Paying for long-term care

 It’s estimated that 50% to 60% of 65-year-olds will require some form of long-term care at some point in their lives, often in 80s or later. Physician  John Lim recommends considering an alternative to self-funding (often followed by Medicaid), traditional long term care insurance (LTCI), or hybrid policies (afford payouts even if you don't need LTC). (Check out links to these options in this searchable blog.)

Lim recommends deferred income annuities (DIAs), also known as longevity insurance or—if purchased with retirement account money—as a qualified longevity annuity contract. DIAs provide protection against outliving your assets, regardless of whether you need to pay for long term care or not. DIAs are also known as Qualified Longevity Annuity Contracts.

A DIA is a basic income annuity with one quirk: The annuity doesn’t pay out immediately, but only after a delay. For example, you could buy a DIA at age 50 or 60. Similar to a traditional income annuity, you would pay an insurance company a onetime lump-sum payment in return for a lifetime income. The quirk is that the income stream wouldn’t begin until late in life, perhaps age 75 or 80. Age 80 is when mental and physical problems are likely to arise, requiring care. 

"Because the annuity’s payout is deferred until age 75, mortality credits—the secret sauce of annuities—are maximized. Put bluntly, those who die before 75 don’t receive a cent, which leaves far more generous payouts for those who live longer than 75. These “survivors” are precisely the ones who face the greatest financial risks from long-term care and longevity." IF you need care before the DIA kicks in you can pay out of your Social Security and assets, confident that the DIA is available. Of course, there is the option that one dies before the DIA payout begins but living past one's expiration date is much more of a financial hazard.

Unlike insurance policies, income annuities (DIAs) don't require a medical exam which might preclude one's eligibility for buying LTCI. 

Many mid-life adults are faced with caring for and paying for elderly parents. A DIA could be the answer.

Check this blog's posts on the basics of annuities to fully understand the concept.

https://humbledollar.com/2022/03/paying-for-aging/

Taxation of Annuity Income

If you purchased an annuity that provides income in retirement, the portion of the payment that represents your principal is tax-free; the rest is taxable. The insurance company that sold you the annuity is required to tell you what is taxable. 

Different rules apply if you bought the annuity with pretax funds (such as from a traditional IRA). In that case, 100% of your payment will be taxed as ordinary income. In addition, be aware that you'll have to pay any taxes that you owe on the annuity at your ordinary income-tax rate, not the preferable capital gains rate.

Source:  https://www.kiplinger.com/retirement/602564/questions-retirees-often-get-wrong-about-taxes-in-retirement

Retirement Income: REPLACING SOME BONDS WITH ANNUITIES

"If you want to maximize how much you can safely spend in retirement, some economists say, sell some of your bonds and buy lifetime income annuities," according to Neal Templin, writing for the Feb. 8, 2021 Wall Street Journal. 

"While you’re still working, a diversified portfolio of stocks and bonds is an efficient way to save for retirement. But once you’ve retired and are drawing down that nest egg, income annuities can outperform bonds, some economists’ research shows."

"The most efficient portfolio for retirees consists of stocks and income annuities, says Wade Pfau, a professor of retirement income at the American College of Financial Services. The annuities provide dependable income, while the stocks provide growth, cover unexpected expenses and help leave a legacy for heirs."

But what about the 4% rule or guideline? That's the strategy of spending 4% of your nest egg each year, adjusting for inflation. Lots of problems with this strategy, especially for non-nerds. It takes a lot of attention to detail, decisions on which investments to sell, an iron will to stick to the strategy when the market goes crazy (almost every month in this century), and potentially wide swings in yearly income. Do you still want (and be mentally able) play with spreadsheets and make wise decisions when you're 85? Remember the research that found our ability to handle money declines with age. The 4% guideline comes from research in 1994 based on the era when bonds actually paid a decent return. 

We know that retirees are happiest when they have a reliable source of income. Remember pensions? Annuities are a way to create your own pension.

Specific example from Dr. Pfau:

"Consider a 65-year-old retired woman who has a $1 million nest egg, is risk-averse and wants to finance her retirement entirely through bonds. She is a nonsmoker, in average health. According to actuarial tables, there is a 22% chance she’ll live 30 more years. She decides to build a bond ladder that will run out of money when she’s 95 years old. At current interest rates, such a portfolio could provide her with around $42,000 a year for 30 years, Dr. Pfau calculates. If she instead used her $1 million for an income annuity, she could currently get around $54,000 a year from a range of insurers. One insurer, American Equity, has been offering a payout of more than $61,500."

"Social Security is itself an inflation-adjusted income annuity, and it’s usually smart to max it out by not claiming until age 70 before you buy a private annuity. That’s because Social Security is more generous in how it calculates payouts than other annuities. Your Social Security pension rises 8% for each year you delay claiming beyond your full retirement age."

You don't want to devote all your nest egg to buying an income annuity but buy enough basic income to supplement your Social Security so that you can invest your remaining assets in growth investments. 

Check out the other blog posts about income annuities. Also Dr. Wade Pfau's website: https://retirementresearcher.com/