Lower the Cost of Long-Term Care Insurance with these Tax-Efficient Tips

A couple of years ago, a friend asked me if I had long-term care insurance (LTCi). Since both of us are self-employed and closer to 60 than 50, it wasn’t just idle curiosity on his part.

Neither of us has employer-sponsored coverage to help our families cope with the financial fallout if we suddenly lose our ability to provide for a long time (long-term disability insurance) or to cover the exorbitant cost of care if we could no longer take care of ourselves.

Bradley Hilton, Founder, Sonas Financial Planning explains, “LTCi kicks in if you’re unable to take care of at least two of the six so-called activities of daily living (ADLs): bathing, dressing, eating, toileting, getting in and out of bed and chairs, and managing incontinence, or become cognitively impaired.”

I told my friend that many years ago, my insurance agent recommended all his clients buy a specific LTCi policy. He told us that this policy will shortly double in price.

I decided to follow his advice.

A month later, premiums for that policy indeed doubled as he had predicted.

Over time, many of the policy’s provisions became unavailable at any price. For example, the policy pays out for as long as you qualify, even if it’s for life.

Unfortunately, these days LTCi is expensive and far less generous.

That’s why I asked several financial advisors for their best advice on tax-efficient ways of saving on LTCi If you have to shop for it now.

What Is Long-Term-Care Insurance, Who Should Buy It, and at What Age?

First, let’s find out what LTCi is, who needs it, and how early should you buy it.

Bradley Hilton says, “Being hit with unexpected and exorbitant bills for a nursing-home stay or in-home care can wreck a great retirement plan if not budgeted or prepared for. Most people will need some sort of long-term care (LTC) at some point. The average duration of LTC is 3.7 years for women and 2.2 years for men. LTCI pays for a specific amount or type of medical expense for you or a loved one. Buying LTCi is paying now to soften the financial blow of a larger cost in the future. The best time to buy is usually in your late 50s or early 60s. You want to shop for it while you still have good cash flow and are still young and healthy enough to get a good rate (bypassing the medical examination to qualify for a good policy).”

Michael R. Acosta, CFP®, ChFC®, Financial Planner at Consolidated Planning adds, “LTCi provides nursing-home care, home health care, and personal or adult day care for individuals age 65 or older or with a chronic disabling condition that needs constant supervision. Middle-class people or those who have a family history of medical concerns should plan for needing LTCi. The poor are covered by Medicaid, and those in the upper class can typically self-insure. Individuals should usually begin shopping for LTCi in their mid-to-late 40s. It’s a matter of finding the balance between purchasing while you’re young and healthy to keep premiums lower but not paying unnecessary premiums at too young of an age.”

Kevin Lao, CFP®, Founder and Director of Financial Strategies, Imagine Financial Security, LLC elaborates, “If you ever need custodial care or long-term care, the insurance company will usually reimburse you for related expenses, up to a daily or monthly amount. People in their 50s, approaching retirement or recently retired should buy it. The rate of insurers declining applications goes up significantly from 21% between ages 50-59 to 37% between 65-69.”

He lists those he believes would most benefit from buying LTCi:

• “If you have had personal experience in caring for a loved one, or if cognitive disease runs in your family, like dementia, you should strongly consider it. Cognitive disease can be very trying for a loved one to do it all by themselves, so having some professional help is important.
• “If it’s important for you to leave a financial legacy, and you’re concerned you might burn through your nest egg to pay for LTC expenses, you should consider it.
• “Age gap is also important. If you’re much older than your spouse, your spouse might consider buying insurance as they’re likely to outlive you by many years. Who would care for them when you’re no longer there?
• “Finally, taxes are important. If your main asset is a tax-deferred 401(k) or IRA, it would be quite costly to spend down your assets to pay for care, as taxes need to be considered. LTCi would reimburse you tax-free to avoid drawing down other assets.”

What LTCi Parameters Are Important for the Insured?

LTCi has many parameters that determine your benefits and thus your premiums.

These obviously include the benefit amount and length of coverage. As Hilton points out, the average length of LTC needs for men and women are 2.2 and 3.7 years, respectively. Thus, you can reduce your premiums by paying for just three or four years of coverage. If you’re concerned your case may be longer than average, you should try to economize elsewhere.

Kevin Lao says, “The average cost of a nursing home is north of $100k a year, or just over $8,000 a month. A policy that fully reimburses you for this amount will cost a pretty penny. However, if you can afford it and the risk causes you to lose sleep, do it! Another question is, can you self-insure at least a portion of your care? If so, you could buy a policy that covers some of an LTC event, not all of it. This is very common and, of course, impacts premiums.

“If you have a benefit of $6,000/month and a benefit period of 36 months, your total pool is $216,000. That $216k can last longer than 3 years if you don’t reimburse yourself 6,000 each month. However, I would much rather have a higher benefit monthly over a shorter benefit period than a lower monthly benefit over a longer benefit period.”

Next is the initial exclusion period, or how long you cover your LTC costs before your benefits start. Obviously, the longer the exclusion period, the lower the insurer’s risk, and thus the lower your premiums. Lao says, “Exclusion periods are typically 91 days, but some are six months. Medicare covers some LTC costs for the first 30 days and a sliding scale until day 100, so 91 days is a standard waiting period I see.”

Another important one is coverage exclusions, or what cases let the insurer off the hook. Hilton says, “Policies may limit what conditions they cover. For example, it’s not unusual to deny care for alcoholism, drug addiction, or war injuries. And while a preexisting condition, such as heart disease or a past cancer diagnosis, may not stop you from getting a policy, the policy may not cover care related to certain specified conditions for some period after it goes into effect.”

On the flip side, Hilton says most policies waive your premiums when you’re receiving benefits.

Michael Acosta recommends, “In my opinion, it’s important for policyholders to think about what they’d like their LTCi to cover. Are you adamant about staying in your home for as long as possible, even if that means in-home care? If so, make sure your policy offers home healthcare.

“Also, compare indemnity coverage vs. reimbursement coverage. We’ve found that policyholders with indemnity coverage run into fewer hurdles when filing claims. To reduce the risk of your claims getting denied, research the claims history of the carriers you’re considering.

“If your carrier offers inflation protection, considering the historically high inflationary environment we’re experiencing today, this can protect your purchasing power.

“Another powerful feature is continuation of benefits, which lets you maintain your coverage even after your initial pool of funds is exhausted, either for the remainder of your life or for an additional time period. Keep in mind that the average stay in a long-term care facility is 2-3 years for men and 3-4 years for women, so you’ll want to plan accordingly.”

Lao cautions, “If you want flexibility for at-home care as well as any professional facilities, make sure your policy has 100% coverage for at-home care. I‘ve seen nursing-home or adult-day-care coverage at 100%, with at-home care at 50%, and the client has no memory why they bought a policy like this.”

Hybrid Life/LTC Policies

Acosta and Lao bring up an interesting option.

Acosta says, “Nowadays, carriers offer traditional LTCi and hybrid options. Hybrid options offer more flexibility, more bang for your buck, and often fixed-guaranteed premiums compared to traditional LTCi that aren’t guaranteed and fluctuate over time. With hybrid coverage, the carrier often offers some form of death benefit (maybe guaranteed), access to investment strategies within sub-accounts, and a pool of LTC coverage. If the policyholder doesn’t need LTCi, they have the death benefit and access to the accumulated assets in the sub-account. For me, having flexibility offers the probability for greater financial success; however, there are always exceptions to the due to, e.g., the applicant’s age, needs, and medical history.”

Lao adds, “Some policies now have a hybrid life insurance component, where they pay a death benefit if you don’t use the policy or only use a portion of the LTC benefits. This provides some added peace of mind, but they are at least 30-40% higher in cost. Still, it’s a great solution if you have some legacy goals and want to also protect an LTC claim.”

The Most Tax-Efficient Ways of Saving Money on LTCi

The problem here is that LTCi policies have become more expensive over time. My own policy, which came with a fixed premium and a 5-percent annual increase to offset inflation, has actually seen rate hikes.

Hilton explains why, “LTCi premiums can increase over time. The insurer must get approval from state regulators to raise the premiums, something that does happen from time to time. LTC insurers have been imposing significant rate hikes for nearly a decade due to older policies being better for the insured than the insurers. On top of that, the number of insurers in this space has shrunk, giving purchasers fewer and fewer options.”

Lao offers five tax-efficient ways of covering LTC.

– “Use tax-free money from your Health Savings Account (HSA) to cover LTCi premiums.

– “Do a so-called ‘1035 Exchange’ of a cash value life or annuity: If you’ve built up cash in a permanent (not term) life insurance policy, and may no longer need the coverage in retirement, you could do a tax-free exchange of the cash value into an LTCi policy. The same can be done with annuities, amplifying the annuity’s tax benefits. Where traditionally annuity contracts are taxed on earnings, with a 1035 exchange, it becomes tax-free.

– “The hybrid options mentioned above can protect your investment assets in the event you need LTC. If you end up not needing LTC, or don’t use up your entire benefit pool, the death benefit will pass on to your beneficiaries. Premiums are higher than comparable life insurance policies, but they offer flexibility in how the policy is used, and protect against any rate increases in the future (all guaranteed, non-cancelable). If you can’t qualify for LTCi directly, some hybrid products that have an LTC rider still require underwriting, just not as strict as pure LTCi products.

– “If you have no heirs and/or they don’t need your bequest, you can self-insure using tax-free withdrawals from your Health Savings Account (HSA) assets, using Required Minimum Distributions (RMDs) from your 401(k) or IRAs (that you’d have to pay tax on anyway), or even a reverse mortgage.

– “If you can afford to self-insure but want to leave a financial legacy, you can buy a permanent life insurance policy to replenish your assets when you die, even if you had to pay for LTC near the end of your life. This financial legacy could protect your surviving spouse’s financial independence or guarantee a financial legacy for your children. Many self-insured retirees also want to avoid burning through their entire nest egg if they need care. The cash value in permanent life insurance policies can also act as a source of emergency funds in retirement.”

The Bottom Line

Most people would benefit from at least considering LTCi, especially starting their late 40s or early 50s. However, after over a decade of premium increases and benefit decreases, buying great coverage is nowhere near as possible or affordable as it used to be. That said, if LTCi is right for you, there are still tax-efficient ways to buy affordable coverage.

Disclaimer: This article is intended for informational purposes only, and should not be considered financial advice. You should consult a financial professional before making any major financial decisions.