Be skeptical: 5 claims to watch out for in long-term care insurance
August 24, 2009 by Jean Keener, CRPC, CFDP
Long-term care planning is an important aspect of a financial plan, especially for those 50+. And insurance is often a component of that plan. But it’s important to know exactly what you’re buying, to compare pricing and features with comparable companies, and to buy the insurance for the right reasons. You don’t want to be swayed by unsubstantiated sales pitches. Here are some claims you’ll want to be skeptical of.
Claim #1: A long-term care policy is a great tax write-off
Though it’s true that premiums paid on a tax-qualified LTCI policy can reduce your tax burden, you must itemize deductions to be eligible. When you’re older, perhaps you’ll no longer itemize deductions. And even if you do, LTCI premiums fall under the write-off for medical and dental expenses, which is limited to expenses that exceed 7.5 percent of your adjusted gross income. So, for example, if your adjusted gross income is $60,000, you are able to deduct only that portion of your unreimbursed medical and dental expenses (including LTCI premiums) that exceeds $4,500.
And there’s another caveat. Even if your LTCI premiums exceed 7.5 percent of your adjusted gross income, you can’t include all of the premiums in your deduction for medical and dental expenses. Instead, your premiums are deductible according to a sliding scale that depends on your age. So what might look like a great tax write-off at first glance may not be so great after all.
Claim #2: You should buy a policy now so you can lock in the price forever
With most LTCI policies, your age at the time you purchase the policy is a factor in determining your premiums. However, this doesn’t mean that your premiums will stay the same as long as you own the policy. In fact, your premiums can increase if your insurance company establishes a rate increase for everyone in your class, and that increase is approved by the state insurance commissioner.
As a relatively new type of insurance, LTCI may be particularly susceptible to rate increases, because insurance companies lack a sufficient amount of underwriting data to predict the number and size of claims they can expect in the future. And unfortunately for you, if your insurance company does raise your premium, it may not be so simple to take your business elsewhere. Any premium on a new LTCI policy will still be based on your age, which will be higher, and your health, which may be worse. So no matter when you buy your policy, make sure you can afford the premiums both now and in the future.
Claim #3: It doesn’t matter how the policy defines “facility”
Currently, there are no national standards on what constitutes a long-term care facility. This means that an “assisted-living facility” or “adult day-care facility” may mean one thing in a particular policy or state and another thing in a different policy or state. This can pose a problem if you buy the policy in one state and then retire to another state–there may be no facilities in your new state that match the definitions in your policy. To protect yourself, make sure you understand exactly what types of facilities the LTCI policy covers before you buy it.
Claim #4: It’s not necessary to check the financial rating of the insurance company
A large number of unexpected long-term care claims could potentially devastate an insurance company that isn’t financially strong. So before you buy an LTCI policy, it’s always a good idea to check the company’s financial rating by using a rating service like Standard & Poor’s, Moody’s, A. M. Best, or Fitch. You can also check with your state’s insurance department for more specific financial information on particular companies.
Claim #5: You should get rid of the policy you have now and buy a new one
Although in some cases a new LTCI policy might have an attractive added benefit that your old policy doesn’t, red flags should go up if an insurance agent encourages you to ditch your old policy for a new one without providing a clear explanation of the added benefits. For one thing, your premiums are based on your age and your health at the time you purchase the policy, so all other things being equal, your new policy will be more expensive. For another, you run the risk that a pre-existing condition won’t be covered under the new policy.
If you’re unhappy with your current policy, an alternative may be to upgrade it rather than replace it (though the agent earns a larger commission if you replace it). Unfortunately, there are unethical agents who make misleading comparisons of LTCI policies in an attempt to get you to switch policies for no reason other than their commission. If you’re considering switching policies, make sure you understand exactly what the new policy offers, whether this additional coverage is important to you, and what you’re giving up.
Great post, Jean. Your warnings and advice should be heeded.
One good thing, although LTCi premiums can be increased, fortunately, most of the leading long term care insurers with 20+ years of experience have had small or no increases on their LTCi policyholders.
Regarding tax-favored ways to pay for the premiums, I’ve discovered six:
1) Someone who has part-time or full-time self-employment income (e.g. home-based business, consulting work, etc…) can usually deduct some (if not all) of the LTCi premium under the “Self Employed Health Insurance Deduction” on the front of form 1040. The LTCi premium for the spouse of the self-employed person can also be included under this deduction.
2) Owners of Health Savings Accounts (or Medicare Savings Accounts) can use money in the HSA to pay for some, if not all, of their LTCi premium on a pre-tax basis.
3) With the passage of the Pension Protection Act, retired public safety workers(e.g. firefighters, law enforcement, paramedics, etc…) can make tax-free withdrawals from their retirement accounts to pay for their LTCi premiums.
4) Business owners of Partnerships, S-Corporations, and C-Corporations can also pay for LTCi premiums and write it off as a business expense. In the case of a partnership or an S-Corp, the business deduction would then usually be counted as personal income, but it could then be deducted under the Self Employed Health Ins. Deduction.
5) If none of the above applies, those who itemize their federal income tax return, can include much, if not all, of your long term care insurance premiums towards their medical expense deduction on Schedule A.
6) Lastly, many states have income tax deductions or credits for their residents who own LTCi. State governments are increasingly encouraging the ownership of long term care insurance and tax incentives are just one way they are doing that.
Scott A. Olson
http://www.LTCInsuranceShopper.com
Thanks for your comment, Scott.
You make several excellent points about ways to save on taxes when purchasing long-term care insurance. Business owners definitely have good options to deduct long-term care premiums, and anytime you can pay for something with pre-tax dollars (like your H.S.A. or pre-tax retirement funds examples above) it helps reduce your net effective cost.
My primary issue with how long-term care insurance is marketed as a “great tax deduction” for non-business owners falls under your item 5 above. With medical expenses being subject to a 7.5% floor of adjusted gross income before they can be deducted, it’s very unusual for individuals/couples who can afford to purchase long-term care insurance to actually be able to take the deduction. It can be an unpleasant surprise come tax season if you think you’re going to get this great write-off and find out you’re nowhere close to qualifying.
Thanks again for your comment!
You’re right on target, Jean.
The “tax deduction” that is available for most people is a “phantom deduction”. Very few people have enough in medical expenses to be able to deduct it.
There is some legislation that might squeak through Congress this year that would allow for 125 plans to be used to pay LTCi premiums on a pre-tax basis. That will be nice if that passes.
Keep up the good work!
Scott