Can the Time Value of Money Save Long Term Care?

John Cutler
Senior Policy Analyst, United States Office of Personnel Management

Often left behind instead of going to the dance, long term care may finally see its opening in health care reform. Until now, few reform proposals bothered with long term care (LTC) in spite of the fact that a much greater share of the population is at risk compared with the scope of the “uninsured” for general health care. In addition, social insurance advocates and private insurance supporters often were in an uneasy alliance around how to approach any LTC reform, further hindering chances to address it. But with the reform of health care likely this year, LTC supporters have, for the most part, coalesced around Senator Kennedy’s CLASS Act as the most likely ticket to the dance.

More on that later but it would be remiss not to mention the previous ideas that have been out there on the dance floor. For instance, adding an expanded chronic care benefit to health care or to Medicare has been suggested. While this could “medicalize” long term care, it increases the chance of LTC being included in health care reform. In fact even the nomenclature would change, with long-term services and supports (LTSS), the new term of art. Other interesting LTC reform proposals have been advanced by the provider trade groups, most notably AAHSA. And the exercise by Georgetown/RWJ a few years ago generated several innovative proposals, for instance Lambrew and Tumlinson authored a proposal to expand the home health care component of Medicare. And this author (with Shulman and Litow) developed a "Medi-LTC" idea which incorporated both Medicare SNF and home health along with private LTC insurance.

Whatever LTC – or LTSS -- reform looks like, advocates of social insurance and the private market are still talking past each other. Both believe the other is a necessary evil and the debate between them is how best to limit the other in their favored universe. Instead, what should take place is an attempt to find the best features in each others’ approach.

This thought piece suggests one important idea from the private insurance world that has been missing in social insurance -- the time value of money. Most insurance products (public and private) are delivered on annual basis. Money comes in this year and claims get paid. This is true of Medicare and Medicaid as well as private health insurance. Private LTC insurance offers a different option – it takes advantage of the time value of money by pre-funding future risks.

By collecting a premium at the outset which represents the actuarial value of total claims which will need to be paid for the covered cohort, risk is pooled across a diverse population in terms of time as well as age. Absent exogenous events that might lead to a class-wide rate increase, individual insureds will pay the same premium every year even as they age, until they need benefits. This means LTC insurance is actually deflationary: while the product's value keeps up with inflation the premium does not increase with inflation (assuming the insured elected this option, which more and more do).

One means of integrating this aspect of private LTC insurance into social insurance is via a “trade” between the LTC insurance carriers and Medicare where both come out ahead. Under this concept, the LTC insurers would pay for all SNF and home health care instead of providing this via Medicare. The savings to Medicare could result in a lower cost from removing short-term benefits for LTC needs that it now covers. Unlike the government, insurers would recognize additional revenue through investment income. The accumulation of investment income and the time value of money would allow all to "win" if Medicare could be brought into the mix directly. (Currently although one can argue that Medicaid savings accrue when people use LTC insurance, Medicare gains almost nothing from the existence of private insurance.)

Another variant – and the most promising to date -- would be to include private insurance within other vehicles as is done in the CLASS Act. Senator Kennedy’s proposal provides a flat amount for covered individuals that satisfy the cognitive or ADL triggers. Although it might look like a term product because it is financed on an annual basis out of employment, it also anticipates a level premium price that allows for the build up of reserves across time to pay for care in future years. What is exciting about the CLASS Act as a “public” insurance product then is its use of this powerful compounding process.

However, the bare bones of the legislation do not address other issues. For instance, the design of the program provides a claimant essentially half of what the true cost of care will be, hence the authors of the CLASS Act envision gap-filling by private insurers for those that wish it. One should worry that private insurers will attempt to underwrite healthy lives into their product while off-loading those with less health into the CLASS Act. A more integrated product where the private insurance subsumes or explicitly supplements the CLASS Act benefit (ala Medigap) would allow the CLASS Act to more successfully survive what will otherwise become these competitive attacks by private sector products. If not, we will be back where we were at the beginning.