In a few of our recent posts, we’ve discussed the idea of long-term care (LTC), a blanket term that covers things such as nursing home care, prolonged hospital visits, and in-home care or assistance that takes place over a prolonged period of time.
In one of these posts, we discussed some different strategies for funding long-term care, including:
- Acquiring long-term care insurance
- Using Medicare/Medicaid
- Self-insuring long-term care
Today, I wanted to talk a little more about self-insuring long-term care, and why it can be a really bad idea to try this.
Before we begin, it’s important to know a couple of basic facts about LTC, such as your risk of needing it at some point during your retirement.
What’s Your Risk of Needing Long-Term Care?
There’s a statistic cited by longtermcare.gov that states “70% of people turning age 65 can expect to use some form of long-term care during their lives.” The longer you live past age 65, the more likely it is that you’ll need some kind of nursing home care or assisted living. And lifespans in America are getting longer.
With the majority of people reaching retirement age needing some kind of long-term care before they die, not having a plan for covering the cost of LTC seems foolish. This is why, for many clients, acquiring some form of LTC insurance can be beneficial.
For example, I recently met with a 61-year-old female client who bought an LTC policy. She did this using a lump sum of $100,000 to cover the premium payment (although she could have spread this out over 10 years, albeit for a slightly lower guaranteed benefit amount).
Per Social Security, the average life expectancy for a woman her age would be roughly an additional 24.9 years, so she could reasonably expect to live to about 86 years old. Of course, this is an average; half of the people who are in this woman’s age range will die before reaching 86 years of age, but the other half might live years longer.
So, this woman’s chances of needing some type of nursing home care or assisted living are quite high.
Why is Self-Insuring a Bad Idea?
Long-term care can be really expensive. Depending on the nature of your care, you could be spending hundreds of dollars each day.
For example, according to longtermcare.gov, the average daily cost of LTC in the U.S.A. for 2010 was “$205 per day or $6,235 per month for a semi-private room in a nursing home” and “$3,293 per month for care in an assisted living facility (for a one-bedroom unit).” Multiply these figures by 12 months and you get a yearly cost of $74,820 and $39,516, respectively.
These costs would be significant for almost any American, even one who has a million-dollar investment portfolio to draw from. After all, withdrawing, for example, 4% from a million-dollar investment portfolio only gives you $40,000, not nearly enough to cover the yearly cost of a semi-private nursing home room. Also, the above figures are for 2010, and costs have risen since then.
Now, let’s assume you have the sizeable liquid assets needed to cover the cost of long hospital stays or in-home assistance for daily tasks without spending down your retirement nest egg. Why wouldn’t you want to just pay out of pocket for these expenses and avoid the hassle of signing up for LTC insurance?
The insurance company will guarantee a much higher, tax-free return to meet this looming liability than you can reasonably expect to generate investing the money yourself. High tax-free returns that are guaranteed and available when you need the money—that’s hard to beat.
Going back to the client I mentioned earlier and assuming her average tax rate is 25% (state and Federal), that 6.5% tax free growth is the equivalent of an 8.7% annual return pre-tax, locked in and guaranteed by the insurance company.
So, for those of you who are considering self-insuring, can you or your advisor promise you an 8.7% annual growth rate each year for 15 years? Most likely not. My client cannot reasonably expect to get that kind of return for the next 15 years to meet this potential liability, and you shouldn’t either.
There’s one other point I almost forgot: Your heirs will receive the original premium amount if you don’t need long term care, plus a small death benefit. This means that if you don’t end up using your LTC benefit before you die, your heirs will get the principal back with a little interest (thanks to the death benefit)—not a bad deal.
So, whether you have a large and liquid portfolio to cover the cost of care in retirement, or you need to make sure that a long hospital or nursing home stay won’t break the bank in retirement, self-insuring might not be the best idea. Instead, consider acquiring some kind of LTC insurance to help you protect your retirement assets just in case.