BECAUSE YOU ASKED ADVANCED MARKETS Long-Term Care (LTC) Riders The purpose of this article is to address some of the most frequently asked questions concerning long-term care riders associated with life insurance contracts (and associated riders for chronic and critical illnesses) and the differences between these types of riders. Because this article is meant to provide a general overview of long-term care riders, state specific law and exceptions have not been considered or addressed. State law should always be considered before advising clients. This material does not constitute tax, legal or accounting advice, Generally, when LTC benefits are paid from the LTC rider, and neither John Hancock nor any of its agents, employees, or the death benefit available on the policy is reduced dollar-for- registered representatives are in the business of offering such dollar and such benefit payments also reduce cash value to advice. It cannot be used by any taxpayer for the purpose of some degree (see question 8). Consequently, LTC benefits avoiding any IRS penalty. It was written to support the marketing generally are available up to the point that the policy’s death of the transactions or topics it addresses. Anyone interested in benefit has been completely exhausted, unless otherwise these transactions or topics should seek advice based on his or her provided in the contract. particular circumstances from independent professional advisors. At the insured’s death, the portion of the death benefit that 1. What is a Long-Term Care rider? has not been used to pay LTC benefits will be paid to the beneficiaries as a death benefit. A Long-Term Care (LTC rider) is a rider attached to a permanent life insurance policy that accelerates death benefit For most LTC riders, the LTC benefit payable under the rider is to help pay for the costs of long-term care services for limited to a maximum monthly benefit — usually determined chronically ill insureds.1 To qualify as an LTC rider, the services based on a percentage of the death benefit or the IRS per required by a chronically ill individual must be provided diem limit (depending on the type of rider — see question 2). pursuant to a plan of care prescribed by a licensed health care practitioner. An individual is considered chronically ill if he/she is unable to perform at least two of six Activities of Example of Maximum Monthly Benefit: Daily Living (ADLs) without substantial help from another An LTC rider on a $750,000 life insurance policy with a person for at least 90 days due to a loss of functional 2% maximum monthly benefit would allow for a $15,000 2 capacity. An individual may also be considered to be acceleration of death benefit per month to pay for qualified chronically ill if he/she needs substantial supervision to long-term care expenses. protect his/her health and safety because of a severe cognitive impairment. Page 1 of 7. Not valid without all pages. BECAUSE YOU ASKED Advanced Markets For insurance carriers who offer an LTC rider, generally such prescribed in the contract. This style of rider allows the policy riders can be added to an insurance contract for an owner to receive payments in excess of the IRS per diem limit additional fee. Most life insurance contracts offering an LTC without adverse tax consequences. Under a reimbursement rider today treat the charge for the LTC portion of the style rider, the LTC rider payment will be paid directly to the contract as a charge against cash surrender value. policy owner unless the owner elects to have the care- LTC riders may be classified as “qualified” or “non-qualified” provider* paid directly. riders. A “qualified” rider is intended to meet the requirements To qualify for LTC payments under an indemnity rider or of a qualified long-term care contract for the purposes of reimbursement rider, the policy owner must demonstrate Sections 7702B(b) and 101(g) of the Internal Revenue Code that the insured meets the definition of “chronically ill” (Code), thus providing income tax advantages similar to (i.e. cannot perform 2 of 6 ADLs or has a cognitive stand-alone LTC insurance policies. A rider that does not meet impairment), which is certified by a licensed physician, and these requirements is a “non-qualified” rider and likely will must meet the elimination period specified in the contract. not provide favorable tax treatment. See question 3 for more A reimbursement rider requires the policy owner to provide information about the taxation of benefits from a qualified the insurance carrier with bills associated with the insured’s LTC rider. LTC care and services received; depending on the carrier, 2. What are the primary differences between an an indemnity rider may not require bills to be provided to indemnity and reimbursement LTC rider? receive payment. Most LTC riders available today fall under one of two models John Hancock currently offers a reimbursement-style LTC — indemnity or reimbursement. rider, which includes an extension of benefit (EOB) provision, An indemnity rider pays out LTC benefits based on the guaranteeing additional LTC benefits will be paid in specific maximum monthly benefit allotted under the rider regardless circumstances.4 of the amount of actual long-term care expenses incurred by 3. How are amounts received for LTC expenses from a the insured. Most carriers offering an LTC indemnity rider qualified LTC rider treated for income-tax purposes? limit the monthly benefit to the lesser of (i) a percentage of The Health Insurance Portability and Accountability Act death benefit or (ii) the IRS per diem limit.3 For 2014, the IRS of 1996 (HIPAA) allows for certain federal income tax per diem limit is $330/day (up from $320 in 2013), which is advantages for long-term care insurance contracts that are approximately $9,900 per month. When LTC payments are designated as “qualified,” as defined in Code Section 7702B. made under an indemnity rider, the payments are made Per Section 7702B(a), amounts received from a qualified directly to the owner of the contract. long-term care insurance contract are treated as amounts Alternatively, a reimbursement rider pays out LTC benefits received for personal injuries and sickness and are treated as based on the LTC care expenses actually incurred by the reimbursements for expenses actually incurred for medical insured, limited only by the maximum monthly benefit care (as defined by Sec 213(d)). Code Section 104(a)(3) EXAMPLE: John owns a life insurance policy with an LTC rider. Indemnity rider: John’s policy has a $750,000 death benefit with a maximum monthly benefit for LTC purposes of the lesser of 2% of death benefit or the IRS per diem limit. In January 2014, John has $12,000 worth of LTC expenses. John will receive $10,230 ($330 x 31 days) for these expenses from the indemnity rider. The next month, John only has $8,000 worth of LTC expenses, but receives $9,240 ($330 x 28 days) from the indemnity rider. Reimbursement rider: John’s policy has a $750,000 death benefit with a maximum monthly benefit for LTC purposes of 2% of death benefit — i.e. $15,000/month. In January 2014, John has $12,000 worth of LTC expenses and will receive $12,000 to reimburse him for those expenses. The next month when John has only $8,000 worth of LTC expenses, John will receive $8,000 from the reimbursement rider. In either case, the $750,000 death benefit will be reduced by the amount of LTC benefit received. This is a hypothetical example for illustrative purposes only. * Not all care providers may qualify for direct payments. See contract for details. Page 2 of 7. Not valid without all pages. BECAUSE YOU ASKED Advanced Markets generally provides that amounts received for personal reimbursement contract) or pays a per diem amount toward injuries or sickness are not includible in gross income. long-term care (an indemnity contract). However, if an For LTC riders provided as part of a life insurance or annuity indemnity contract pays a per diem benefit that exceeds the contract, Section 7702B(e) specifically provides that such IRS per diem limit ($320/day in 2013; $330/day in 2014), the riders shall be treated as separate long-term care contracts excess is taxable income to the extent it exceeds actual long- for the purposes of Section 7702B. Accordingly, “qualified” term care expenses incurred. If multiple indemnity-style LTC rider accelerated death benefits generally should receive contracts are owned on a single insured, the payments the same tax treatment as stand-alone qualified long-term received from these contracts are combined for the purposes care contracts.5 See question 9, however, for commentary on of determining whether amounts received exceed the greater taxation of third-party ownership of contracts with LTC riders. of total LTC expenses incurred by the insured or the per diem limit.6 Most LTC riders offered today are intended to be “qualified” long-term care contracts under Code Section 7702B(b) and An example of the possible taxation of multiple-owned meet the acceleration of death benefit for chronic illness indemnity-style contracts can be found below. Distributions provisions of Section 101(g). This is true of the LTC rider received from a life insurance policy with an LTC rider, other offered by John Hancock. than those payments associated with long-term care benefits, are taxed according to the rules governing the underlying life The tax treatment of the amounts received for LTC expenses insurance contract. paid from a qualified LTC rider generally is the same whether the contract reimburses actual long-term care expenses (a EXAMPLE OF MULTIPLE INDEMNITY CONTRACTS OWNED ON SAME INSURED (ADAPTED FROM INSTRUCTIONS TO IRS FORM 8853): Mrs.