EUROPEAN PAPERS ON THE NEW WELFARE

4. Current Pattern of Long-Term Care Funding

The uncertain need for long-term care services is a recognised risk that may carry with it substantial — even catastrophic — financial consequences to an individual or his or her family, but it actually occurs only to a relatively small and predictable proportion of persons in a population at any one time. This type of contingency is best protected by insurance mechanisms
In practice, however, insurance is used only in a limited way to fund long-term care, either in the public sector or in the private sector. Current funding for these services relies heavily on personal (out-of-pocket) payment and public welfare (Medicaid) but only lightly on social insurance and private insurance. In 2000, out-of-pocket payment and Medicaid (and other public sources) defrayed nearly 80% of the total expenditures of $98 billion for those aged 65 and older, with social insurance (Medicare) and private insurance playing a minor role (Tilly et al., 2000).¹ This method is akin to sitting on a two-legged stool, which is unlikely to be stable at best and unsustainable at worst, because it tends to impoverish many people and thereby severely strains Medicaid budgets nationwide. New methods to fund long-term care are needed.

5. A ‘three-legged-stool’ funding model

In the debate on how to pay for long-term care, some favor the social insurance plan, some urge the private insurance approach, and others argue that both are needed. All these proposals, however, face the same question of how to meet additional funding. Many have come to realise that neither the public sector nor the private sector has the financial resources to meet the high and growing long-term care costs, as illustrated by the deliberations of the mini-conference on long-term care reported above. The most promising approach to financing long-term care appears to be a combination of private savings, private insurance, and social insurance. How to move from the present methods of financing to a better mix is a challenge for researchers and policymakers alike. The presentation in this section (Section 4) is based on Chen (2005).
In my view, a better funding method could be found by (1) more widespread use of the insurance principle for both private — and public — sector programs, and (2) linking several sources of funds in each sector that already exist to generate resources to pay for both social insurance and private insurance. Therefore, I propose a new funding model, one in which social insurance and private insurance will pay for the bulk of the costs, supplemented by personal payment. I call this a three-legged-stool funding model.² When these three sources fail to provide for some individuals, public welfare (Medicaid) will serve as a safety net. These are the same sources of funds presently in use, but will be deployed vastly differently in the proposed model.

5.1 A trade-off principle for merging resources: A new approach

Assuming acceptance of this model, where might the funds for a new social insurance program and for the purchase of private insurance be found? Many people seem unable or unwilling to devote new resources for meeting long-term care costs. At least part of this may stem from the fact that people, in general, tend to compartmentalise or categorise their total resources (financial and non-financial assets as well as income) into different expenditure items such as food, housing, and the like. Once compartmentalised or categorised, resources will only be available for designated purposes or accounts.
Merging resources could then increase the total utility of existing resources for meeting various costs. In order to merge or combine resources together, it is necessary to create linkages in both public and private sectors. Therefore, I suggest use of the trade-off principle.

5.2 A Social Security/Long-Term Care (SS/LTC) Plan

Applying the trade-off principle in the public sector, one could fund a social insurance program for providing basic coverage for long-term care by diverting a small portion, such as 5%, of a retiree’s Social Security cash benefits for this purpose. I call this a ‘Social Security/Long-Term Care (SS/LTC) Plan.’ This plan would cover low-income Social Security beneficiaries but exempt them from the trade-off. I estimated that the 5% SS/LTC plan could be expected to cover one year of nursing home stay or two years of home care. Another feature of the proposal is that the SS/LTC plan would be phased in over 5 years.³
Participation in the SS/LTC plan could be mandatory with an opting-out provision. That is, upon receipt of Social Security retirement benefits, people would be enrolled into the SS/LTC plan automatically, but they may opt out of it within a specified timeframe. Once opted out, an individual may not opt in again, however. Or people may be given a one-time opportunity to join SS/LTC plan, for example, at age 62 or 65.

5.3 Private long-term care insurance

The trade-off principle can and could be applied in the private sector as well.⁴ With respect to private long-term care insurance policy, there are many reasons for the unwillingness of people to buy it. One of the most important reasons on the demand side may be that some people resist buying because it provides no benefit if they do not need services; they dread the so-called ‘use it or lose it’ syndrome. Another reason is the high costs of private long-term care insurance policies for older people.
On the supply side, insurance companies are concerned about moral hazard (greater use of services induced by insurance) and adverse selection (buyers are those who suspect they will need long-term care services).
To substantially reduce the degree of these reservations, the trade-off principle may be used to enhance the willingness of individuals to purchase long-term care insurance, by linking it to life insurance or annuity products.⁵
2 The idea of a three-legged-stool is patterned after the way, as a model or as an ideal, we provide retirement income and acute health care for the older population. Retirement income is provided using Social Security for a floor of protection, with employment-based (occupational) pensions and personal savings supplying supplemental income. When these three sources fail to provide for some individuals, public welfare (Supplemental Security Income) serves as a safety net. Similarly, acute health care for the elderly is provided by Medicare, supplemented by employer-provided health benefits for retirees and by individual payments for non-covered expenses in some cases through Medicare Supplemental (Medigap) policies. When a person’s health care needs cannot be met by these sources, public welfare (Medicaid) acts as a safety net. The three-legged-stool funding model may be regarded as a policy approach that would simultaneously foster self-reliance (by means of private insurance and personal payment) and collective assistance (in the form of social insurance).
In the same vein, building a three-legged-stool funding model for long-term care would begin with creating a social insurance program for a basic amount of long-term care coverage. This social insurance program would then be supplemented by private long-term care insurance and by personal payment.
3 Broad outlines of this plan are available in Chen, Y.-P. (1993): A ‘three-legged stool’: A new way to fund long-term care?, in Care in the Long Term: In Search of Community and Security, National Academy Press, Washington, D.C., pp. 54-70.
4 A fuller discussion may be found in Chen, Y.-P. (2001): “Funding long-term care in the United States: The role of private insurance”, Geneva Papers on Risk and Insurance, 26(4), pp. 656-666.
5 Also, it may be possible to increase the ability of individuals to purchase long-term care insurance by linking it to occupational pensions from employers. This includes Teachers Insurance and Annuity Association — College Retirement Equities Fund and government employee retirement programs at federal, state and local levels; or by linking it to individual retirement accounts (IRAs), Keogh plans, or other employment-based saving vehicles, such as 401(k) plans; or linking it to homeownership through home equity conversion plans (e.g., reverse mortgages).

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