There is a widespread belief that seniors, in cahoots with shady lawyers and greedy children, hide their assets so they can receive Medicaid long-term care benefits.  It turns out that this image—sort of the greedy geezer equivalent of Cadillac-driving welfare queens—is largely an urban myth.

While some seniors undoubtedly find ways to transfer assets (everyone, it seems, knows someone who has—or at least thinks they do), new research paints a very different picture:  Most frail seniors and younger people with disabilities who receive Medicaid benefits were poor long before they ended up on program. They did not hide their assets because, in large part, they didn’t have any to start with.

The study, by Josh Wiener and colleagues at the research firm RTI International, was based on a national survey that allowed them to follow thousands of people aged 50 and over for 10-12 years.

Although the study did not explicitly look at the issue of asset transfers, it paints a fascinating picture of people who turn to Medicaid as they age. Josh’s paper, funded by the SCAN Foundation, follows them as they age, develop health problems, and eventually become impoverished.

Josh and his colleagues were studying a phenomenon known as Medicaid spend-down, the process where someone runs through their money until they become eligible for the means-tested program.

Medicaid provides long-term supports and services for seniors and people with disabilities, but only if they meet strict income and asset tests. Though the limits vary by state, single individuals generally must have no more than about $2,000 in financial assets (they can also keep their home and some personal property).

Over the period 1996-2008, about 10 percent of people who had not previously been on Medicaid became impoverished and ended up on the program.  Among those who were 65 or older at the beginning of the study, about 13 percent spent down.  Younger people were half as likely to do so.

Keep in mind that the study may understate the percentage of those who ultimately go on to Medicaid since it followed them for only 10-12 years.  By the end of the survey period, the youngest people were still only in their sixties and had not yet begun to incur heavy medical and long-term care costs. Often, that doesn’t happen  until people reach their early or mid-80s.

Only about half of those who became Medicaid eligible had used any long-term supports and services. That suggests many Medicaid recipients became impoverished due to high medical costs or other factors.

But the key story is that those who did spend down started with far fewer assets and income than those who did not. They were disproportionately minorities, unmarried, and poorly educated. Among those who became Medicaid eligible by 2008, the median value of their total assets a decade earlier (including housing but excluding IRAs) was only $33,000—just one-fourth of the total wealth of those who did not spend down.

Of those who spent-down to Medicaid, 85 percent had less than $112,000 in total assets (including home equity) a decade earlier. The median net value of their primary residence was just $17,000, and 60 percent had household income of less than $16,000.

In other words, most of those who spend-down to Medicaid due to disability or old age were barely hanging on long before becoming eligible for the program. This population didn’t give much away because they never had much to give.

Finding an alternative to Medicaid is a huge challenge for policymakers looking for solutions to the long-term care financing problem. This population has very few financial resources to pay for their own long-term care. Tapping into housing assets won’t help because they have little home equity. Most would never be able to afford long-term care insurance.

Of course, there are millions of others who are more solidly middle-class, and it may be possible to build new financial solutions for their long-term care. But Josh’s research shows that those who end up on Medicaid in frail old age or because they are disabled may have few other options.

America’s system for financing long-term care is failing, and the window for creating a payment system that works is rapidly closing. That was the conclusion of a morning-long expert session sponsored last week by the SCAN Foundation.

While the participants differed on specific solutions, most agreed on four key issues:

• The existing system for funding paid long-term supports and services is built on a wobbly three-legged stool: low private savings, an underfunded Medicaid program, and a hobbled private long-term care insurance market.
• The solution must include an affordable way for Americans to prefund their long-term care costs. This could include tapping financial assets or home equity, or buying insurance (either government, private, or some combination of both). Low-income people would require some form of safety net protection.
• Any future system should finance high-quality long-term supports and services that are well-integrated with medical care. This is especially important since recipients of care services suffer from chronic disease or injury that often requires complex medical interventions.
• There is currently no political consensus on how to do any of this.

That is where everyone agreed. Here is where they did not:

Several panelists focused on ways to enhance private insurance, where the market for traditional long-term care coverage has effectively collapsed. A paper by Marc Cohen of Lifeplans, Inc. and professors Richard Frank and Neale Mahoney of Harvard described a broad package of design changes that might make policies more attractive.

Their ideas include simplifying and standardizing insurance products, indexing premiums annually instead of requiring carriers to ask for big rate increases every few years, allowing insurers to sell high-deductible plans (where buyers could be responsible for as much as two years of LTC costs), and better educating consumers about the price of long-term care and the limited government resources available to pay for it.

They also propose industry-funded reinsurance pools that would protect insurers against unanticipated risks. Another suggestion: Require that companies over a certain size offer LTC insurance and force workers to buy unless they make an active choice to reject insurance. They also recommend new highly-targeted government subsidies, such as tax credits, to encourage moderate-income consumers to purchase long-term care insurance.

Finally, they suggest linking long-term care and health insurance, an idea I raised last year.

Several of their proposals, such as catastrophic coverage and standardized plan designs, are aimed at substantially lowering rates.

Expanding the role of employers may be especially critical since 80 percent of workers currently have no access to coverage through their jobs, according to a separate paper by Jeremy Pincus and colleagues at the insurance industry consulting firm Forbes Consulting Group.  Like Cohen, Frank, and Mahoney; Pincus also believes an employer mandate would significantly boost the number of workers who would buy LTC insurance.

But all that may not be enough. Other conference participants felt that even with these broad-based changes, voluntary private insurance would remain unattractive for many people. As a result, some sort universal coverage is the only way to make LTC insurance truly affordable for middle-income households. Voluntary insurance, even with reforms, would remain out of reach for tens of millions of middle-income people.

Anne Tumlinson of the consulting firm Avalere Health, Josh Wiener of RTI International  and their co-authors found that mandatory insurance would be significantly less expensive than voluntary coverage. Tumlinson said that maintaining the voluntary system would do little more than preserve the unworkable status quo.

Insurance officials tell me privately that, even in the best case, perhaps 20 percent of Americans would buy voluntary LTC insurance. Perhaps another one-third have lifetime incomes so low that they can’t be expected to pay for their own care, either through savings or insurance, and will need some sort of public support.

That leaves perhaps half the country at risk. The challenge for policy makers and the market is to figure out what will work for them. The SCAN program was a great start, but much more needs to be done.

The White House finally appointed the last three members of the congressional long-term care commission, making it possible for the panel to get down to work.

The nominations, which were supposed to have been made by Feb 1, are Henry Claypool, Executive Vice President of the American Association of People with Disabilities and a top aide at the Department of Health and Human Services from 2009-2012; Dr. Julian Harris, a physician and the Massachusetts Medicaid director; and Carol Raphael, the Vice Chair of the AARP board and former CEO of the Visiting Nurse Service of New York.

The three White House appointees fill out the 15-member panel that includes nine Democratic picks and six Republican choices. The commission was created in January as part of the same legislation that repealed the CLASS Act. It is supposed to propose solutions to a broad range of long-term care issues, including delivery, finance, and workforce matters.

The panel is required to complete its work in six months. However, the law does not require Congress to vote on its recommendations.

The commission has no budget. Thus, its staff will be made up of congressional and administration aides. Additional support will probably be provided by the organizations that are represented on the commission. However, the automatic across-the-board budget cuts that took effect earlier this month are likely to make it tougher to find quality staff from within the Obama Administration, since government agencies are already facing staff furloughs.  

Previous Democratic picks were:

Javaid Anwar, a Las Vegas internist who is vp for health services at a large casino/hotel company and served as chair of Nevada’s Committee on Access to Health Care.

Laphonza Butler, president of the Service Employee’s International United Long Term Care Workers’ union.

Bruce Chernof, a physician who is president and CEO of the California-based SCAN Foundation, which focuses on senior issues.

Judy Feder, my colleague at the Urban Institute who served as a senior health aide in the Clinton Administration and staff director of the 1989-90 Pepper Commission.

Judith Stein, founder of the Center for Medicare Advocacy, which represents beneficiaries in their disputes with the Medicare program.

George Vradenburg, a former media executive and founder of USAgainstAlzheimer’s—a non-profit that advocates largely for research dollars aimed at finding a cure for dementia.

The GOP picks were:

Judith Brachman, who formerly served as a housing official in the Reagan Administration and director of the Ohio Department of Aging, now chairs the Jewish Federation of North America’s Aging and Family Caregiving Committee. JFNA represents long-term care providers.

Bruce Greenstein, Louisiana’s Secretary of Health and Hospitals, who was formerly a senior official at the federal Department of Health and Human Services and managing director for worldwide health at Microsoft.

Stephen Guillard was CEO of several large skilled nursing facility operators including HCR ManorCare and was chairman of the Alliance for Quality Nursing Home Care, a trade group that represents large for-profit nursing home companies.

Neil Pruitt is chairman and CEO of UHS-Pruitt Corp, an integrated health care company, and board chair of The American Health Care Assn., the largest trade group representing nursing homes and other senior service providers.

Grace-Marie Turner is president of the Galen Institute, a free-market oriented public policy organization that focuses on health care issues.

Mark Warshawsky is a pension expert who directs retirement research at the benefits firm Towers Watson and was a senior official at the Treasury Department from 2004-2006.

The commission’s next task will be to choose a chair and vice chair, and recruit a staff. It has not yet scheduled any meetings.

On New Year’s Day, as part of the law that kept the nation from toppling over the fiscal cliff for two months, Congress quietly repealed the Community Living Assistance Services & Support (CLASS) Act, and created a new commission to recommend broad long-term care reforms that could affect financing, delivery and care workers.

I was, and continue to be, very skeptical about the commission’s ability to accomplish much. But after spending this week talking to Washington insiders, I heard several express the hope that the panel could at least achieve two important goals: Defining the problem and broadly framing future solutions.

Just getting a bipartisan commission of Congress to acknowledge the importance of the challenges facing those receiving long-term supports and services and their caregivers would be a huge step forward. Acknowleging that our current system of financing and delivering  this care is terribly inadequate would be another big step. And defining the roles of government programs such as Medicaid as well as private insurance would be yet another significant achievement.

Still, that would be a long way from proposing specific reforms–an accomplishment that seems far out of reach for this group. Members of the panel, as I noted last week, must be appointed by the end of this month and the commission has only six months after that to make proposals to Congress. The panel has no budget and will have to rely on staffers from Congress and the executive branch. Its make-up–nine Democratic appointments and only six GOP selections–almost guarantees partisan squabbling.

 Worst of all, even if the group could reach a consensus, there is no requirement that Congress ever vote on its plan.

Yet, several veterans of past long-term care battles in Washington are hopeful that this group can at least frame a future debate. I agree that it would be very valuable. And I hope they are right and I am wrong. But I’m not holding my breath.

The New Year’s budget agreement to avoid the fiscal cliff includes two key measures that could be critical to people receiving long-term supports and services and their caregivers. The first repeals the Community Living Assistance Services and Supports (CLASS) Act. The second creates a new national commission to develop a plan for better financing and delivery of long-term care services.

Unfortunately, there may be less than meets the eye to both of these long-term care provisions. The CLASS Act had already been abandoned by the Obama Administration. And the commission, sadly, seems like a classic congressional study, destined to gather dust on a bookshelf somewhere. 

The repeal of CLASS was hardly a surprise. The measure, a piece of the 2010 health reform law, was supposed to create a new national, voluntary long-term care insurance system. But it was roundly criticised by Republicans and had little support among Democrats.

Most important, actuaries found that, without substantial changes, the program’s premiums would be far too expensive for most buyers and projected it would be financially unsustainable. As a result,more than a year ago, the Obama Administration refused to implement the program. Its repeal was widely expected. The only real question was when and how would it be killed.

At first glance, the budget agreement includes an important trade-off–the creation of a national long term care commission. The idea of such a panel has been pushed for a couple of years now by Senator Jay Rockefeller (D-WV). 

The 15-member panel would include members appointed by the  White House as well as Democratic and Republican leaders of the House and Senate. Its ambitious goal: To “develop a plan for the establishment, implementation,and financing of a comprehensive, coordinated, and high-quality system that ensures the availability of long-term services and supports for individuals in need of such services and supports… and individuals desiring to plan for future long-term care needs.”

Panel members are to reflect the interests of recipients of care, their caregivers, providers, care workers, long-term care insurance companies, and state Medicaid officials.

It all sounds great–and long overdue. The country has not taken a comprehensive look at the long-term care needs of  frail seniors and younger people with disabilities since the Pepper Commission more than two decades ago. Yet, there are elements in the measure creating this panel that are very troublesome.

The first is that is it on very tight time frame. Members must be picked within a month and the panel must submit a proposal to Congress and the White House within six months after that. It is hard to imagine any group solving issues this complex in just six months.

Second, the commission would live in the bureacratic ether. It has no connection to the Department of Health and Human Services or any other federal agency. This can be good, in that it may avoid long-standing bureaucratic turf wars. But is more often bad, because it means the commission has no natural supporters inside an Administration.  

Finally, and most important, the law  includes no requirement that Congress ever actually vote on the panel’s recommendations. This is an old Washington trick, and one that usually consigns commissions such as this and their proposals to the policy dustheap.

I hope I’m wrong and this commission does tackle these critical issues. We’ll know a lot more when we see who is appointed to the panel. But I don’t have high hopes.

A new insurance company survey of financial advisers reports that four-in-ten have clients who ask about giving away their assets so they can become eligible for Medicaid long-term care.  Oddly, though not surprisingly, the same advisers report their clients say that a key goal of their long-term care planning is “maintaining control.”

The online survey, by Nationwide Financial, questioned a small, self-selected sample of advisers, so the results may not be representative. And remember, this survey did not report that 40 percent of clients want to spend-down, only that 40 percent of advisers had clients who asked about it.

Most research suggests that few ever follow through with this strategy. Still, if control and independence are really your goals, the last thing you want to do is rely on Medicaid for your long-term supports and services. Here are some reasons why:

Medicaid benefits vary widely from state to state. And while a handful of programs provide beneficiaries some flexibility, Medicaid is loaded with rules about what is, and what is not, covered. While home care is becoming more common, assistance is still often available only in nursing homes. And even where Medicaid home care is offered, the level of assistance is often low and many enrollees face long waiting lists before such care is available to them.  

Medicaid pays only limited benefits for residents of assisted living facilities. It may pay for some assistance with daily activities, such as bathing or eating, but does not pay for room and board, which represents the bulk of costs. Medicaid normally won’t pay for independent senior living either.

While Medicaid does pay for nursing home care, getting into a high-quality facility is not easy. And once you get in, you may have very different accommodations than private pay residents.  

Nursing homes normally are not required to accept Medicaid residents. Indeed, because facilities say they lose money on Medicaid stays —a new industry-funded study reports that nursing homes lose an average of about $22-per-Medicaid patient per day—the best nursing homes limit the number of Medicaid residents they will accept at any one time.

The trick is to get into a high-quality facility while you are still paying out of pocket. Once you are there, the facility is not allowed to evict you if you run out of money and go on to Medicaid.  Nursing facilities, of course, know this. So they’ll often want to be sure you can pay for a year or more before accepting you. That may mean you have to enter a nursing facility long before you need to, just so you can get into your facility of choice.  

Also, keep in mind that while a facility may not reduce its care if you shift from private pay to Medicaid, it can make some changes. For instance, in nearly all facilities Medicaid residents must share a room.

Finally, Medicaid makes it tough to artificially give away assets in order to benefit from the program. One rule penalizes you if you give away your money within five years of being admitted to a nursing home.

At first glance, giving away money to relatives may seem attractive. But Medicaid is a program aimed at the poor and it faces severe budget issues.  Besides the ethical issues of gaming the system (which I think are significant), you might want to think twice about turning your care over to a government program that is chronically short of money.

With the presidential election in less than two weeks, consumers, advocates, and providers should pay attention to what Barack Obama and Mitt Romney would do about long-term supports and services for the frail elderly and younger people with disabilities.

It is hard to know for sure, because neither man has said much. Yet, between the lines, there are important messages. The first is no matter who wins, federal budget constraints on programs for frail elders will grow. The second is there are key differences between the two men.

Romney, who vows historic reductions in overall federal spending in an effort to balance the budget, may slash programs that support the frail elderly and younger people with disabilities while, at the same time, give states more flexibility in the way they provide many of these services. By contrast, Obama would largely preserve the status quo—perhaps supporting more modest spending reductions while retaining federal control of most programs.   

The biggest difference: Romney’s plan to cap federal spending on Medicaid would mean big cuts in that program, which funds more than 40 percent of all paid long-term care costs.

Romney has not described exactly how his plan would work, but the Center on Budget and Policy Priorities, using Congressional Budget Office data, estimates that a proposal by his running mate Paul Ryan would cut federal funding for Medicaid by one-third, or $800 billion over 10 years.  Ryan’s plan (which Romney has not disavowed) would also give governors far more flexibility to operate Medicaid than they have today. Still, it is hard to imagine states finding so much inefficiency in the program that they could manage a 30 percent cut in federal funding without slashing benefits, provider payments, or both.

It is impossible to know how governors would divide that shrinking pie but it is hard to imagine long-term care would avoid cuts.  

Similarly, Romney has proposed to reduce all federal spending to about 20 percent of Gross Domestic Product in four years, implying deep cuts in non-defense government programs. Again, he has not said exactly what he’d cut, but independent analysts estimate that to keep his promises to balance the budget while cutting taxes, increasing Pentagon spending, and protecting Medicare in the short-term, he’d have to cut planned spending for all other government programs in half by 2022.

Among the programs that could be subject to such cuts: Meals on Wheels, subsidized senior housing, and transportation—all critical to frail elders trying to live independently at home. Budgets for these programs have been largely frozen for the past three years.

Romney has said—again offering no specifics—than he supports expanding community-based care for people with disabilities. But it is hard to see how his budget agenda would make that possible since he’d likely cut the infrastructure people need to live at home.   

Obama, for his part, has sharply criticized the effects of Romney’s Medicaid cuts on seniors. But he has essentially been silent on his own agenda for the frail elderly, those with disabilities, and their family caregivers.

The president’s newly issued Plan for Jobs and Middle-Class Security never mentions long-term supports and services. While his administration abandoned the CLASS Act—the piece of the 2010 health reform law that was intended to create a national voluntary long-term care insurance program—he has never said what he’d put in its place.  Romney, for his part, has been silent on long-term care insurance.

Obama does say that, unlike Romney, he’d preserve the basic structure of Medicaid. And the 2010 health law greatly expands federal spending for the medical care piece of the program—at least for the next decade. But if Obama tackles the long-term federal deficit, as he often promises, it is hard to see how Medicaid long-term care would be immune from any cuts.

Similarly, those non-Medicaid services such as Meals on Wheels would also be on the block in any Obama long-term budget deal, though they’d probably be at less risk than in a Romney Administration.

The bottom line: Long-term care is not on the radar screen for either of these men. For an idea of how remote it is, listen to Romney’s answer to a question about long-term care funding. Both have other priorities. And that suggests that should Congress and the next administration engage in a major deficit reduction plan, long-term care needs could easily be ignored, swept away by much more powerful tides of fiscal austerity.

That’s why it is so important for consumers and providers to advocate for those government programs that work, as well as create new grass-roots tools to support highly vulnerable frail seniors, younger people with disabilities, and their caregivers.

In the past few months, important events and circumstances have highlighted the need for an effective, sustainable way to finance the often-astronomical costs of long-term care services and supports. 

The growing political and financial pressures on Medicaid–the state/federal program that funds nearly half of all paid long-term care; the deepening problems in the private long-term care insurance market; and the demise of the CLASS Act–the failed attempt to create a national, voluntary long-term care insurance system– have all added urgency to what was already a problem that was growing with the aging baby boom population. 

Now, a valuable new e-book  describes the challenges of long-term care financing and suggests some potential solutions.  “Universal Coverage of Long-Term Care in the United States: Can We Get There from Here?” (Russell Sage Foundation 2012), was edited by Douglas A. Wolf  and Nancy Folbre and includes chapters by a broad range of highly-respected policy experts. 

The books asks whether a universal long-term care financing system is possible and imagines what some models may look like. There is nothing Pollyanish about it–the book recognizes the political and financial difficulties of reaching this goal. But it suggests that it is possible.

Carol Levine puts financing reform in the context of family caregivers, who are the bedrock of the care system. Robyn Stone looks at the issue from the perspective of the paid workforce. Robert Hudson reviews the broad history of long-term care in the U.S. and I contributed a chapter on the rise and fall of the CLASS Act.

David Stevenson, Marc Cohen, Brian Burwell, and Eileen Tell look at the private insurance market in the U.S. David Bell and Alison Bowes, Svein Olav Daatland, and Mary Jo Gibson study the experiences of long-term care financing reforms in Europe and Japan,

Finally, Len Burman analyzes the economic effects of long-term care financing reform in the U.S.

As the title suggests, this book focuses on the idea of universal insurance. But many different models can rise from a foundation of universal (or near-universal) coverage. Just think about Medicare, where only Part A is truly universal, while Part B and the Part D drug benefit are not, though participation is extremely high. And Medicare  includes traditional government insurance, supplemental coverage sold by private carriers,  and, increasingly, privately-issued managed care. 

There are just as many ways to insure against the risk of needing long-term care, either at home or in a facility. It is not hard to imagine some combination of private insurance, public coverage, and a safety net for the very poor. The Germans already have a system such as this, and it works pretty well for them.

There are many paths down this road. and each raises big questions: How much insurance should a universal system provide? Should it offer first-dollar benefits, or catastrophic coverage only? Will benefits be paid in cash, or through services? Can such a new system enhance care integration and thus potentially improve the quality of both health and long-term care for those with chronic disease? And, perhaps, most controversial of all, how will we pay for it–premiums, taxes, or some combination?        

The volume can be downloaded for free from the foundation website. If you want to take a deep dive into the challenges of long-term care financing, it is worth a look.

The long-term care insurance industry is in big trouble. Consumers aren’t buying. Carriers are dropping out of the market. And those that are staying are raising premiums, cutting discounts,  and eliminating products–all of which are discouraging even more consumers from buying.

What’s gone wrong? The industry has two fundamental problems. A long-standing one–buyers are dropping coverage less often than the industry predicted. And a more serious new one–historically low interest rates are sucking the profit out of the business.  

As a result, just about every LTC insurance company has raised premiums in recent years for both old policies and new ones. And now many have begun trimming their product lines and eliminating or reducing discounts.

For instance, Genworth, which dominates the LTC market, announced on Aug. 1 that it plans to raise premiums on pre-2003 policies by 50 percent over the next five years, and on newer policies by 25 percent over the period. It will tighten underwriting for new products, requiring, for the first time, blood tests for applicants. It will also stop selling lifetime benefit policies, reduce spousal discounts from 40 percent to 20 percent, end preferred health discounts, and stop selling products that allow consumers to pay premiums up-front rather than over their lifetimes.

Another big player, Transamerica, has announced similar cut-backs.

Finally, some household names are simply dropping LTC insurance entirely. In February, Unum stopped selling group policies (a product once thought to be the industry savior). In March, Prudential stopped selling individual coverage and on Aug. 1, it abandoned the group market as well.

For years, carriers underestimated how many consumers would let their insurance drop before they went to claim. The companies assumed that as premiums increased and buyers’ disposable income shrank, a certain percentage would drop coverage. The phenomenon, known as the lapse rate,  increased returns to insurers and allowed them to keep premiums under control. 

But as it turned out,  lapse rates have consistently been much lower than the companies figured (typically about 1 percent, compared to 5 percent for other insurance products). That squeezed their profits and forced them to raise rates which, in turn, made insurance less attractive to new potential buyers.

In recent years, the industry has adjusted its estimate for those drop-outs, and newer policies–with higher premiums– are more profitable than older ones. But carriers have had  much more trouble adjusting to the newer problem: How to survive in a nearly zero interest rate environment.

To oversimplify a bit, insurance companies earn revenue by collecting premiums and then investing that income. Because long-term care insurance companies typically do not pay claims for many years, they hold premium income for a long time and, thus, investment income is a very important part of their business model.

Those investments are limited by state insurance regulators to ultra-safe bonds. But ten-year Treasury bonds are returning just 1.6 percent. Five-year notes are paying a paltry 0.7 percent. That is far lower than overall inflation and significantly lower than the annual increase in long-term care costs, which is roughly 5 percent.

The math is brutal:  No insurance company can pay claims and make a profit when its costs are rising by 5 percent but its investment returns are in the neighborhood of 1 percent.

Keep in mind that long-term care insurers are almost all subsidiaries of much larger life insurance companies. And their parent firms, anxious to manage risk in what was already a very risky business, are not at all troubled by the decline in LTC sales. In fact, slashing sales may be exactly what they have in mind. 

Until a few years ago, carriers that stopped selling LTC insurance would sell their existing policies to other firms. But, today, in a reflection of the state of the industry, there are no buyers. In most cases, the large carriers will continue to cover their current customers, though policy-holders should not be surprised to see ongoing rate increases.

Overall, though, the decline of the private LTC market is a huge problem, especially since it is coming just as Washington is seeking ways to reduce Medicaid, the most important payer of long-term care costs. It is yet one more reason why it will be critical to find a workable solution to the problem of long-term care financing.

Reverse mortgages, which hold great promise as a way for the frail elderly to pay for long-term care costs while living at home, are failing to do the job. Few homeowners ever take out these loans, and those who do, paradoxically, may be putting their financial security in old age at greater risk.

According to a new report  to Congress by the federal Consumer Financial Protection Bureau, only about 70,000 homeowners –or 2 to 3 percent of those eligible—tap their home equity with RMs each year.  However, borrowers are younger than ever and more likely to take proceeds as a lump sum, thus potentially reducing assets they’ll have available to pay for long-term care costs as they age.

Homeowners may take out an RM starting at age 62. These loans give them access to their home equity right away, either through a lump sum, monthly payments, or a line of credit. In contrast to a traditional mortgage or home equity loan, borrowers make no loan payments while they live in the house. However, their equity decreases over time as their interest costs build up. When the borrower dies or moves (for instance, to a nursing home), the loan plus interest must be repaid immediately.

Nearly all RMs are insured by the Federal Housing Administration through its Home Equity Conversion Mortgage (HECM) program.  With a standard HECM loan, borrowers pay relatively high fees but can receive as much as 77 percent of their home’s appraised value (depending on the borrower’s age). They can also choose an alternative, called a HECM Saver loan, where they pay much lower fees but can borrow less and may pay a higher effective interest rate.

As a result of the housing crash, as well as recent market and regulatory changes, RMs look very different today than five years ago.  Before 2007, nearly all borrowers chose adjustable rate loans. Today, 70 percent of HECM loans are fixed rate, where proceeds are disbursed only through a single lump sum.

In 2000, about 20 percent of borrowers were 62-69. But 2011, 47 percent were in their 60’s. By contrast, in 2000 half of borrowers were age 70-79 while in 2011 only one-third were 70-something.  Many of these relatively young borrowers are using that upfront cash for everyday expenses (and frequently to pay off existing debts).  

The problem is RMs eat into home equity over time. If someone borrows in their 60s, and spends the money right away, that will leave them with fewer financial resources in old age when they may need those funds the most. In effect, if it is too easy to borrow against your home when you are relatively young, you will have less equity when you really need it for long-term services. Worse, nearly 10 percent of reverse mortgage borrowers were at risk of foreclosure due to non-payment of taxes and insurance as of February, 2012, according to the CFPB report. As a result, even with the RM funds, they are at risk of losing their homes.

For most households, home equity remains their largest single financial asset. And it has the potential to serve as a critical source of funding for the cost of long-term care services and supports. As a concept, reverse mortgages are a terrific way to turn that equity into needed cash. But in practice, they are failing to do the job and, for many borrowers, may be making things worse.