A financially secure future: the role of long-term-care insurance.

What can ruin a well-planned retirement faster than a declining stock market? The answer for many is an uninsured catastrophic illness or infirmity. A couple who work 40 years to accumulate a $300,000 net worth--hoping to retire in comfort--can become penniless in fewer than 3 years if one spouse gets sick and enters a nursing home. The cost of a three-year nursing home stay, plus a few extras, can easily top $300,000. This tragedy occurs more often than you might think. While many people will need long-term care, few plan for it.

Elderly couples--those 65 years and older--who need long-term care represent a growing segment of our society. The Census Bureau reports that by 2050 one in five Americans may be classed as elderly. The 75-plus age group will have the greatest need for health care, particularly long-term care, and thus its members must manage their finances carefully to meet these costs and enjoy an independent lifestyle during retirement.

Clients rely on their CPAs to help them plan for the future. Many accounting firms offer a package of integrated services--income taxes, investments, estate planning and retirement income. CPAs who provide such services should not neglect to include the critical area of long-term care. Failure to plan for its cost can spell disaster. Here are some guidelines to help CPAs figure out who does and does not need LTC insurance.

PROTECTING THE NEST EGG

CPAs do clients a disservice if they don't help them take steps to maintain the financial security they worked a lifetime to achieve. Here are some facts CPA/financial planners should be aware of when advising clients about their future need for long-term care:

* Long-term care is expensive. Over half of single people who enter a nursing home are impoverished within one year; the same is true for couples within a year after a spouse enters a nursing home.

* A 65-year-old has a 43% chance of requiring long-term care. One in five Americans over age 50 may need such care in the next year.

* People age 65 or over who enter a nursing home typically stay two to three years. Annual costs can average $50,000--or double that in places like San Francisco or New York City.

* LTC insurance provides the greatest financial security for people with household income between $40,000 and $250,000. Medicaid covers those with less income and the wealthy have less need for insurance than middle-income earners.

Two things appear certain: The cost of long-term care will continue to rise substantially and federal and state governments will keep tightening eligibility requirements for aid. These facts should spur CPA/financial planners to recommend clients plan for long-term-care needs. As a first step, accountants should identify those clients who can benefit from LTC insurance.

WHO NEEDS IT?

Age and financial resources are the two primary factors in deciding whether someone should buy LTC insurance. How much in assets should a person have before saying "no" to LTC insurance? No single formula applies. However, multiplying the $50,000 annual cost of care by the number of years to be insured provides CPAs with a rough rule to follow. By this measure, a three-year stay in a facility would cost a single person $150,000. So a person should have $137,000 at the beginning of his or her stay, assuming a 6% annual return on investment and monthly payments of $4,167 due at the beginning of each month.

A 65-year-old woman with $2 million in assets can pay her own way. However, she may wind up giving the bulk of the money to caretakers instead of leaving it to her children or a favorite charity. At the other end of the spectrum, individuals with less than $75,000 in assets ($150,000 for a couple), or with annual retirement income of less than $40,000, should not buy LTC insurance because it's too expensive for their budget. The vast majority of the population falls between these two extremes.

Eligible candidates don't have to be age 65. People with a family history of heart disease or cancer should consider getting LTC insurance early while they still can qualify. Younger clients often can get LTC insurance as part of their employee benefits package. To protect against economic hardship during an extended illness, both dual-income and single-income families should consider LTC insurance.

For people under age 65, the advantages of purchasing insurance include:

* Lower premiums.

* Easier medical qualifications.

* Relatively low future rate increases.

* Availability of inflation options.

LTC insurance offers policyholders a unique range of services. Most policies provide home-health care, personal care and adult day care in addition to nursing home care. After identifying clients who can benefit from such coverage, CPAs should schedule individual conferences to

* Review the general provisions of LTC insurance policies.

* Estimate the cost of long-term care.

* Evaluate the benefits of LTC insurance.

* Suggest a possible course of action.

OVERVIEW OF LTC INSURANCE

CPAs should help their clients understand the relationship between Medicare and LTC insurance; many misunderstand what Medicare covers. The American Association of Retired Persons reports that 79% of its members erroneously believe Medicare will pay for a long-term nursing-home stay. The facts are that

* Medicare covers a maximum 100-day stay in a Medicare-approved nursing facility.

* It covers extended periods of home-care visits only after a physician confirms in writing that the patient needs skilled nursing care or physical, occupational or speech therapy.

* Its supplemental policies do not cover most long-term-care costs.

CPAs should remind clients that Medicare does not cover extended stays in a nursing facility or unlimited home-care visits. When Medicare coverage ends, the client must pay with personal financial resources, insurance or some combination of the two. LTC insurance is like any other. It transfers some risk but not all. Sadly, the financially dependent person may lose his or her choice of care provider and suffer a loss of dignity. The CPA/financial planner can help clients minimize this risk.

In general the need for long-term care arises from illness, disability or incapacity. Care ranges from help getting dressed and bathing to basic medical services that may include skilled or intermediate nursing and custodial, hospice or adult day care. These services can be provided at home or in medical facilities. Exhibit 1, at right, defines some basic terms related to long-term care.

Most LTC policies do not cover mental and nervous disorders, alcoholism, drug addiction or self-inflicted injuries (Alzheimer's is covered). Fortunately, a client's preexisting conditions do not usually result in restriction or denial of benefits. Therefore, people with a medical history still should seek coverage. They may qualify.

The types of facilities covered and the amount of the daily payment for services vary significantly among policies. Most require that care be administered in a state-licensed facility. Many insurance companies offer policy riders that expand the scope of services covered. CPAs can help clients identify the range of desired benefits based on individual circumstances.

Daily benefits range from $40 to $300; the benefit period runs from one year to a lifetime. The elimination period (the waiting time before benefits begin) ranges from zero to 365 (or even 730) days and usually applies only once during the insured's lifetime. The insured can add inflation protection for an additional premium. Clients can select a plan to fit their budget. The more affluent can opt for a policy that covers a wide variety of services; the more frugal may select a plan with limited care.

THE COSTS AND RISKS OF LONG-TERM-CARE OPTIONS

To illustrate how a CPA can advise clients on long-term-care needs this article presents three scenarios that describe hypothetical clients of different ages and financial circumstances. In all three insurance premiums as well as personal payment for long-term care qualify as medical expenses for purpose of itemizing deductions. Benefits paid are assumed to be nontaxable.

Scenario 1: Financially secure client may or may not benefit from LTC insurance. Consider George, a 65-year-old client. An evaluation of his need for LTC insurance assumes

* $200,000 is available to invest.

* These investments earn a 6% rate of return.

* George will enter a LTC facility after 10 years.

* The length of his stay is three years.

* The daily cost will be $150 while George is in the facility.

* Medical and related health-care costs will rise by 5% annually.

* The annual LTC insurance premium, payable at the beginning of each year, is $2,000.

* The insurance policy has a 30-day elimination period. George has two options:

* Option 1: Purchase a LTC policy.

* Option 2: Self-insure a future stay in a LTC facility.

Exhibit 2, below, provides a detailed analysis of these options. The data show that after one year in a LTC facility, the insurance policy provides George with only a $20,800 ($345,300-$324,500) advantage over self-insurance. This small difference may not spur him to buy the policy. But after three years of professional care, the advantage grows to $146,000 ($388,000-$242,000). Most clients are interested in preserving $146,000.

If George wants to self-insure and also keep his accumulated wealth of $358,200, he must earn 21.3% annually on his assets during the three years of long-term care. This return is unrealistic under current market conditions and tilts the decision in favor of purchasing LTC insurance.

If George is lucky, he will never need long-term care. But he should consider what would happen if he did not use the LTC facility, but continued to pay the $2,000 annual premiums. Under this scenario, at the end of year 13, a 6% annual rate of return produces a $426,600 balance for self-insurance compared to $386,500 for buying the insurance and never using it. In this case self-insurance provides a $40,000 advantage. When making a recommendation, CPAs should advise clients of the risk and expected returns of self-insurance.

George is fortunate; he can meet any future health care costs. Whether or not he purchases an LTC policy depends on his willingness to self-insure against future long-term-care needs or whether he wants to ensure he has an estate to leave to his family.

Scenario 2: Older client would be wise to purchase LTC insurance. Next consider the benefit of LTC insurance to Charlotte, an older client with a small amount of money conservatively invested at low rates of return. Assume Charlotte is 70 years old and is assessing the benefit of LTC insurance under the following assumptions:

* $120,000 is available to invest.

* The investments earn a 5% rate of return.

* Charlotte will enter an LTC facility after 10 years.

* Her stay in the facility lasts five years.

* The daily cost when entering the facility will be $140.

* Medical and related costs will increase by 8% annually.

* The annual LTC insurance premium, payable at the beginning of each year, is $3,800.

* The insurance policy has a 20-day elimination period.

If Charlotte purchases an LTC policy, the accumulated value of her investment funds at the end of the 10-year period before she enters a nursing home would be $145,300. After her 5-year confinement, the cost for Charlotte's long-term care, adjusted for the 20-day elimination period, will have been covered and her investment funds would have a balance of $181,800. This result allows Charlotte to enjoy the American dream--leaving a nest egg for children or charity.

Alternatively, if Charlotte does not buy a policy, the accumulated value of her investment funds at the end of the 10-year period before she enters a nursing home would be $195,500. She would, however, exhaust her accumulated funds during the fourth year of confinement and then qualify for Medicaid. Consequently, none of the original $120,000 of retirement funds would be available for anyone's future benefit.

Charlotte probably would be wise to purchase LTC insurance. She has more than a 40% chance of needing future long-term care that could deplete all of her financial resources. Key finding: LTC insurance is critical for older clients with limited assets.

Scenario 3: Younger client should purchase LTC insurance. The last scenario evaluates the benefit of LTC insurance for Lucy, a younger client age 50. (LTC insurance is seldom recommended for people younger than 50.) The assumptions are that

* Lucy's investments earn a 6% rate of return.

* Medical costs will increase by 5% annually.

* The daily rate for nursing-home care will be $150.

* The annual premium for an LTC policy on a 50-year-old is $1,000.

Lucy may recognize long-term care is expensive but probably has not thought much about the overall cost. Her CPA/financial planner might ask her to consider a basic question, "How much do you have to save annually to pay for one year in a nursing home 25 years in the future?" Under our assumptions, the expected annual cost for one year will be about $183,000. To accumulate $183,000 over 25 years, Lucy must save $3,300 annually while earning a 6% return.

For much less, about $1,000 a year, Lucy can purchase an LTC policy that will cover this same risk. This $1,000 premium also insures a multiple-year stay. If Lucy requires a three-year confinement starting 25 years from now, the total cost would be approximately $576,500 under our earlier assumptions. She would need about $543,500 at the start of her confinement to cover these costs. Funding this amount requires an annual annuity of $9,900 for 25 years earning 6%. In comparison, an annual $1,000 premium would meet the $543,500 need at a much lower cost. Lucy and clients like her should buy LTC insurance.

Other options. The CPA's objective is to make clients aware of the options available to meet the financial challenges of long-term care. One option is to use the proceeds from a traditional individual or group life insurance policy that pays accelerated death benefits to chronically or terminally ill individuals needing long-term care. These accelerated distributions, however, reduce any death benefits payable. The CPA/financial planner should also advise the client to see if his or her employer will provide LTC insurance. Often, employer-provided insurance is less expensive than independent coverage. The client needs to ensure, however, that he or she can continue the policy at retirement or when leaving the company. Purchasing a new policy later may be quite expensive.

SELECT THE RIGHT POLICY

For clients who expect to purchase LTC insurance, the CPA/financial planner might offer these shopping tips:

* Don't let the insurance representative determine the selected coverage. Decide for yourself what you need.

* Compare the policies of several companies.

* Verify the financial stability of the insurance company you are considering.

* Make sure the policy provides the coverage you need.

* Be honest about your medical history.

* Have the premiums deducted from your bank account to avoid disruption due to a missed payment.

After the client has narrowed the choice to two or three policies, the CPA can help select the one that best meets his or her needs. Exhibit 3, below, identifies factors clients should consider in deciding on an LTC insurance policy. For an independent rating of LTC policies of various companies, clients can refer to A.M. Best Company's ratings (www.ambest.com/index.htm) and to Consumer Reports (www.consumerreports.org).

LOOKING AHEAD

A graying America creates new health care needs plus new opportunities for CPAs to advise clients on how best to cope with those needs. A pressing desire of the elderly is to spend their last years independently. Therefore, long-term care is a critical issue the accounting profession needs to help clients address head on. As CPA/financial planners meet this new market demand, they can take pride in helping people preserve their dignity during vulnerable times.

Exhibit 2: Comparison of LTC Options

Option 1

Purchase LTC Policy

Accumulated value of investment
fund at end of year 10 after
paying annual $2,000 premiums               $330,200

Client enters long-term-care facility
and pays the cost of the 30-day
elimination period amounting to               $4,500

Balance of investment funds at end
of year 1 in long-term-care facility        $345,300 *

Client's payment for year 2
cost of long-term-care                            $0

Balance of investment funds at end
of year 2 in long-term-care facility        $366,000 *

Client's payment for year 3
cost of long-term, care                           $0

Balance of investment funds at end
of year 3 in long-term-care facility        $388,000 *

Option 2

Self-Insure

Accumulated value of investment
fund at end of year 10 without
paying annual premiums                      $358,200

Client enters long-term-care facility
and pays the monthly cost of $4,500
for the entire year amounting to             $54,000

Balance of investment funds at end
of year 1 in long-term-care facility        $324,500 *

Client's payment for year 2
cost of long-term-care                       $56,700 **

Balance of investment funds at end
of year 2 in long-term-care facility        $285,900 *

Client's payment for year 3
cost of long-term-care                       $59,500 **

Balance of investment funds at end
of year 3 in long-term-care facility        $242,000 *

* Funds continue to earn 6% annually.

** Medical care increases 5% annually.

Exhibit 3: Buying LTC Insurance

Feature                           Consideration

Plan coverage                     Look for coverage that goes beyond
                                  nursing home care. Determine whether
                                  the policy provides skilled nursing
                                  care, custodial care, home-health
                                  care, adult day care and the like.
                                  Check closely for any major
                                  limitations regarding the type of
                                  facilities the policy covers and any
                                  exclusions for preexisting conditions.

Renewability                      Guarantees the policy's renewal.

Elimination period                Depends on client's financial
                                  condition. Insured usually selects
                                  20-, 30- or 100-day period.

Benefit period                    The minimum period should be three
                                  years. Some policies offer lifetime
                                  coverage, others a maximum coverage
                                  of seven years.

Daily benefit                     Nursing home costs range from $80 to
                                  $200 per day and higher. Home-care
                                  coverage should be at the same level
                                  and adult day care should be at least
                                  50% of nursing home care. Research the
                                  price of these services in the area.

Respite care                      Benefits paid to caregivers.

Hospice care                      Benefits paid for care of terminally
                                  ill person and in some cases for
                                  counseling family members.

Qualifications for receiving      Ensure that hospitalization or skilled
benefits                          care is not required before benefits
                                  are payable. Coverage should include
                                  chronic conditions, inability to
                                  perform activities of daily living
                                  (especially bathing and dressing)
                                  and cognitive impairment like
                                  Alzheimer's disease).

Inflation provision               Provides that benefits will be as
                                  close to future costs as possible.
                                  (This is essential.) As added
                                  protection, consider buying
                                  higher-than-needed daily benefit.

Return on premium                 Compare price to potential benefit
                                  received.

Waiver of premium                 Premiums stop while receiving
                                  benefits.

Premiums                          Determine whether the policy's premium
                                  increases at a level- or step-rate.
                                  A concern: Will the budget cover
                                  future premium increases?

Preexisting conditions            Attempt to avoid this provision. If
                                  avoidable, ensure that such conditions
                                  include only those existing within the
                                  six months before coverage. Any
                                  preexisting conditions should be
                                  covered six months after effective
                                  date of policy.

Company's financial condition     Check ratings from A.M. Best, Moody's,
                                  Standard & Poor's or Consumer Reports.
                                  Review the company's investment
                                  portfolio.

EXECUTIVE SUMMARY

** THE HIGH COST OF A NURSING HOME STAY CAN bring financial ruin to even the most well-funded retirement. Failure to plan for long-term-care needs can spell disaster for clients neither poor enough to qualify for government aid nor wealthy enough to pay for it themselves. Today, a 65-year-old has a 43% chance of requiring long-term care.

** AGE AND FINANCIAL RESOURCES ARE THE TWO primary factors in deciding whether someone should buy LTC insurance. While there are no hard and fast rules, CPAs can use the $50,000 average annual cost of a nursing home stay as a starting point. A client with $2 million in assets probably can afford to pay his or her own way. On the other hand, LTC insurance generally is too expensive for a client with less than $75,000 in assets or an annual retirement income of less than $40,000.

** LTC INSURANCE PAYS FOR CARE THAT RANGES FROM help getting dressed and bathing to basic medical services that may include skilled or intermediate nursing and custodial, hospice or adult day care. These services can be provided at home or in a medical facility. Daily benefits range from $40 to $300, usually after a waiting period of up to one or two years.

** FINANCIALLY SECURE CLIENTS MAY OR MAY NOT need LTC insurance depending on their willingness to self-insure against future long-term-care needs and their desire to preserve their estate, On the other hand LTC insurance is critical for older clients with limited assets. For younger clients buying LTC insurance protects against the expense of a future nursing home stay at a lower cost than other options, such as self-insurance.

** CPAs CAN HELP CUENTS SHOP FOR THE RIGHT policy. Consumers should compare the LTC policies of several companies and verify the financial stability of the company they are considering. Make sure the client buys a policy that provides the coverage he or she is likely to need based on his or her medical history and other factors.

LTC Internet Resources

www.longtermcarewiz.com. Help with LTC insurance basics and coverage selection, including policy quotes.

www.mrltc.com. An informative site maintained by Martin K. Bayne, known to some as "Mr. Long-Term Care."

www.aarp.org/confacts/health/privltc.html. Help on private LTC insurance from the AARP.

http://members.aol.com/elderltc. A wide variety of long-term resources, including quotes on LTC insurance.

Exhibit 1: Long-Term-Care Definitions

Activities of daily living (ADLs) includes eating, bathing, dressing, moving about (mobility), transferring (for instance, from a bed to a chair), using the toilet and maintaining bladder and bowel continence.

Adult day care includes personal care, therapy and nursing assistance at a facility during the daytime hours.

Benefit period is the length of time the insurance company will pay benefits, ranging from two years to life.

Custodial care facilities are licensed by the state to care for patients who require someone to assist them with daily activities on a regular, but not necessarily continuous, basis.

Daily benefit ranges from $40 to $300 or more per day, based on expected costs of nursing homes and other long-term-care facilities in the area.

Elimination period ranges from zero to 365 (or even 730) days. This is the actual period of time when no benefits are payable for long-term-care services. Clients should choose the number of days they can afford to self-insure.

Home health care is medically necessary care, including nursing services and physical, speech, occupational or respiratory therapy provided at home.

Hospice care is devoted to pain and symptom control for the terminally ill (life expectancy of less than six months). Care can be provided at a hospital, hospice center or at home.

Personal care refers to assistance from another person with walking, bathing, eating and other routine tasks. This care is provided by aides who are not medical professionals but are trained to help with these activities.

Respite care furnishes personnel from a local home health care agency to take a caregiver's place for a short time.

Skilled nursing care is 24-hour supervised medical care and an alternative to acute care where hospitalization is necessary. Example: observation for complications or worsening of a condition.

RELATED ARTICLE: Assisted Living: A Nursing Home Alternative.

Assisted-living facilities, which range from small homes to large apartment-style complexes, offer a way for older adults to maintain an independent lifestyle in a residential atmosphere that provides them with some assistance and support. While the types and sizes of the facilities can vary, all provide meals and social activities and are staffed with people who can help residents with activities of daily living, such as bathing and dressing.

A survey by the MetLife Mature Market Institute revealed the average U.S. assisted-living facility costs $2,159 per month or $25,908 annually. The survey found the highest monthly average cost was in New York City at $3,696; the lowest average cost was $592 in Jackson, Mississippi. San Francisco came in at $3,071; Orlando, Florida at $1,560; and Providence, Rhode Island at $2,320.

Assisted-living facilities can bridge the gap for older Americans who need to leave their homes but don't necessarily require the level of care a nursing home provides. Most LTC insurance policies cover the cost of assisted-living facilities. A 2001 survey by the National Center for Assisted Living revealed that approximately two-thirds of assisted-living residents paid for their stay out-of-pocket. Another 13.5% paid with Supplemental Security Income (SSI). Medicare does not cover assisted living.

Source: MetLife Assisted Living Market Survey, www.metlife.com, 2002.

DELTON L. CHESSER, CPA, PhD, is Roderick L. Holmes Professor of Accounting at Baylor University in Waco, Texas. His e-mail address is [e-mail]. WALTER T. HARRISON JR., CPA, PhD, is professor of accounting at Baylor University. His e-mail address is [e-mail]. COLLEEN T. BARRY, CPA, is a manager in assurance business advisory services for PriceWaterhouseCoopers in Houston. Her e-mail address is [e-mail].