Combo product spotlight
By Randy Timm
Much has been written throughout the last several years about the Pension Protection Act (PPA) and the advantages of combination or combo products. In this article, I'll review the PPA and combination product highlights and offer different sales ideas that may be used with your clients. This discussion is for general educational purposes and should not be considered tax advice. Please consult your personal tax advisor or your client's tax advisor for specific tax advice.
At the time this article is being written, LIMRA is projecting that 2009 fixed annuity sales numbers may be on their way to the highest year on record. Because of today's market uncertainty, more consumers are securing fixed annuities to help save for retirement. With the PPA changes, we'll see an even larger number of consumers purchase combo products to cover their accumulation and long term care insurance (LTCI) needs using one policy.
On January 1, 2010, the PPA added several provisions to specifically address annuities that include long term care benefits and riders. These new provisions have made nonqualified annuities with LTCI benefits much more attractive to consumers.1
1. Rider charges deducted from annuities to pay for LTCI benefits are no longer a taxable event.
2. Tax-deferred growth within annuities pays for the LTCI benefits on a tax-free basis.
3. The new rules only apply to non-qualified annuities coupled with tax-qualified long term care riders. A tax-qualified long term care rider provides various levels of LTCI benefits, including benefits for cognitive impairments such as Alzheimer's.
4. Clients can also make a 1035 exchange into a combo annuity. This allows clients with existing annuities that do not have these types of benefits to take advantage of LTCI benefits through a combo annuity.
Combo annuities were created to help protect your client's risk boundaries, specifically their level of risk for retirement accumulation and insuring dollars are available if long term care is needed.
The need for long term care has never been greater. Despite the fact that 69 percent of people over age 65 will rely on some type of long term care service or support during their lifetime2, only 10 percent have acquired private long term care protection.3 In 2009, the average yearly cost for a private pay room in a nursing home was $79,935.4 And the average long term care stay was 3.7 years for women and 2.2 years for men, with roughly 20 percent of Americans requiring long term care coverage for five years or more.
There is great confusion among consumers about who will pay for long term care. Medicare only pays for home health care that has been deemed medically necessary or care in a skilled nursing facility.5 Most nursing home care takes place in an intermediate care facility which is not covered under Medicare. Medicaid, on the other hand, only pays for the impoverished. Therefore, many people attempt to self-fund their LTCI needs, and the results can be devastating.
The chart below shows an example of self-funding for long term care. The example uses a fairly aggressive 6 percent net earnings rate on assets after tax with 3 percent annual inflation and 5 percent annual increasing LTCI expenses. Assume the client starts with $500,000 of assets set aside for self funding. Each year, they earn interest and take out annual income starting at $30,000 per year. If they required LTCI coverage in the first year with an annual cost of $75,000, their assets at the end of the year would be $421,618. They continue to take income out and their LTCI expenses increase. At the end of five years, their set-aside assets are depleted. This leaves no income for the remaining spouse to live on. So, unless your client is quite wealthy, self-funding may not be the best option.
Purchasing a combo annuity can help consumers maintain and leverage their current retirement assets. It can also help protect a spouse and/or family members from the emotional, physical and financial toll of care giving. It also helps ensure that clients will receive a wider choice of long term care options. If clients do not use the long term care benefits from their combo annuity, they can still receive the annuity benefits the policy offers, such as:
- A guaranteed rate of interest on their savings
- Tax-deferred growth
- Access to the annuity principal through partial withdrawals or lifetime income options
- A death benefit for beneficiaries equal to the annuity value
- Funds that can avoid probate
Applicants that have been previously declined for LTCI coverage are not generally eligible to purchase a combo annuity.
At the time of a claim, LTCI benefit payments are extracted from the annuity. The client does not incur a withdrawal charge. Typically, when the funds have been depleted from the annuity value, the policy can then offer a tail or extension of benefit for up to 48 months. Most policies make additional cost inflation benefits available that increase the monthly benefit at a stated interest factor.
Below is a chart that shows the different levels of care that are routinely covered by combination annuities. You should check each particular policy to determine coverage.
|Nursing home||Home health care||Alternative care|
|Assisted living facility||Adult day care||Caregiver training|
|Personal care||Care coordination services||Homemaker service|
|Respite care||Care planning||Hospice|
Here is an example of a typical LTCI daily benefit provide by an annuity combo product
Annuity value: $100,000
Max. daily benefit: $100,000 / 730 days = $136.99 based on daily expenses incurred per day
Max. lifetime benefit: $100,000 x 3 = $300,000
This hypothetical example provides a minimum of six years of benefits, assuming no excess withdrawals. In this example, that would mean that in years one and two of the claim, the customer would receive benefits based on first using their $100,000. In years three through six when the cash value is depleted, the policy provides the additional $200,000 of LTCI reimbursement benefits.
Now, I would like to go through five different sales spotlights. Please remember, prior to presenting a product and rider you should review carrier approved marketing materials, state approvals, and any product variations in your state. None of the information contained in this article should be used with the consumer or used in advertising to the public. When considering these sales spotlights, producers are strongly encouraged to obtain competent legal advice on the licenses and registrations necessary to conduct their business in the states in which they do business and to understand completely what is considered investment or securities advice.
Spotlight No. 1: Pays up to 3X the annuity value
- Female, age 60, has $300,000 in non-qualified dollars set aside to be used someday if she needs long term care
- She decides to transfer $100,000 into a combo annuity leaving $200,000 to be used for other purposes
- 20 years later at age 80, she has a long term care need
- Her combo annuity continues to grow, if she requires LTCI three times her annuity value is available on a tax-free basis
Spotlight No. 2: 1035 Exchange into a combo annuity
The Pension Protection Act also allows 1035 Exchange to a combo annuity.1 The example below shows the dramatic tax-free benefits available when used for long term care needs. An amount in excess of $400,000 over the original cost basis could be received income tax-free if used for qualifying LTCI needs.
Spotlight No. 3: IRA enhancer exchange
Qualified dollars cannot be used for purchasing a combo annuity; however, there are ways to reposition qualified dollars to ultimately purchase a combo annuity. This spotlight is called the IRA Enhancer Exchange using qualified money.
- Client, age 70, has $100,000 in an IRA and would like to leverage the benefit and eventually use for LTCI coverage.
- A direct transfer is initiated into an IRA annuity with the carrier.
- Over the next five years, the client initiates a series of automated annual withdrawals. from the IRA into a new non-qualified combination annuity.
- Payments from the IRA are fully taxable over the five-year period.
- At the beginning of the fifth year, all the dollars have been transferred into the combination annuity that provides tax-free benefits for long term care.
- The long term care benefit is 3x the annuity value.
- After 10 years, the accumulated value has grown and using the 3x factor over $380,000 is available in the event of LTCI needs.
This spotlight is a combo life product. Instead of combo annuities that generally provide a 3x leverage factor, this idea can provide even more leverage, plus a return of premium guarantee. The younger your client, the higher the benefit and the leverage. An example is below:
- Female, age 55, non-smoker in good health has $600,000 set aside with the sole intention of passing these dollars on to her daughter upon death
- She would like to have an LTCI fund of over $600,000 available
- She transfers $100,000 into a specially designed single premium life policy with a tax-qualified LTCI rider, the remaining $500,000 can be positioned as appropriate for the client
- New life policy provides the following:
- Guaranteed more than $660,000 available for LTCI tax-free
- Guaranteed lifetime return of premium benefit
- Guaranteed income-tax free death benefit of more than $220,000
- Guaranteed more than $660,000 available for LTCI tax-free
Many producers and clients do not like underwriting or cannot qualify for a LTCI policy. This is an alternative. This spotlight is not a combo product, but a fixed annuity with an income rider with a unique benefit available in the event of nursing home confinement. Please note: All benefits described in Spotlight No. 5 are subject to taxation as a withdrawal, based on normal withdrawal taxation rules. The income benefits from the annuity are not tax-free. Some producers call this the no underwriting nursing home doubler.
- Husband and wife, both age 80, have $500,000 and desire to begin taking guaranteed joint lifetime income, and they both are concerned about LTCI
- Neither of them can qualify for traditional LTCI
- No underwriting is required for this enhancement on a fixed deferred annuity with an income rider
- Upon purchase of the annuity, they elect joint income for life of $32,500 using the income rider (based on 6.5 percent payout factor)
- Two years later, husband goes into nursing home and annual income increases to $65,000
- Five years later, the husband dies, and income goes back down to $32,500 for the surviving spouse
- One year later, the wife goes into a nursing home and the income goes back up to $65,000. Any remaining accumulated value goes to the beneficiary
2Aging Services: The Facts. American Association of Homes and Services for the Aging. Viewed January 15, 2008. www.aahsa.org.
3National Endowment for Financial Education, 2001 Think Tank report, "Long Term Care: Our Next National Crisis?" May 6-8, 2001. 4Metlife 2009 Study Viewed February 15, 2010. www.metlife.com/mmi/
4Metlife 2009 Study Viewed February 15, 2010. www.metlife.com/mmi/
5U.S. Department of Health and Human Services viewed February 15, 2010. http://www.medicare.gov/nursing/Payment.asp
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