ON RATE INCREASES
This latest round of Long-Term Care Insurance rate increases in California has compelled us to create a brief explanation outlining the context and available options for your clients, and perhaps even serve as a guide for you to manage these conversations. We sincerely understand the difficulty in addressing these increases with your clients. We have found that a little context and explanation truly goes a long way in these circumstances. We aim to provide some helpful information about the need for these increases and your clients' next steps.
These are the key points to remember:
These rate increases are warranted.
The California Department of Insurance is naturally inclined to protect consumers against unnecessary rate increases. Rates need to be stabilized.
These policies are still discounted.
The increases may seem steep, but the fair market price for these plans is still significantly more expensive, and in many cases irreplaceable in today's marketplace.
These policies work.
The need has never been more obvious. Approximately 70% of people who reach age 65 are expected to need some form of long term care at least once in their lifetime (NAIC Shoppers Guide to LTC Insurance).
While life insurance was established hundreds of years ago, and disability insurance approaches its 100-year anniversary, long term care insurance was first designed in the 1970s and reached a mass market in the 1980s. As a reminder, the traditional LTC buyer is in their 50s and 60s. That means that these initial policies have begun to mature in the past 5-10 years, and we are seeing the effects of a series of poor assumptions made by the original group of LTC actuaries. 40 years into LTC distribution, and we are experiencing something of a mid-life crisis for this middle-aged product. Here's how we got to this point.
LTC insurance was constructed with a conservative lapse rate assumption of 5%. That means that out of every 100 policyholders, 5 would lapse their policies, resulting in sheer profit for the carrier. This follows a pattern similar to life and disability insurance. However, less than 1% of LTC policyholders have lapsed their policies. That may seem like a small difference, but it is significant when evaluating the insurable risk of each of those policyholders who were assumed to lapse, but did not.
In addition to erroneous lapse assumptions, projections for the rates of usage have far exceeded the claims assumptions made with the original policies. Assisted living communities and homecare services were not necessarily promising, bountiful industries in the 1970s and '80s. Instead, people stayed at home and were commonly cared for by their family, with only very serious cases requiring skilled nursing in a facility. Today, 70% of claims begin in the home. People have adapted to understand that care is a normal part of aging. The familiarity of homecare in conjunction with the rapid increase in Alzheimer's and dementia has resulted in astounding claims figures that far exceed the original projections.
In addition to faulty assumptions for lapse rates and claims, LTC actuaries mispriced the value of some truly robust policy structures. Unlimited benefits were commonly sold, resulting in long-term duration claims that have paid several claims of over $1M to a single insured. The pricing for unlimited risk was not that much more expensive than a 4- or 5-year benefit duration. The cost to the carriers, however, have become a bigger issue, and they are working to corral that risk by issuing reduced benefit options as an alternative to the vast increases. Notably, claimants with an unlimited benefit period also begin claims earlier than those with a finite benefit period.
Aside from lapse assumptions, claims, and longevity, probably the most damaging of all the inaccurate assumptions has been the approach to inflation riders which were almost always purchased on long-term care insurance policies. Most plans offered a moderate price increase to secure a 5% guaranteed compound inflation rider. That means a plan starting with a monthly benefit of $5,000 would double to $10,000/month in approximately 15 years, and then double again to $20,000/month after another 15 years. Multiply this growth by an unlimited benefit duration, and it’s easy to see how rate increases started to appear necessary. It may have been manageable to address the policy inflation rates in a different time, such as the 1980s when interest rates were significantly higher. However, insurance carriers are required to hold a high proportion of low-yield bonds, which were especially low while federal interest rates were less than 1% (average over 10 years). That has made it difficult to sustain mandatory 5% inflation on a large block of LTC policies.
Policyholders subject to the announced rate increases will be sent a notice by mail. The client can select one of several options.
1) Pay the Increase
The planned premium increase for Partnership policies is 40% over three years, or 13.3% per year. Non-partnership plans are subject to increases that vary, but can be as high as 80%. This is a lot to ask for most people. The aftershock has been loud and enduring. But paying the premium is still the best value when you consider current-day prices. The context, comparing to today's rates, has been a very helpful conversation for many existing clients. After all, unlimited lifetime benefit periods are not even available in the Tax-Qualified LTC marketplace. That means these benefits are literally irreplaceable, and even invaluable to those who are concerned about a long-term dementia or Alzheimer's scenario that could last many years.
We reviewed 14 in-force policies, all designated for a rate increase in 2019. The scheduled premium increases had gone up as high as 80% in some cases. We compared the post-increase premium to a comparable plan based on the policyholder's original age. And on average, the new business premium based on original age was still 49% more expensive compared to their existing policy after the increase.
Example: Jane and John purchased a plan in 2006. Their original ages are 50 and 52, respectively. They bought a policy for $200/day for 3 years. This includes 5% compound inflation, bringing the $200/day to $377/day and still increasing at a rate of 5% year-over-year. The plans were originally priced with annual premiums of $1,816 and $1,905 for Jane and John, respectively. After an 80% increase, these plans will cost $3,270 and $3,430, respectively. A significant uptick. However, it is important to contextualize this increase by contrasting their premiums with a 50-year-old female and 52-year-old male purchasing today, with a maximum plan design of $333/day for 3 years at 5% compound. This comparable plan costs $10,472 for Jane and $6,182 for John, a percentage difference of 69% and 45% higher than their existing policy after the increase (and for less benefit).
2) Adjust the Benefit
In the rate increase announcement, there are several options to pare down the policy benefits if the insured would like to retain the highest benefit possible while keeping the same or similar premiums. Usually this results in an adjustment to the 5% inflation rider, but can also be mitigated with a reduction in benefit period, especially the unlimited policies, which are being offered a reduction to 4 or 5 years in many cases. Benefit reductions can be difficult, but most LTC needs are met with a 4-year benefit period, and the rate of inflation for LTC services has slowed to an annual rate of 1-3%.
3) Accept the Nonforfeiture
Many of these rate increases are going to trigger California's Contingent Nonforfeiture Benefit. This feature is built into every policy sold in the state of California. The Contingent Nonforfeiture can be executed if a policyholder experiences a rate increase above a certain age-based threshold (this is the "contingent"). If the contingent (the above-threshold rate increase) is met, the rate increase is higher than the acceptable age-based limit (again, based on age), then the policyholder has the option to walk away with a paid-up policy that is equal to the amount of premiums they have paid over their lifetime.
Example: If a policyholder pays $2,000 a year for 20 years, and they experience an 80% rate increase, which is above the age-based threshold on the contingent nonforfeiture limits, then they have the option to stop paying premiums and walk away with a paid-up policy of $40,000 ($2000 x 20 years).
4) Replace the Policy
The faulty assumptions detailed above are the main reasons for in-force rate increases but new business premiums have also been affected, as illustrated previously. LTC insurance has matured and actuarial tables have been adjusted to reflect a more accurate pricing model. The new business premiums are dramatically more expensive than any round of rate increases we've seen imposed on existing business. New business rates, in addition to any potential health conditions that have arisen with age, conspire to eliminate replacement as a viable solution.
5) Lapse the Policy
The final option is to lapse the policy. There is virtually no benefit to lapsing the policy aside from future premium savings. If a policyholder is truly considering a lapse, it would be wise to first check the their options under the Contingent Nonforfeiture Benefit.
WE ARE HERE TO HELP
This latest round of rate increases has been difficult, but it is significantly easier if you are able to explain the context of these increases, as well as the options available to your clients. We welcome any questions you may have as these rolling increases are administered to your LTC clients.
Maxwell Schmitz, MSFS
DI + LTC Insurance Services, Inc.