There are three important elements that drive the cost of LTC benefits: cost of the benefits, investment earnings on the fund, and lapse rates of employees dropping their coverage. Variation in each of these items represents risk to any plan, whether self-funded or insured. Given these risks, it is important to have clear expectations of the progression in the growth of the fund so that any gains or losses caused by variations from these expectations can be promptly addressed. Depending on the size of the variations, actions could include changes in the funding, the employee contributions, or the benefits.
General structure of a self-funded LTC plan
An LTC fund has an advantage similar to a pension fund. The advantage is that the monies are collected well in advance of the time in which benefits are typically paid out. For example, by the fifth year of the program, we would expect the money in the fund to be 50 times the amount of expected claim costs. Hence, situations in which claim costs are double the expected amount or investment earnings are 10 percentage points below the expected would not affect the funds ability to pay those claims. Additionally, as in a pension plan, the losses (or gains) in a particular year could be amortized over the next five or more years. Thus, gains and losses might create difficult decisions about coverage in future years, but they should not affect the ability to pay in current years.
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Chart 1 shows the expected relative fund accumulation and payout over all years of the program. Note that almost immediately there is significant margin between the fund balance and level of expected claims in the fund:
When does risk become a concern for a self-funded LTC plan?
The flip side of the ability to address these risks becomes apparent if and when the fund is primarily in a benefit payout mode. This would occur when no or few active employees are participating in the plan, either because the employer is no longer sponsoring the benefit or because the employer has for the most part closed down. At that point, there is less recourse to solve shortfalls with contribution increases. As an alternative, such shortfalls would need to be made up with benefit reductions. It is therefore important to continue to monitor the fund in its later years and perhaps leave some margin in the assumptions at that point in time. Chart 2 shows the expected relative values of a fund from the point at which no new entrants are joining the fund.
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One risk that may cause problems not solvable by use of amortization of gains and losses is the risk of adverse selection. Adverse selection occurs when individuals purchase the benefit because they are more likely to use it; for example, disabled employees who meet an “actively-at-work” standard. Adverse selection will typically cause excess claims in the early years of the fund when adverse claim deviations are not as easily tolerated. Thus, it is critical to protect a LTC fund with the appropriate medical underwriting.
Other important considerations for a self-funded LTC plan
The federal government tends to pass laws and issue regulations so it is expected that the rules and taxes surrounding self-funded plans and long-term care plans could change over the years. Employers should expect to have to modify their plan on a periodic basis because of potential changes.
Furthermore, it is critical to have complete knowledge of the fund performance for a successful administration of the LTC program. Professional and objective review is needed to evaluate experience and make proper adjustments. If you are interested in learning more about how the consultants at Milliman’s Denver Health practice can assist with this type of review, please contact us.
Why is true group long-term care so important?
- Many Americans will have no way to pay for long-term care services when they are needed.
- Insurance for long-term care will not become widespread if only available on an individual basis, which means that the change will need to come first from employers.
- Group coverage needs to include employer contributions to make it affordable to employees and vesting to make it affordable to employers.