SUCCESSION PLANNING
Do Family Businesses Need
Long-Term Care Insurance? Think Again.

BY MATT DONOVAN

It may be that I am getting older and am finally able to admit when I am wrong. Or maybe I'm getting smarter. Or both. As a former lawyer and accountant, I scoffed at the need for long-term care insurance (LTC) for myself or my clients.

I understood that medical insurance would not cover the cost of a nursing home, assisted living or in-home health care—and that these costs could be very expensive. But where does it end?

After shelling out the money for medical, disability and life insurance, I had reached my personal insurance saturation point. From my clients' standpoint, how could they ever get ahead, in business or personally, if they spent all of their money hedging against risk?

I was right, wasn't I?

Well, I thought so until I began to work with family businesses, especially in connection with succession planning, and I had to take a hard look at LTC.

Let's look at the numbers
The first thing I learned is that long-­term disability can affect everyone—even you and me.

For example:

• One in five men and one in three women over 30 will suffer a long-­term disability before retirement.
• The most common causes of long-term disability are heart disease and back problems.
• Regardless of age, 50% of people who suffer disabilities lasting longer than 6 months will remain disabled after five years.
• About 14 million 16- to 64-year-olds are currently work disabled.
• About one in 14 become disabled each year.

Then the costs:

• The average for a private room in a nursing home in the United States is $5100 per month.
• It drops to $4350 per month for a semi-private room.
• The average monthly base price for assisted living in the United States is $2159, but additional fees can increase the cost to as much as $6800 per month.
• For in-home health care, the national average for home health aids is $18 per hour.
• The national average for licensed practical nurses is $37 per hour.
• And 24-hour care at home can cost $13,000 per month or more.

These grim statistics made me think again. How would I pay my mortgage and also pay for long-term care if my wife or I became disabled? I found myself quickly gaining a new appreciation for LTC.

Family business succession planning
However, what really got me excited was the fit between LTC and family businesses.

With succession planning, the objectives may vary greatly with each family business. However, two universal goals in succession planning are:

• financial security for the current (retiring) generation, and
• ensuring that there is a sufficient financial incentive for the incoming generation or key employees after the current generation retires.

Current generation financial security
Regardless of whether the current generation wants "value" for the business or wants to gift the business to the incoming generation or key employees, the current generation will want to ensure its financial security. In a human Sense, "financial security" often means simply to be free from financial worries.

The current generation is often driven by the fear of catastrophic illness or injury (and the accompanying catastrophic expense) as much as or more than by the desire to summer in the south of France. While "financial security" may be achieved strictly with non-business assets, some payment from the incoming generation, key employees or the company is usually wanted or needed. When "financial security" means providing for the great unknown, the price tag can grow quickly.

Next generation and financial incentive
For succession planning to work, the incoming generation or key employees must have sufficient financial incentive to justify their increased commitment to the business and, if applicable, the financial burden to buy out the current generation.

Of course, this commitment is critical to the current generation as well, not to mention the business itself. If the financial incentives are inadequate, the incoming generation or key employees may not want the business; and the current generation may not have the exit strategy that they desire.

How LTC fits in
For the current generation, LTC can provide financial security by serving as a hedge against the risks (cost) of long-term care. If, for example, the current generation receives LTC coverage as part of a retirement or buyout package, their fear of the unknown is reduced. Thus, they may feel comfortable receiving less money upon the transfer of the business. This, in turn, may lower the overall cost (and increase the financial incentive) to the incoming generation or key employees to buy out the current generation.

For the incoming generation and key employees, LTC is a great executive benefit. LTC provides the incoming generation and key employees with comfort that the value they create after taking over the company will not be eroded by long-term care costs if they or their spouses suffer from a long-term disability.

LTC can also serve as a "golden handcuff" in that it may be difficult to find another company that will offer LTC as a benefit to them. Further, in the family business where executives and employees are often related, the desire to provide LTC may be strengthened by the desire to take care of family members. Of course, LTC may be an appropriate benefit at any time, not just in the context of succession planning.

The cost
This may sound good so far, but what about the cost?

The cost, surprisingly, can be quite reasonable. For example, if a 52-year­old husband and a 46-year-old wife without health problems purchase LTC policies for each offering $5000 per month in benefits for five to six years, the cost comes to between $2600 and $4000 per year.

Also, most LTC companies offer different payment options. For example, many LTC companies allow you to pay all of your premiums within the first 10 years (a "10-pay"), or to make payments until age 65 only, and after the specified time your LTC policy is fully paid.

If the same couple were to purchase the same LTC coverage as in the example above, but choose the "10-pay" payment option, the annual premiums would increase to between $7000 and $10,000 per year, but premiums would only be due for 10 years. Thus, the couple could purchase an aggregate of $600,000 LTC coverage (with a 5% per year inflation adjustment) for between $70,000 and $100,000 (approximately 11.5% to 16.67% of the coverage amount, without considering the 5% per year increases for inflation).

Finally, price discounts are offered by the LTC companies if policies are purchased through groups such as employers or families. While group discounts vary among LTC companies, the discounts are generally significant and provide another reason to purchase LTC through the business.

Tax rules
Another attractive aspect of LTC is the tax implications. Except for individuals considered "self employed" for tax purposes (such as S corporation shareholders, partners, and sole proprietors), LTC premiums are 100% deductible by businesses. For S corporation shareholders, partners, and sole proprietors, the amount deductible by the business is limited.

For 2003, the deduction is limited to between $250 and $3130 per person, depending on the age of the insured. Furthermore, the premiums paid by the business are not included in the employee's wage income and the benefits are usually not taxable when paid. Also, the anti­discrimination rules that apply to ERISA plans do not apply. Therefore, the business can select only those individuals to whom it wishes to extend LTC benefits.

I am, I admit, an LTC convert. Statistically speaking, the potential need for long-term care is a greater risk than many other risks for which we carry insurance without a second thought.

LTC makes particular sense in the family business setting. It can provide financial security to the current generation on retirement and financial incentive to the incoming generation and key employees whether or not in a succession planning context. And, to top it all off, LTC provides a great tax deduction.

Sometimes getting older and smarter makes good sense.