November, 2007 Newsletter
Provided by Leimberg Information Services
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Long Term Care Insurance and Estate Planning
Carol G. Einhorn is a nationally known long term care insurance specialist. She is a partner with Arbor Associates, an estate, financial planning and insurance firm with branches in New Jersey and Pennsylvania. Carol has authored many articles about long term care insurance, including "Long Term Care Insurance: The Ten Most Commonly Asked Questions" with Stephan R. Leimberg.
In addition to her own long term care insurance production, Carol works as a consultant for accountants, attorneys, insurance agents and financial planners who use her expertise and knowledge as "value added" by providing continuing education courses, presenting seminars, and meeting with clients and prospects to address the issues of long term care insurance.
Carol challenges traditional thinking about long term care and some of our clients – even some of our wealthier clients.
A competent financial professional involved in estate and financial planning would never ignore a potential ongoing annual expense of $100,000 to $200,000 in a sound retirement plan! Yet, that is exactly what far too many lawyers, accountants, insurance agents and financial planners are doing when they fail to encourage their clients to protect their hard-earned assets – or encourage their clients' children to protect their inheritances - with long term care insurance.
Although long term care insurance is not a panacea, it is certainly an important tool to help preserve and protect a retirement nest egg or an estate, and in certain cases should be considered - even by wealthy clients.
FACTS AND COMMENTS:
LONG TERM CARE DEFINED:
Long term care insurance is a policy or rider which will provide (via a prepaid indemnity, expense-incurred, or other benefit basis) coverage for at least 12 consecutive months in a setting other than a hospital.
Services to be provided by such insurance include:
· medically necessary, or
· personal care.
WHERE LONG-TERM CARE IS PROVIDED:
This care may be provided in:
· a nursing home,
· assisted living facility,
· adult day care center or
· at home.
WHY MEDICARE AND MEDICADE WILL NOT WORK FOR MOST CLIENTS:
Although many people mistakenly believe that Medicare will take care of most long term health needs once they reach age 65, Medicare pays for less than 2% of long term care costs.
Medicare will pay a portion of the first 100 days in a nursing home if the following four criteria are met:
· Care must be skilled
· Nursing facility must be Medicare participating
· Nursing home care must follow (within thirty days of discharge) at least a three day hospital confinement
· Care must be restorative in nature
Medicare will pay very limited amounts for home health care and rarely for any assisted living facility care. In short, Medicare was designed for acute care, not ongoing long term care.
Similarly, Medicaid is often not a viable option to pay for long term care. Certainly, if an individual has no assets, Medicaid can be a valuable program to pay for care in a nursing home (not assisted living and limited for home health care).
For those individuals for whom estate planning is being done, Medicaid is not an ideal approach to consider for a variety of reasons which follow:
· 60 month look back. The look back period for transfer of assets is now 5 years
· Gift taxes - giving away money to falsely impoverish oneself can lead to both federal and state gift taxes
· Loss of control of assets
· Limited choice of facility
· Loss of independence
Since the likelihood of requiring some long term care in one's lifetime is rather high (studies predict that 40% of the 32 million Americans currently aged 65 and over will spend time in a nursing home at some point in their lives), it makes sense to prepare for the potential costs of long term care.
Indeed, many attorneys now believe that financial advisors who do NOT address the risks associated with the costs of extended health care, can be considered negligent and may face not only the wrath of spouses or children, but a potential lawsuit as well.
VIABLE SOLUTIONS TO LONG TERM CARE NEED:
Since Medicare, Medicaid and the typical health insurance policies basically do not pay for long term care, there are only two viable options should this expense become a reality.
Choice 1: Self-Insure and Take Your Chances.
Some individuals may elect to take their chances and pay for care should it become necessary. In particular, the very wealthy may be tempted to take this approach.
We financial planners are often in agreement with this line of thought. However, perhaps we should reconsider.
How many of your clients have homes valued at $1 million or more? In the aftermath of the terrible fires in Southern California, we can realistically ask ourselves and our clients what would happen should they lose their home. Perhaps some, maybe even many, could rebuild their home without significantly depleting their assets.
But do any of the individuals you know or work with take this risk and NOT purchase homeowners coverage? The likelihood of the loss of a home is 1 in 1200. I presume none of us, as estate planners or financial advisors, would ever recommend to our clients that this type of insurance is unnecessary. Yet, many of us are simultaneously ignoring an immensely greater risk (2 in 5 if one lives to age 65 and 1 in 2 after age 84)- the risk of needing long term care. Therefore, we truly need to ask ourselves if we are providing the best advice by either encouraging (or simply not discouraging) our clients to self-insure.
Choice 2: Shift and Share Risk. The more reasonable and responsible solution to the enormous potential costs associated with long term care is to explore long term care insurance options with our clients.
VARIABLES IMPACTING ON COST OF LTC COVERAGE:
The options available and flexibility possible are almost limitless. The variables that affect the cost of these products are the following:
· Daily or monthly benefit amount
· Length of benefit period
· Waiting period
· Type of inflation protection
· Individual's health and age
Generally, the younger one is when the insurance is purchased, the lower the overall cost over time.
Underwriting is often difficult. Seemingly "healthy" people are often declined (a real example of a woman tri-athlete I worked with who had unfavorable bone density numbers was declined and, ultimately, two years later accepted with a rating). As we age and become less healthy, we require more medications and care. Of course each company has its own underwriting standards, its own "bells and whistles" on its policies and its own "sweet spots" for certain ages or conditions.
In addition, there are many combination-type policies including shared long term care policies for couples/life partners, survivorship type benefits, long term care insurance coupled with annuities or universal life policies, etc, that carriers are offering. Working with an agent knowledgeable about these products and differences is essential.
Most long term care policies are "tax-qualified" policies. That means, for the individual, that some or all of the premium can be taken as a medical expense deduction (the amount eligible for the deduction is age-based and adjusted annually for inflation) to reach the 7.5% adjusted gross income threshold that the law allows.
There are significant tax benefits for businesses as well associated with the purchase of LTCI. (A more detailed explanation of tax-qualified long term care insurance is presented below).
These plans are designed to pay a benefit when either one of two events happens:
a. Cognitive impairment (Alzheimer's dementia, memory loss) or
b. the inability to perform two of six activities of daily living (eating, dressing, bathing, toileting, transferring, continence) as long as a health professional certifies that the care is likely to last at least 90 days.
Generally, the benefit can be paid at home, in an assisted living facility, in an adult day care center or in a nursing home.
As financial advisors, we need to ask our clients the tough questions. Questions such as,
"What would you do if you were suddenly faced
with an additional monthly cost of $9,000?"
Indeed, an exploration of long term care insurance is a vital part of what we do to adequately protect our clients'estates.
Tax Treatment of Long Term Care Insurance
As I noted above, there are numerous compelling reasons for our clients to consider the purchase of long term care insurance. Although the distinct tax benefits of these policies is not the most significant of these, a discussion of potential tax advantages may serve as a motivational tool. I'll outline the key tax implications of long term care insurance policies – but of course - clients should consult with their own tax advisors.
TAX IMPLICATIONS OF TAX QUALIFIED POLICIES:
In general there are two types of long term care policies that are available- tax qualified policies (TQ) and non tax qualified plans. Although the IRS has not ruled definitively on the taxability of benefits received from a non tax qualified policy, they have definitely determined the preferential treatment of tax qualified LTCI policies.
Most, but not all, of the plans being offered by insurance companies today are TQ policies.
There are differences that should be noted between the two types of plans:
Non-Tax Qualified policies. The contract wording of non-tax qualified policies is generally a bit more liberal than the TQ plans. With a non TQ policy, benefits may be paid when any one of three triggers happens:
· Care is medically necessary, or
· Inability to perform 2 of 6 activities of daily living, or
· Cognitive impairment
Tax Qualified Policies. With the Tax Qualified policies, the first trigger (medically necessary care) is eliminated. In addition, a health care professional must certify that the care is likely to last 90 days (i.e. it is truly long term care); in addition, the wording of the two triggers is a bit more stringent (although somewhat unclear)
· Need for SUBSTANTIAL assistance with 2 of 6 activities of daily living, or
· Require SUBSTANTIAL supervision due to presence of SEVERE cognitive impairment
The Health Portability and Accountability Act of 1996 enabled the IRS to treat TQ long term care insurance policies like accident and health insurance and are treated as a deductible medical expense under Code Section 213(d).
Medical expenses are currently limited to the excess over 7.5% of a taxpayer's adjusted gross income. (IRC sec. 213 (a) ).
Qualified LTCI premiums are premiums that do not exceed the age-based limits established by the IRS as listed below. These limits are adjusted annually for inflation.
Eligible Long Term Care Insurance Premiums
Age attained before 2007 Maximum Deduction
Close of Tax Year Per Individual
40 or less $ 290
41-50 $ 550
71 and older $3,680
Many states offer tax credit or an income tax deduction for LTCI premiums paid.
In addition, long term care benefits are received tax-free up to $260 per day in 2007 (IRC sec. 7702B(d) ) and may be tax free for more than that if the actual expenses exceed that amount.
A self-employed individual may deduct 100% of the eligible premium for a qualified LTCI policy as an above-the-line business expense if:
· The business pays the premium, and
· The individual is not covered by a LTCI policy maintained by the individual's or spouse's employer (whether or not the individual or spouse actually participates).
Corporations, Professional Corporations and Profit Organizations
C Corporations may deduct all premiums for tax-qualified LTCI for its employees, their spouses, and eligible dependents (IRC sec. 152).
Even premiums in excess of the age-based limits described above are deductible.
A plan may be selective, covering one or more employees/spouses and there may be different plans for different employees or classes of employees/spouses.
Partnership and limited liability coMPANIES
Generally, a partnership or LLC may deduct all premiums it pays for LTCI for its employees, their spouses and eligible dependents (IRC sec. 152 and 162).
The premium is not included in the employee's income.
The partnership may pay the premiums for partners.
As long as the LTCI premiums are paid without regard to partnership income, they will be considered "guaranteed" payments under IRC sec. 707(c). Therefore, they will be deductible by the partnership and includable in the partners' incomes.
The partners are then treated by the IRS as self-employed persons and follow the guidelines for self-employed persons with LTCI.
The tax treatment for S Corporations depends upon whether or not the participating employee owns more or less than 2% interest in the S Corporation.
If the participating employee does not own more than 2% interest on any day during the tax year, the entire TQ LTCI premium for the employee, spouse and dependents is deductible by the business as long as the premium is paid by the business. The premium is not included in the employee's income.
If the participating employee does own more than 2% interest in the S Corporation, the employee is treated like a partner of a partnership, i.e. premiums are deductible by the corporation and included in the employee's income. The employee is then treated by the IRS as a self-employed person and follows the guidelines for a self-employed person with LTCI.
If an employer and employee split the cost of a long term care insurance policy, the employer receives the same federal income tax treatment on the portion of the LTCI premium it pays that it does on the entire premium in a situation where the employer pays the entire premium.
Health Savings Accounts and Long Term Care Insurance
The Medicare Act of 2003 which enables individuals to create HSAs , allows contributions to an HSA to be made on a pre-tax basis.
In addition, withdrawals for qualified medical expenses are made tax-free.
TQ LTCI premiums are a qualified medical expense (IRS Notice 2004-50, Q and A 41). As such, an individual may withdraw money tax-free from their HSA to pay TQ LTCI premiums (with the age-based limitations listed above).
There are significant reasons why many clients should consider long-term care coverage – and many distinctive tax advantages associated with the purchase and utilization of long term care insurance. Professionals should learn the pros and cons of long-term care coverage and when it can provide an appropriate measure of protection for hard earned assets. In some situations it may be wise for children to pay premiums on such coverage for their parents – particularly if the burden would be shifted to the children in the event care is needed but not affordable by their parents.
HOPE THIS HELPS YOU HELP OTHERS – MAKE A POSITIVE DIFFERENCE!
Steve Leimberg's Estate Planning Newsletter # 1198 (November 5, 2007) at http://www.leimbergservices.com/ Copyright 2007 Leimberg Information Services, Inc. (LISI).
A client-oriented PowerPoint Presentation entitled, Long-Term Care: The Ten Most Commonly Asked Questions is available at http://www.leimberg.com/ . Client-oriented brochures entitled "Long Term Care Insurance: The Ten Most Commonly Asked Questions" are available at the same web site or by calling 610 924 0515.
Carol Einhorn can be reached at 267-852-0222 or firstname.lastname@example.org
All NAEPC-affiliated estate planning councils are eligible to receive a discounted subscription rate to the Leimberg LISI service. Please see more information about the offering. You may also contact your local council office / board member to find out whether they are offering the service as a member benefit.