Among the more difficult retirement planning decisions are whether or not to buy long-term care insurance and, if so, at what age to purchase it.
In this post, we’ll assume you plan to buy LTCI and will focus on the age at which to buy. There are a raft of trade offs to consider. The annual premiums for the insurance are lower the younger you are when the policy is purchased. But benefits usually are not claimed until a policyholder is the late seventies or older (though an accident or disability could cause earlier claims). So, an early purchase could result in paying premiums for many years before receiving benefits, making the lifetime cost much higher than under a later purchase.
But delaying the purchase has disadvantages. The premiums are higher the older you are. In addition, a later purchase could mean that a change in one’s health results in even higher premiums or the inability to qualify for purchase. Also, there could be changes in the insurance market that result in higher premiums across the board.
It is difficult for many people to evaluate these trade offs. A good decision framework was developed by Advisor Insurance Resources (AIR), which works with fee-only financial planners to analyze various insurance products for consumers. AIR identified the key factors to consider and quantified their effects using assumptions and historic data.
There are four key factors to consider.
An overlooked factor is how new products affect the cost. Insurers introduce a new generation of policies every three to five years, affect the cost. The new policies generally have effective premium increases of about 3% over the previous generation of policies. The increases often are required because the insurers both underpriced their past policies and paid higher claims than anticipated. Cost increases on new policies also can be indirect because of lower basic benefits. Insureds buying the new policies have to choose higher cost riders and options to receive the same coverage as the previous generation’s basic policy.
Another factor is the benefit limit of the policy. If a policy is purchased later instead of sooner, the benefit amount must be higher to keep pace with inflation of the covered expenses. In other words, $3,000 of monthly coverage today might be the equivalent of $3,800 per month in five years. That translates again into higher premiums for waiting.
The third factor is how you spend or invest the money that would have gone to premiums when the policy purchase is deferred. You might want to assume it is invested. In its analysis, AIR assumed it is invested for a 5% after-tax annual return.
Another factor is how long you will keep paying premiums. The main choices are ages 80 and 90.
The assumptions you make about each factor make a difference in the results.
Let’s look at a few conclusions that can be drawn from the framework developed by AIR, which is available on their web site at www.AdvisorInsuranceResource.com.
If you assume premiums are paid to age 80, at almost any age it is cheaper to buy the policy now instead of five years from now. But, in an ironic twist, it is even cheaper to wait at least 10 years to buy. Cheaper is measured by how much the policy costs over a lifetime. Of course, you risk needing the policy in the 10 years before you purchase it.
A major factor in the calculations is your current age, especially if you assume premiums are paid until 90. If you assume premiums are paid to age 90 and you are younger than 60, it is cheaper to buy either now or 15 years or more from now. After age 60, at every age level it is more expensive to wait to purchase if you pay until 90.
The key variable, which cannot be quantified, is insurability. An accident or decline in your health could make you uninsurable at any time. The ideal strategy, as the numbers show, would be to delay the purchase until just a few years before you need the benefits. But you are unlikely to be able to time the purchase that way, and becoming uninsurable in the meantime would have expensive consequences. You would have to pay for all long-term care yourself, because insurance would not be available.
Under the assumptions AIR used, in the cases when waiting to purchase pays off a big reason is because of the assumption that instead of being spent on premiums money is invested to earn an after-tax 5%. The compounded savings offset the higher premiums at later ages. If you do not invest the money that would have gone to premiums or earn a lower return, waiting to purchase LTCI is not the better financial move.
Buying early also eliminates the risk future policies will be less generous. Long-term care insurance still is a fairly new product, and insurers do not have sufficient data to make good projections about the claims they will pay. Many insurers entered the field the last few decades only to drop out after claims far exceeded their estimates. As the Baby Boomers age, if they use long-term care more than the insurers forecast, future policies could be issued with restricted coverage or much higher premiums. Another advantage of an early purchase is eliminating the risk that premium increases will be much higher than assumed.
This analysis involves only straight long-term care insurance, not policies that combine LTCI with life insurance or annuities or that guarantee return of premiums. Those features substantially increase the cost and make it hard to analyze and compare policies.
The conclusion you should draw from this analysis is the safest route is to buy coverage sooner rather than later. Otherwise, all the assumptions in favor of delaying the purchase must be accurate for you to come out ahead, and you must be insurable at the later date. The risks to buying early are you pay many years of premiums before making a claim or never make a claim under the policy. This is the same risk you hope will be true for homeowner’s and auto insurance, and long-term care insurance should be viewed the same way.
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