While traditional stand-alone long-term care insurance (LTC) products have seen a drop in popularity in the past several years as a result of companies leaving the marketplace and of spiraling policy premiums, life insurance-backed long-term care financing strategies have experienced tremendous growth.
In 2017, life-LTC hybrid policies increased by about 5 percent to 260,000 new policies sold. To put this in perspective, only 70,000 stand-alone policies were sold in 2017, but over 750,000 had been sold back in 2000. Furthermore, new premiums paid for these hybrid policies increased by over 18 percent, and about 25 percent of all new U.S. life insurance premiums paid went to policies that offer benefits for long-term care or chronic illness. While there have been a few new products developed in the stand-alone long-term care insurance market like one rolled out in the summer of 2018 by New York Life, most of the recent developments have been in the hybrid-based life insurance market.
Despite the growth of the life-LTC hybrid policy marketplace, many people still do not have a definitive understanding of the differences in options now available. Generally speaking, life insurance-based long-term care combination products (often called hybrid or asset-based products) fall into two main categories: 1) linked-benefit products under 26 U.S.C. § 7702(b) and 2) accelerated death-benefit riders under 26 U.S.C. § 101(g). Linked benefits under 7702(b) are closer to true long-term care benefits and can be marketed as such, while accelerated death-benefit or chronic illness riders under 101(g) cannot be marketed as long-term care insurance, even though the benefits can be used for long-term care expenses.
The more common type of benefit on existing life insurance policies is the 101(g) accelerated death-benefit rider. These riders often have no additional up-front charge and are just included as part of the policy; however, this is not always the case, as some policies do charge extra for the rider up front. The rider cannot be marketed as long-term care coverage and the policy cannot pay out anything in excess of the life insurance death-benefit face amount. Typically, the amount of money that can be accelerated and paid out before death is determined by a number of factors including age, gender, class of policy, interest rate, and policy death-benefit amount. All accelerated benefits for chronic illness require indemnity payment. (Indemnity pays a monthly or daily cash benefit and reimbursement pays benefits based on actual incurred expenses). For instance, the higher the interest rate and the younger you are when you file a claim for accelerated death benefits, the more the death benefit will be discounted.
“There are a growing number of insurers offering optional 101(g) riders that are underwritten, charge a premium and permit the acceleration of the entire death benefit without requiring that the condition be deemed permanent. Typically, 2 percent, 4 percent or the HIPAA daily maximum can be selected at the time of policy issue,” says Bill Borton, a long-term care specialist at W.R. Borton & Associates in Marlton, N.J. “Boomers like them because they are indemnity and pay cash, rather than the 7702(b) riders that typically reimburse care from qualified caregivers.”
Under a chronic illness rider, the individual must be certified as “chronically ill” by a licensed health care practitioner as being unable to perform at least two activities of daily living, be disabled at a similar level, or have severe cognitive impairment. Activities of daily living are defined as 1) eating, 2) toileting, 3) transferring, 4) bathing, 5) dressing, and 6) continence. The receipt of benefits is generally treated as income tax free as long as they do not exceed certain HIPAA daily limits.
With life-linked benefits under 7702(b), policies can be marketed and sold as providing long-term care coverage. These policies are a combination of a life insurance policy and a 7702(b) long-term care rider. Most of these policies come with a six-year benefit period, with the death benefit paid out over the first two years, and the 7702(b) rider continuing to pay the monthly benefit for up to four more years. Benefits are typically paid out as a percentage of the death-benefit amount each month, but do not exceed the IRS per diem amount. Although most policies with these riders provide for reimbursement of qualified long-term care, there are at least two riders available that pay as indemnity-style policies. Linked-benefit policies with 7702(b) riders are typically sold with a single premium, but some may permit premiums to be paid over a specified number of years. Premiums are guaranteed and most provide for a nominal death benefit, even if all of the long-term care benefits are paid out.
Mr. Borton favors 101(g) riders for men, who typically need care for only about two years and linked-benefit 7702(b) riders for women, who tend to need care for longer periods of time. “The life-linked 7702(b) policies with a single premium have a high degree of self-funding. If a man needs care for only two years, the benefits received will essentially be a return of the premium paid under a 7702(b) rider.”
A linked-benefit life insurance policy will be a cheaper way to provide long-term care financing benefits, but a more expensive way to provide life insurance benefits when compared to a 101(g) accelerated death-benefit policy. One downside with both types of policies is that neither premium qualifies as a long-term care insurance premium, and therefore is not generally deductible for income tax purposes. Furthermore, a stand-alone long-term care insurance policy can actually be a more economical way to purchase long-term care coverage if that is the primary goal.
However, there are benefits to both linked-benefit and accelerated death-benefit life insurance policies compared to a stand-alone long-term care insurance policy. Both require typically level premiums or a single lump-sum premium, meaning that they will not see the premium increases or lifelong premium payments that most long-term care insurance policies require. Secondly, the life insurance policies will pay a death benefit if the policy is not used for long-term care costs, alleviating the “use-it or lose-it” fear associated with a stand-alone long-term care insurance policy.
In the end, long-term care planning is crucial, but there are a number of existing insurance products now available that can help cover these costs. A traditional long-term care insurance policy can still play an important role in funding long-term care expenses. It is not the only option, however, as life insurance policies both under accelerated death-benefit riders and LTC linked-benefit riders can provide alternative long-term care funding options. The most important considerations for consumers are to investigate all of the options available before making a purchase, and to make sure one understands the benefits, costs, and drawbacks associated with each specific funding strategy. (To learn more about how to use life insurance in retirement planning read this Forbes article).
View Original Post