let’s say an insured (we’ll call him “Randy”) is fifty years old, in good health, and has an existing whole life policy with a cash value of $100,000.  Randy decides that he needs long-term care coverage, but instead of purchasing a traditional LTC insurance policy, he opts to convert his existing policy into a hybrid policy through a 1035 exchange, resulting in no current tax liability on the policy growth.

Just in case his long-term care needs end up exceeding the policy’s value, Randy purchases a long-term care extension providing an additional pool of funds if necessary.  The extension requires additional premium payments, which Randy elects to spread out over ten years at the insurer’s guaranteed rate.

Randy’s new policy comes with a $300,000 death benefit and a guaranteed growth rate of 1.5%. If Randy ends up needing long-term care, he can tap the policy value, including the growth, plus the amount of the extension if necessary. The long-term care distributions will be tax-free under the Pension Protection Act. Any remainder will be paid to his designated beneficiary upon his death.

If he doesn’t need long-term care at all, the beneficiary will receive the entire death benefit.  Either way, the death benefit will not be taxable income to the beneficiary.

Asset Based Long Term Care with an Annuity

Although ABLTC plans are more common with whole life policies, use of the strategy with annuities has been gaining in popularity.

Alternatively, an existing annuity can be converted into a whole life policy with long-term care benefits via a 1035 exchange. The exchange avoids the income tax that would otherwise be owed on the annuity’s growth – unless the growth is not ultimately spent on long-term care expenses.

Deferred Annuity

An asset based long term care annuity is a deferred annuity, which means that it doesn’t start paying out right away. Instead, after you make a lump-sum payment to the insurance company to purchase the annuity, it stays in the “accumulation phase” (the period during which an annuity earns interest before paying out) until either the long-term care benefits are triggered or you opt for annuitization. Because some of the growth is covering underwriting costs, the rate is usually a little less than what you would otherwise expect from a deferred annuity.

If triggered, the annuity backed long term care plan pays out each month for long-term care, up to an overall coverage maximum, usually around 200 – 400% of the starting value of the annuity itself, depending on factors such as age, health, and monthly caps.

Cash out or Annuitization

If you end up deciding you don’t need long-term care coverage and any minimum deferral period has concluded, you can either cash out the annuity for its current value or elect annuitization and receive regular payments from the insurance company, as with a lifetime annuity.

If you keep the coverage but don’t use it, your heirs will be able to inherit the annuity’s accrued value.

Individual Asset Based LTC annuities vary considerably from company to company and product to product. Some make regular payments upon maturity, like a standard lifetime annuity, and increase the size of the payments if long-term care benefits are triggered. Others cover long-term care only while annuitization is deferred.

Annuities also vary in the extent to which the remainder can be inherited if benefits are triggered but not exhausted. Commonly, survivors can inherit any of the annuity’s cash value remaining after deducting long-term care payments.

Example

By way of example, say Sharon uses $100,000 in retirement funds to purchase an asset based LTC deferred annuity with a $300,000 coverage cap.  The $100,000 principal grows at 2.0% for ten years until benefits are triggered.  Then, the annuity pays out $4,000 per month for long-term care expenses.

After a year, Sharon passes away.  Because the total long-term care benefits did not reach the annuity’s cash value, Sharon’s heirs can inherit the remaining cash value, including growth.

On the other hand, had Sharon received long-term care for five years, the annuity would have paid out $240,000 for long-term care – considerably exceeding the cash value but still within the coverage cap.

In the latter scenario, Sharon’s heirs would not inherit the annuity because no cash value remained.

Asset Based Life Insurance Pros and Cons

Pros:

1. Asset-Based Security: Asset based LTC leverages the value of existing assets like cash value life insurance policies or annuities, ensuring that premiums are not wasted if long-term care is not needed, as the value can benefit designated beneficiaries or revert to the policyholder.
2. Cost-Effective Solution: Given the high costs associated with traditional long-term care services, Asset based LTC offers a more financially sustainable option by using existing assets to cover potential expenses, thereby preserving savings and assets for other purposes or inheritance.
3. Flexible Payment Options: Asset based LTC provides flexible premium payment options, including single premium payments that eliminate the worry of future rate increases, and some products offer guaranteed annual premiums that will not increase, enhancing predictability and financial planning.
4. Expanded Eligibility: Asset based LTC may offer a viable option for individuals who may not qualify for traditional long-term care insurance due to preexisting conditions, thereby broadening the scope of who can secure coverage for long-term care needs.
5. Comprehensive Coverage: Asset based LTC plans often cover a wide range of long-term care services, providing flexibility and options for care in various settings, including at home, in nursing homes, or assisted living facilities, as well as covering other related expenses such as hospice care and caregiver training.

Cons:

1. Complexity and Decision Making: The variety of asset based LTC products and options can be complex, requiring individuals to make informed decisions and possibly seek advice from financial professionals, which can be a daunting process.
2. Initial Financial Outlay: Some asset based LTC options, particularly those involving single premium payments, may require a significant initial financial outlay, which may not be feasible or desirable for all individuals.
3. Opportunity Costs: Utilizing existing assets such as life insurance or annuities for asset based LTC may lead to opportunity costs, where the assets could have been used or invested differently for potentially higher returns.
4. Underwriting and Eligibility: Despite broader eligibility than traditional long-term care insurance, asset based LTC still involves underwriting processes, and certain health conditions or age factors may affect premiums or eligibility.
5. Product and Provider Variability: The features, benefits, and reliability of asset based LTC plans can vary significantly between providers, requiring thorough research and consideration to choose the most suitable option, and there may be limitations or exclusions that are not immediately apparent.

Asset Based Long Term Care FAQs

Will my asset based LTC policy’s premium increase?

Asset-based long-term care (LTC) addresses concerns about premium increases in two ways. First, it offers the option to pay with a single premium, eliminating worries about future rate hikes. Additionally, some asset-based LTC products are available with an annual premium that is guaranteed to remain the same, ensuring no increases over time.

What happens to my asset based long term care policy if I never need long term care?

An asset-based product ensures that a benefit is always provided. This could be in the form of long-term care benefits during the policyholder’s lifetime or a tax-free death benefit for beneficiaries if the long-term care benefits are not used.

Conclusion

Over the past twelve years or so, asset-based long-term care plans have been a game changer when it comes to funding future assisted living expenses. If you are considering LTC insurance options, please give us a call today and speak to an experienced professional who can explain to you the different options available, based on your unique needs, goals and objectives.

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