Crumbling economy undermines supply of long-term care

All the publicity may not be good publicity after all, the long-term care insurance industry (LTC) found out last month.

The industry named November “National Long-Term Care Insurance Month” in hopes of raising awareness of the “need” for the product. However, most of this month’s press highlighted LTC’s downsides as it focused on the woes of two major insurers, MetLife and John Hancock.

In early November, MetLife announced that it would stop selling LTC insurance as of December 30. While it will continue to provide cover to current policyholders, it will no longer be writing new policies. It will also stop new enrollments in group policies and multi-life plans from next year.

Meanwhile, John Hancock asked state regulators for an average rate increase of 40 percent on most of his existing policies. The insurer also plans to increase the price of new policies by 24 percent in 2011. John Hancock has stopped selling policies to employers who offer the coverage as an employee benefit, but unlike MetLife, it will continue to sell individual policies as long as it can find anyone willing to pay its new rates.

There was not a single event in November that collapsed MetLife and John Hancock’s LTC business. These two announcements were just the latest signs of the slow decline of the LTC insurance industry as a whole. The problem is not the economy or any other environmental factor; it is that selling LTC insurance is an unprofitable business.

The purpose of insurance is to spread the cost of a highly unlikely and catastrophic (read costly) event over a group of people. Instead of risking a potentially large loss, the insured takes a small, known loss in the form of a premium. The key is that the event must be unlikely. If it is too common, affordable premiums will not be able to cover the costs of the claims and still make a profit for the insurer.

As any insurance agent would attest, the likelihood of us needing long-term care as we age approaches certainty. The risk no longer fits into the ‘unlikely’ category and insurance becomes an inefficient and inappropriate solution.

As claims increase, the insurer passes the costs on to policyholders in the form of higher premiums. However, increasing the bounties is only a temporary patch. Once premiums rise, those with lower risk abandon their expensive policies. This leaves an even larger pool of risk to share costs, exacerbating financing problems.

Persistently low interest rates accelerated the industry’s current deterioration. Insurers have been unable to earn enough rates on their investment portfolios to fund policy payouts, and so have relied even more on premiums. According to the American Association for Long Term Care Insurance, insurers must raise premiums by 10 to 15 percent to make up for every 1 percent drop in interest rates.(1) Interest rates are unlikely to rise enough in the foreseeable future to stress on insurers.

MetLife swears that current long-term care policyholders will not be affected by the recent decision. They stay covered as long as they pay their premiums and they can even change their terms of coverage depending on what their specific policies allow. However, it is unlikely that the current insured will remain completely unharmed. Without a younger, healthier group of policyholders entering the pool, MetLife will have a hard time finding the money to cover its claims. As a result, the company will most likely have to raise premiums on its remaining long-term care policies to cover its costs.

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In its press release, MetLife acknowledged that LTC insurance in its current form cannot strike a balance between financing claims and business objectives.(2) That is, the business is unprofitable. However, MetLife suggested that it may return to the market if a profitable product is ever developed.

That profitable product can take the form of a hybrid policy, one that combines an annuity or life insurance contract with a traditional LTC policy. Several insurers are already starting to offer such policies. Hybrids are more likely to attract lower-risk customers because, even if a policyholder never needs long-term care, he or she still gets a guaranteed payout. This is likely to make the business more profitable and sustainable.

While hybrid policies hold more promise than traditional LTC insurance, I’m hesitant to recommend them. Healthcare is too dynamic to be easily predictable, and these are still relatively new, untested products.

We all face a number of potential expenses that we should or should not incur in our old age. Perhaps we should help support children or grandchildren; maybe we need to renovate a house that is also aging; or we can’t resist buying a beachfront vacation home. We may live very long and healthy lives and have to support ourselves.

There’s no reason to treat the possibility of long-term care needs any differently than these other potential expenses. In all these cases, one must recognize the need for money and save and invest appropriately throughout one’s life. Relying on a flawed insurance product is not going to help.

sources:

(1) Reuters: Is the long-term care insurance market sick?

(2) MetLife: MetLife will stop selling new long-term care insurance policies