LTC Bullet: Home Equity and LTCI Demand

Friday, June 30, 2017

Seattle—

LTC Comment: We affirm and confirm Professor Thomas Davidoff’s observations on the connection between home equity and LTC insurance demand, after the ***news.***

*** LTC CLIPPINGS SERVICE: The Center for Long-Term Care Reform’s Clippings Service is an excellent way to stay on top of current and critical long-term care news without having to spend hours a day researching on the internet. We send our Clipping Service subscribers an average of 2 emails per workday with a must-read-article link, a pull quote and some brief analysis. We’re sensitive to the fact that we all receive too many emails, so we’re very careful to send along only the most important LTC news items. To inquire, feel free to contact us directly at 206-283-7036 or info@centerltc.com. Please enjoy this example of a recent LTC clipping:

6/28/2017, “Guess What? There Are No Cuts in Medicaid,” by Daniel J. Mitchell, Foundation for Economic Education (FEE.org)

Quote:  “Senate Republicans have produced their Obamacare repeal legislation, though as I noted at the end of this interview, it’s really more a bill about Medicaid reform than Obamacare repeal. While it’s disappointing that big parts of Obamacare are left in place, it’s definitely true that Medicaid desperately needs reform, ideally by shifting the program to the states, thus replicating the success of welfare reform. But critics are savaging this idea, implying that ‘deep cuts’ will hurt the quality of care. Indeed, some of them are even engaging in poisonous rhetoric about people dying because of cutbacks. There’s one small problem with the argument, however. Nobody is proposing to cut Medicaid. Republicans are merely proposing to limit annual spending increases. Yet this counts as a ‘cut’ in the upside-down world of Washington budgeting.”

LTC Comment: Thanks to GoldenCareUSA’s Lori Fjelstad for tipping us to this excellent article. Orwellian doublespeak lives on. ***

*** THIS JUST IN FROM ILTCI:

Save the Date! The 2018 ILTCI Conference will be held at the Paris Las Vegas in Las Vegas, NV March 18-21, 2018.

We have secured a $99/night room rate (plus resort fee) for our attendees. Exhibitor/Sponsor applications and the new website will launch in mid July.

IMPORTANT: It has come to our attention that someone has been spoof/phishing from an email address ending in iltciconf.com. Please note that all legitimate emails from ILTCI will come from our .org address. We are taking the appropriate steps to have the spoof site removed. Please do not click any links or download any files sent from an iltciconf.com email. Please do report them as spam. If you do, or have, received one of these emails let me know. ***

LTC BULLET: HOME EQUITY AND LTCI DEMAND

LTC Comment: Home ownership is high among the elderly, even among the income-poor elderly. Home equity, what’s left of a home’s value after deducting liens against it, is also high among these groups, because they carry relatively little mortgage debt. Often, the quantity of home equity held exceeds the actuarially probable cost of needing long-term care. So it is reasonable to ask whether or not people with substantial home equity might be relatively less likely to purchase private long-term care insurance. Does home equity substitute for LTC insurance demand?

That’s the question Professor Thomas Davidoff asked in a paper titled “Home Equity Commitment and Long-Term Care Insurance Demand” published in the Journal of Public Economics, February 2010. We affirm his conclusion that home equity deflates LTCI demand, but we also confirm it from a different angle through observations about Medicaid’s generous long-term care financial eligibility rules.

What follows are quotes from Professor Davidoff’s paper followed by our comments.

Davidoff: “If housing is a poor substitute for other goods and housing consumption falls when ill, then demand for long-term care insurance (LTCI) will be weaker than it would be with equivalent wealth allocated freely across housing and other goods independent of health.”

LTC Comment: Housing wealth is relatively illiquid so it’s not a simple substitute for other goods. We know people are more likely to sell their homes after they enter institutional long-term care than before. But if housing wealth were easily convertible to other goods and if liquidation of housing wealth were not tied so closely to needing long-term care, then perhaps people would be more likely to protect that wealth with private insurance. But why wouldn’t most people insure against the risk of losing their housing wealth, illiquid or not, in case they need long-term care in the future? That’s where the author goes next.

Davidoff: “At high wealth and income levels, running down assets to qualify for Medicaid is a difficult and unappealing prospect. The quality of care and facility amenity that Medicaid will cover is also lower than the rich may be willing to tolerate: Ameriks et al. (2007) present survey evidence suggesting that the elderly are highly motivated to avoid low quality facilities in the event of illness. Still, among retirees in the 2004 wave of the HRS, LTCI coverage is below 25% even in the highest wealth decile. Home equity is a particularly plausible substitute for LTCI among wealthier households, who typically have home equity holdings that are large relative to most of the distribution of long-term care costs.” (p. 4)

LTC Comment: So, two reasons home-equity-wealthier people do not buy LTC insurance are that spending down to Medicaid income and asset levels is undesirable and avoiding Medicaid’s poor quality care and facilities is preferable, but nevertheless only a quarter of the wealthiest people buy LTC insurance. Conclusion: home equity is substituting for LTCI.

No doubt, but I think there is a simpler, more powerful explanation. Medicaid exempts the home and all contiguous property up to a minimum of $560,000 and in 13 states, to a maximum of $840,000. Even the unoccupied homes of single Medicaid recipients remain exempt as long as the recipient or his or her representative expresses the recipient’s subjective intent to return to the home, regardless of whether or not a return to the home is medically feasible. If home equity, seniors’ largest and most widely held asset, is not at risk for long-term care, why would we expect people of whatever level and type of wealth to buy long-care insurance? To my mind, the real issue is not that home equity is a substitute for LTCI, but rather that Medicaid obviates the LTC risk to home equity.

But what about the hassle of spending down and Medicaid’s dismal reputation for poor access and quality? Most people don’t think about those things until they need expensive long-term care and the only choice remaining then is to pay for it out of pocket or qualify for Medicaid. Out-of-pocket payment for long-term care has plummeted from around 50% to roughly 25% in the half century Medicaid has been paying for nursing homes. Half of the remaining 25% is really spend-through of Social Security income, i.e. not savings, by people already on Medicaid who have to contribute their income to offset Medicaid’s cost for their care. Furthermore, loss of choice of care venue and poor quality may be less off-putting once care is needed and Medicaid is available to pay. By that point, decisions about asset protection and choice of payor may no longer be in the infirm elder’s control but may rather be made by adult children, heirs with a stake in the outcome.

Davidoff: “Home equity is a plausible substitute for LTCI only if it is large relative to long-term care costs and if its payouts are highly correlated with the state of being in long-term care. (p. 4) . . . For a large share of surveyed older households, home equity is large relative to both total wealth and likely long-term care expenses. (p. 5) . . . Exiting home ownership, trading down owner housing and moving to renting are all uncommon except in the case of a need for long-term care.” (p. 6)

LTC Comment: The evidence mounts and he backs it up with longitudinal data from the highly regarded HRS/AHEAD surveys. But then he makes this statement.

Davidoff: “In the top quintile of the total wealth distribution, where Medicaid is unlikely to be salient, 84% of respondents report home equity over $100,000.” (p. 5)

LTC Comment: Medicaid may be less salient in the upper wealth quintile, but definitely not “unlikely.” As we showed in “LTC Bullet: Hoist with its Own Petard,” Friday, April 28, 2017, Medicare beneficiaries up to the 95^th percentile can and often do qualify for Medicaid LTC benefits based on income and savings limits if their LTC, medical and insurance expenses are high enough. The 95^th percentile for home equity is $466,600, well below Medicaid’s minimum home equity exemption. Research published in the American Economic Review found not only that retirees with high incomes can enroll in Medicaid, but that when they do, the cost to taxpayers is actually higher than the cost for low-income individuals.[1] So, Medicaid LTC eligibility after the need for long-term care has occurred remains an option for all but the very wealthiest people.

Now Professor Davidoff makes a fascinating observation and reaches a highly significant conclusion.

Davidoff: “Important for modeling purposes is whether homeowners in long-term care sell their homes due to cash need or because the need for care eliminates the disutility associated with selling the home. There is some evidence that the latter explanation is more salient.” (p. 6)

LTC Comment: Wait, if people are selling their homes to pay for long-term care, isn’t that prima facie evidence the sale is for “cash need”? If they are only selling because they don’t need the home for a residence any longer and may as well redirect their real estate wealth to other purposes, doesn’t that suggest their long-term care costs are covered by other means, most likely Medicaid? GAO found that Medicaid is not very good at tracking and taking into account recipients’ assets and exchanges.[2] Medicaid planners, lawyers who specialize in artificially impoverishing affluent clients to qualify them for Medicaid LTC benefits, employ numerous ways to make such funds disappear as we’ve explained and confirmed in numerous state- and national-level studies here: http://www.centerltc.com/reports.htm.

Davidoff: “Medicaid's eligibility requirements provides an additional reason why home equity would crowd out insurance demand. Whereas non-housing wealth must be quite low to qualify, housing wealth is virtually exempt from Medicaid means tests.” (p. 10)

LTC Comment: Bingo. That’s the essence of the matter.

Davidoff: “When home equity is liquid . . . with a reverse mortgage . . . the homeowner always demands insurance for more than 50% of expected costs conditional on illness.” (p. 14)

LTC Comment: Fascinating, this is proof of a direct connection we’ve speculated about in these LTC Bullets many times over the years. If home equity were at risk, if Medicaid did not exempt home equity from asset eligibility limits, people who would otherwise rely on Medicaid would need to use reverse mortgages to pay for long-term care. But having to use reverse mortgages to fund long-term care would likely increase demand for private LTC insurance. According to Professor Davidoff, that connection is not just conjecture. It is a fact.

Davidoff: “By contrast, . . . when housing wealth is large and illiquid, insurance demand falls well below 50% to as low as 4%. Because home equity is proportional to housing consumption, the difference between insurance demand with and without a reverse mortgage grows with the value of the home.” (p. 10)

LTC Comment: That’s also a dramatic finding. The damage done by Medicaid’s home equity exemption by crowding out private LTC insurance is magnified the higher and more illiquid housing wealth is. By exempting up to $840,000 of home equity, Medicaid tends to protect all but a small percentage of the elderly’s home equity, keep it illiquid longer, and hence reduce LTCI demand disproportionately.

Davidoff: “[T]he value of the right to take on both LTCI and a reverse mortgage is almost always greater than the sum of the values of taking on the products separately. . . . The complementarity grows with risk aversion and the value of the home.” (p. 14)

LTC Comment: Here’s evidence for another point we’ve made repeatedly, the complementarity of reverse mortgages and long-term care insurance. If people knew home equity were at risk and if it truly were at risk and if many people were actually having to spend down home equity before becoming eligible for Medicaid, then more people coming into their pre-retirement years would take the risk and cost of long-term care seriously and plan, save, invest and insure against that risk and cost. They would also avoid or substantially delay Medicaid dependency.

Davidoff: “Expanding demand for LTCI may require simultaneously expanding demand for home equity extraction among the elderly . . . so bundling LTCI and reverse mortgages may make sense on both demand and supply grounds. The supply side argument is that those who are at highest risk for large medical expenditures are unlikely to live long enough for the value of the home to fall below accumulated principal and interest on a reverse mortgage. If pricing is more favorable in a bundled product than a stand-alone product, then the complementarity . . . would be even stronger.” (p. 16)

LTC Comment: There you have it. The secret to increasing demand for long-term care insurance, and of reducing dependency on and the cost of Medicaid, is “expanding demand for home equity extraction among the elderly,” i.e. reducing or eliminating the Medicaid home equity exemption. So, then, why follow with this non sequitur:

Davidoff: “Eliminating Medicaid coverage of long-term care alone may not dramatically expand LTCI demand. . . . Eliminating Medicaid's favorable treatment of home equity might spur LTCI demand by making home equity a less favored asset and hence reverse mortgages more attractive.” (p. 16)

LTC Comment: That’s far too understated. Eliminating Medicaid’s favorable treatment of home equity would compel house-rich people to consume their home equity before becoming eligible for public welfare. They’d have little choice but to rely on reverse mortgages in order to remain in their homes and pay privately for in-home LTC services. To avoid that eventuality, others in time would plan ahead by purchasing LTC insurance. The connection is direct and unavoidable.

Davidoff: “A more complete welfare analysis would require an understanding of the role of Medicaid in savings and asset allocation (see, e.g. Coe (2007)).” (p. 16)

LTC Comment: Agreed. The main reason most economists and policy analysts miss the full impact of Medicaid’s crowding out LTC insurance is that they believe Medicaid requires impoverishment, but it does not. People qualify based on income as long as their income is below the cost of a nursing home, at least several thousands of dollars per month. They qualify while possessing almost unlimited assets as long as those assets are held in exempt form. Over and above those generous limits, Medicaid planners make excess assets disappear by means of simple techniques like the purchase of exempt assets and/or sophisticated legal mechanisms like special trusts, annuities and reverse half-a-loaf strategies. The paper Davidoff cites by Coe includes this:

I find that single elderly households that anticipate future nursing home needs respond to these incentives by lowering their overall net worth. This effect is prevalent through the bottom 50 percent of the distribution. I estimate between a 40% and 120% crowd-out at the median. I find that most of this crowd-out is coming through lowering housing wealth.

Married households face different incentives than single households through higher asset tests and more assets protected from the Medicaid tax. Thus I find different effects for married households; they do not lower total net worth, but do shift assets from financial (non-protected) assets to housing (protected) assets.[3]

How much more evidence should anyone need to see that the main reason few people plan for long-term care by means of savings or insurance is that Medicaid is there, and has been for over 50 years, as a cost-free alternative, whether aging consumers realize it consciously or not?

Closing LTC Comment: Thomas Davidoff’s paper is correct and convincing with regard to home equity’s tendency to deflate demand for long-term care insurance. But I think that effect is less that home equity substitutes for insurance in consumers’ minds, but rather that Medicaid’s home equity exemption removes liability for long-term care costs from their concern. Medicaid desensitizes people to long-term care risk and cost, leaving them unprepared for the insurable event and likely to accept free or subsidized care, even of lower quality, when care and its high cost become unavoidable.

Many questions remain if my supposition is correct. Most people don’t know who pays for long-term care, so how could the availability of Medicaid, about which they’re oblivious, prevent them from planning for LTC? What about Medicaid estate recovery; doesn’t that mandatory program recapture exempt home equity from recipients’ estates? Wouldn’t eliminating or reducing Medicaid’s home equity exemption hurt poor people whom the program is supposed to serve?

All these questions have answers consonant with the main argument. I’ve offered my answers elsewhere. I hope scholars of Professor Davidoff’s caliber will reconsider the role of home equity in long-term care financing from the perspective of Medicaid’s elastic financial eligibility criteria, which are far more generous than most analysts have recognized heretofore.