One of the major demographic changes happening in most developed countries is the aging of the population. Thanks to better medical infrastructure, new and more effective medical treatments and overall better quality of life, US citizens today are able to outlive people from other less developed countries. This has had a big impact on the way we prepare for retirement since it increases the time we need our savings to last. Additionally, it increases the chances that, in the end, we’ll need some sort of long-term care (LTC) such as help bathing, walking or going to the bathroom.
It’s needless to say that most pension funds are unable to cover the expenses that long-term care implies. In most cases, not even complementing your pension fund with parallel sources of passive income may be enough. One way around this has been the purchase of LTC insurance, which are policies that guarantee coverage of your LTC expenses should you need them, after paying an annual premium from an early age. While this has been the go-to solution for those who can afford it, the LTC insurance market has all but collapsed due to a lack of both offer and demand. According to Harvard economist David Cutler, this is due to the fact that most available policies don’t fully cover LTC expenses or charge prohibitively high premiums when they do.
The solution to this conundrum has emerged as guaranteed retirement income contracts or annuities with LTC coverage. Since these are popular products that help ensure being able to afford long-term care, should you need it, here are 5 important facts about annuities and LTC you should consider when deciding whether or not this is the retirement solution for you.
#1 LTC annuities are specifically designed to cover long-term care
Annuities are popular products when it comes to retirement planning. They are designed to provide a guaranteed income stream once you retire in exchange for a single lump sum paid as a premium. They’re a way to protect your money from the volatility of investing in stocks or other risky assets. However, in most cases, the income these annuities generate is not enough to cover the expenses required for long-term care.
One way to work past the limitations of regular lifetime annuities is to purchase a deferred long-term care annuity instead. You can purchase these annuities years after retiring, normally up until you turn 85. Contrary to other types of contracts, these annuities work as a sort of insurance with a single premium that will start paying for long-term care as soon as needed. In other words, the moment you require long-term care, you will start receiving your monthly income to pay for it. I should note that this income can only be used to pay for long-term care and not for any other expense you may have.
LTC annuities can also provide a fixed amount of additional deferred income for other expenses but, contrary to the LTC income, which kicks in as soon as you need it, the additional income will only start coming in after the deferral period ends, which can be problematic.
#2 Annuities with LTC riders can cover both everyday expenses and long-term care
Annuities offer many options when it comes to covering long-term care. While stand-alone LTC annuities have their pros and cons, you can take advantage of both fixed and indexed, as well as other types of annuities to cover long-term care by adding an LTC rider to the contract.
The way this works is that you’ll earn your normal income from your annuity as per the type of annuity you purchased (deferred, immediate, fixed, indexed, hybrid, etc.). Your “normal” income (that is, without LTC income) will depend on your age, gender, overall health and the premium you pay. However, suppose you ever need long-term care. In that case, the value of your account is multiplied by two or three (depending on the contract), and you’ll immediately start receiving the corresponding income based on the new account value.
#3 LTC annuity benefits can be inheritable
One question that crosses almost everyone’s mind is what happens if I purchase an annuity for, say, $200,000, but I die shortly after purchasing it? Or, what if I purchase a $100,000 LTC annuity but then live the rest of my life in good health and pass away peacefully in my sleep without ever needing long-term care?
If you think you’ll lose all of your investment, you’re thinking about annuities as if they were regular insurance policies, which they’re not.
When you buy an annuity, be it a normal lifetime annuity, an LTC annuity or an annuity with an LTC rider, you come to own the benefits. In other words, you’re entitled to the income from the moment you purchase your annuity. Consequently, if you pass away before consuming the benefits to which you are entitled, you can pass those benefits down to your heirs as you would any other property. In the end, your money will be protected, and so will the ones you love.
#4 The portion of your annuity that goes towards LTC is tax-free
Another important fact you should know about LTC income from annuities is that it is tax-free. This makes it a particularly attractive way to invest for your retirement and make the most of your savings. Also, depending on how you paid for your annuity (with funds from a Roth IRA, for example), even the normal income may have tax benefits. This applies to fixed income annuities. However, in the case of indexed annuities that may generate extra income when the portfolio performs well, the extra income from those investments will be taxed as regular income.
#5 The insurance company will not raise your premium
Finally, something that sets annuities apart from LTC insurance is that there is no risk of the insurance company suddenly raising your premium since you only make a one-time payment when you purchase the annuity. The entirety of the risk related to inflation or other factors that might otherwise affect the levels of the premiums paid are all assumed by the insurance company.
The Bottom Line
LTC annuities offer several benefits compared to LTC insurance policies. The most important benefits include tax deductions, paying only a one-time premium after which you own the benefits regardless of whether you use them or not, and the possibility of passing the unused value of your annuity down to your heirs in case you pass away before using it. It is a smart way to protect your savings and your well-being during retirement without the risk of escalating LTC insurance premiums that you may not be able to afford in the future.
If you’re worried about becoming a financial burden for your family as you age, investing in some sort of LTC coverage is essential, and annuities are some of the smartest investments you can make.
