Mitigating Long Term Medical Cost with a HECM
Just under 80 million baby boomers (born between 1946 – 1965) live today in the US. Every day, 10,000 boomers turn 65 years old. Boomers will likely live 2-4 years longer than the preceding generation (the Traditional Generation). Quality of life factors like interest in physical fitness; active engagement in life post retirement; encore career and heavy volunteerism; close relationships with children and grandchildren; and a cultural sense of optimism drive the boomers’ extended longevity. Due to this extended life expectancy, the boomers will likely require more long term health care as they age.
Someone turning 65 years old today has an almost 78% chance of needing some type of long term medical assistance in the future. Of those turning 65, 20% will need care in excess of 5 years. On average, women have a longer care duration (3.7 years) than men (2.2 years). A need for long term medical care arises when a person fails to perform two of the six Activities of Daily Living (Long Term Care http://longtermcare.gov/the-basics/glossary/).
Costs for long term care are already high and will likely continue to increase at rates greater than inflation. Home health care represents the most popular form of long term care. Today, the average cost for home health care is $50,300 (based on 44 hours per week/52 weeks each year). This will escalate to $76,100 in 2030, the year in which the youngest boomer turns 65. Currently, a private room in a nursing home costs $125,900 annually; and experts project it will escalate to $190,400 per year in 2030. (Genworth Study https://www.genworth.com/)
|Escalating Annual Cost Projections for Long Term Medical Care1|
|Home Health Care2||$50,300||$76,100|
|Private Nursing Home Room||$125,900||$190,400|
|Assisted Living Facility4||$58,020||$87,760|
|1From Genworth Study https://www.genworth.com/
2Based on 44 hours per week/52 weeks per year
3The year the youngest boomer turns 65
4Based on 12 mo care; private 1 bedroom
It’s critical that boomers develop a financial plan to address potential long term care needs in their later years. Otherwise, they risk burdening children and other loved ones with the financial and emotional fallout. There are several possible strategies for covering the financial aspect of long term medical care. Rarely do individuals rely on one of these strategies alone for covering future medical care expenses; rather, these provide the most thorough protection when used in combination. Below you can read a brief overview of the first three, then learn about the fourth strategy, the Home Equity Conversion Mortgage, in greater detail:
- Purchase Insurance
- Home Equity Conversion Mortgage
Medicaid: This federally funded program pays the largest share of long term care services. In addition to meeting the criteria of failing to succeed at two or more Activities of Daily Living, an individual must spend down most of their assets and have minimal amounts of income available (criteria varies by state). As one can imagine, the quality of care and life is usually not optimal. Those approaching retirement should not plan to rely on Medicaid if they have the means to consider other options.
Self-Insure: Some individuals choose to pay out-of-pocket for long term care expenses. In doing so, they may receive a partial income deduction by including the expenses on Schedule A of their federal tax return. Although this option allows for flexibility, those paying out-of-pocket run the risk of depleting their assets. This could financially devastate a surviving spouse, causing him or her to rely solely on Medicaid. Those considering this option should first consult with a trusted financial advisor to explore the pros and cons.
Purchase LTC Insurance: For those healthy enough to qualify, purchasing a traditional long term care (LTC) policy may represent a good option. These policies require that holders pay premiums, ad infinitum, in hopes they never have to use it. In the event they end up actually needing care, the policy reimburses the caregiver for the associated costs. Most prudent financial planners advocate transferring the financial risk of long term medical needs from self to an established insurance company. One caveat with this option: premiums are not guaranteed. Many of the largest insurance carriers underestimated the future claims and therefore have raised their premiums and/or reduced benefits for LTC policies in the past several years.
Home Equity Conversion Mortgage (HECM): The HECM is an insured FHA mortgage. Individuals over age 62, who own a home with low to no debt, could qualify for this expanding line of credit. The borrower has access to the HECM line of credit and has the opportunity to use it to cover expenses if the need for long term care arises. Borrowers can access these funds with zero tax implications and they are not required to make monthly payments on the loan because it will accrue. If the loan balance becomes greater than the house value, borrowers are not required to pay it back because the loan is nonrecourse. Individuals can use this strategy in combination with self-insuring and/or LTC insurance policy options.
CASE STUDY – James and Katherine – Combining LTC Insurance & HECM
Problem: James and Katherine recently retired. They are both 62 years old with an estate worth $1 million, which includes their primary home. They have no debt on their home, which appraised at $275,000. They each purchased a qualified long term care insurance policy over 10 years ago. The issuing insurance company has the ability to increase the premiums. Recently their insurance company notified them of a 125% increase on the premium for their LTC policies. The company gave James and Katherine 2 options: 1. Pay the higher premium to keep the benefits the same or 2. Accept a lesser benefit amount and pay the same premium. Paying the higher premium on their LTC policies would negatively impact their living standards and financial plan.
How can the HECM help James and Katherine?
Solution: Accept a lesser benefit, continue to pay the same premium and add a HECM to their primary residence! James and Katherine qualify for an initial line of credit of $144,000, which would grow at approximately 6% annually. Assuming they do not access the HECM during their lifetime for other expenditures, at age 75 they would have $322,000, age 80 $439,000, and age 85 almost $600,000 of tax free liquidity. Combine the HECM with a total long term care benefit pool of $251,000 from each of their respective insurance policies, James and Katherine have a more secure retirement future.
|The HECM Augments LTC Insurance Policy Benefits with No Increased Premiums|
|Age 62||Age 75||Age 80||Age 85|
|HECM Line of Credit2||144,0001||$322,000||$439,000||$598,000|
|LTC Max Monthly Benefit3 & Total Benefit Pool||$6,970 ($251,000)||$6,970 ($251,000)||$6.970 ($251,000)||$6,970 ($251,000)|
|1Based on primary residence fair market value of $275,000
2Expanding credit line based on 6% annual growth
3Based on $251,000 total benefit paid out for up to 3 years of care (No Inflation Adjustment)
When it comes to planning for long term care expenses, HECM is not a standalone strategy; rather, it acts as a complement to a comprehensive financial plan, uniquely tailored to you and your needs. When integrated with other sound financial planning strategies, a HECM can help insure against the many negative financial repercussions associated with long term medical expenses or other major financial challenges.
Don’t risk burdening your loved ones with unexpected long term care costs
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Rob O’Dell, CFP®, serves clients in our Naples, FL office. With more than 20 years of personal financial planning experience, Rob knows that successful financial planning involves a distinct process, not a one-time event.
Rob has been featured in the Wall Street Journal, Financial Planning Magazine, The Daily Herald and Money Magazine. He was a contributing author on the Third Edition of the Florida Domicile Handbook. Learn more about Rob O’Dell.
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