If you are a financial advisor and want to help your client plan for long-term care (LTC) risks, it's important that you understand the very specific LTC product designs. By understanding the differences between two basic designs, you will not only be better prepared to help plan for your clients' LTC risk, you may also help yourself avoid litigation.

 

Life insurance has two core designs: term and the permanent. And long-term care insurance has two basic designs as well: reimbursement and indemnity. From these two, there have evolved hybrid creations that now exist in both the life insurance and LTC markets. We will focus on the two most important product designs of LTC insurance: on a form of reimbursement called a cash model and on the core indemnity design. To choose the product that best serves your client's plan goals, you will need to understand how these two programs work.

Cash Model
First, let's take a look at the cash model. In the LTC insurance marketplace, this design is the simplest to understand, though it is also the most expensive because the insured receives the total monthly benefit, paid in cash, and gets to use the money any way he or she sees fit.

Here is how the cash model works: Once your client meets the qualifiers to become claim eligible, he or she receives a monthly check for the total monthly benefit. Your clients or their caregivers can then spend the money to purchase anything they wish. Unlike an indemnity policy, the cash model does not require the use of licensed care for the client to be eligible for benefits. This model offers your clients total freedom to seek whatever care they deem is needed by any provider and in any manner they consider appropriate. For example, with their cash payment (which was tax free up to $98,550 in 2008) they may purchase anything from the latest and greatest technology to find a more comfortable lifestyle (such as a van with a lift to get them to their doctor's office). They could use the cash to pay for their monthly living expenses or could even save and invest the cash for later use. Remember, the model does not require licensed care to trigger this benefit.

From a planner's perspective, the LTC cash model is the ultimate planning product because it provides the planner with the ability to know, at all times, how much monthly income a client will receive when on claim. The claim could happen tomorrow or 40 years from now, but the policy provides the definitive information necessary to help the planner design the most appropriate risk-based planning for his or her client.

Here is an example of how a LTC cash model works:
Let's assume five years from now the client has $12,000 per month of benefits and is now on claim and benefit-eligible. Let's assume that the client is cared for at home by a family member and incurs $6,000 this month in expenses. You can see from the example below that the client would receive the full $12,000 in benefits, since this model does not require licensed care for the client to get the money.

Cash Model
$6,000 monthly incurred expenses
$12,000 cash LTC benefit due and received
$6,000 cash benefit in excess of current need

The excess cash benefit that is not needed to cover LTC expenses ($6,000 in this case), could be deposited in the client's investment portfolio to be invested and earmarked for future use should the policy benefits be exhausted. If the client does pass away, then the excess benefits would go to his or her beneficiary.

Indemnity Model
The alternative is an indemnity policy. The basic design incorporates at least one item from the standard reimbursement product (the need for licensed care) as well as offering daily cash as the cash model does. The reimbursement model requires that, in order for benefits to be paid, they must be from a licensed caregiver and for licensed eligible expenses.

Thus, the indemnity model "requires" that the client receive at least one hour of licensed care per day in order to be benefits-eligible. Once this occurs, the full daily benefit is paid in cash regardless of the charge.

Here is an example of how an indemnity product would pay a benefit:
Assume that you have the same benefit amount you did in the cash model example. The client has $12,000 of monthly benefits available; however, the indemnity model typically pays out its benefits based on a daily amount which, in this example, is equal to $400 per day. To calculate the client's monthly benefit, this daily amount is multiplied by the total number of days that the client received at least one hour of licensed care. At the end of the month, the insurance carrier will total up the number of eligible days and multiply it by the daily benefit and send the client a check for that amount. For example, if the client has 15 days of at least one hour of licensed care, his or her monthly benefit would be $6,000 as calculated below:

Indemnity Model
$12,000 month/$400 per day benefits
15 days of licensed eligible care
x $400 per day = $6,000

In this example, the remaining $6,000 of eligible benefits remains in the policy (i.e., in the insurance carrier's hands) and is to be used for your clients' benefit if they need it in the future. The indemnity model will not pay out the full $12,000 in benefits unless the client has 30 days of at least one hour of eligible licensed care per day.

Let's again look at a side-by-side comparison of the payout of both models:

Cash Model
$12,000 monthly LTC cash benefit due
$6,000 monthly incurred expenses
$12,000 cash benefit received

Indemnity Model
$12,000 month/$400 per day benefits
15 days x $400 per day
$6,000 indemnity benefits received

It is very important to understand the differences between these two different programs. The fact is that both models do pay out a cash benefit. However, if the qualifications for indemnity benefits are not properly explained (as in the example shown), your client may believe they are entitled to the $12,000 per month instead of the $6,000 per month that they are in fact due.

Product pricing reflects the differences in these models. An indemnity policy is typically anywhere from 40% to 60% less in cost than a typical cash model. The difference depends on the age and health of your client; however, in all circumstances, the cash model comes with a higher price tag to reflect the unlimited options it provides to the planning process.

It is apparent that each design provides a value benefit and may play an appropriate role in the planning process. It will be up to you and/or the LTC insurance specialist to whom you outsource your business to decide which model best fits your client's needs.

William R. Dyess is executive vice president in charge of the Financial Services Division at Gelbwaks Insurance Services Inc. He also is a vice president of the National LTC Network, the largest LTC marketing organization in the country.

Harold Evensky CFP, AIF, is president of Evensky & Katz in Coral Gables, Fla.