Chris Read: Building long-term care provision into centralised retirement propositions

Chris Read shares his thinking around the four stages of retirement income planning in his latest article for Retirement Planner

In one of my recent lockdown thought pieces which Retirement Planner kindly gives space to each month, I alluded to the perils of failing to prepare for long-term care (LTC) provision.

I mentioned the heartache that this is causing families up and down the land as the children of more and more parents face the prospect of finding the considerable amounts to pay for it.

In the good old days, it was quite different. When the elderly became too old to work and needed help with fetching the shopping, heavy lifting, or personal care tasks, several of their children were living close by and able to share the workload. If they were not available, then often the local community would rally round. However, things are a little different today.

With societal advancement in much of the developed world at least, has come boundless opportunity and life options. We also have much smaller families today. As a result, it’s not uncommon for those siblings we might have to be scattered around the world. Any that are close by, may well be up to their necks in work commitments which make regular parental care commitments impossible. We find ourselves having to outsource these care tasks to agencies.

However, now that many more of us are living deep into our 80s and even 90s, it’s more important to financially plan for the potential requirement of full-time live-in care or even a residential nursing home in our advanced years.

The costs can be eye-watering. Residential care home costs on average are £3,552 per month today. It’s a bit of a postcode lottery but suffice to say if you live in London or the South East then it could cost even more. For example, a dementia sufferer in residential care currently pays an average of £851 per week in the South East. The state’s bill for long-term care is forecast to be more than 10% of GDP by 2030.

Arguably, living longer is part of the problem as the likelihood of suffering from some form of dementia is rising almost as steeply as the number of UK people living into their 90s. Today, 616,100 people are 90 or over and this number rises by 3% to 4% each year. Incidence of dementia rises steeply as you move through your 90s. Today 13% of 90–94-year-olds in the UK suffer from it. That percentage rises to 21% of 95- to 99-year-olds, while 41% of centenarians now have dementia. The other problem with dementia is that caring for sufferers takes a heavy toll on family-based carers. The parent-child relationship is sorely tested when your parent no longer recognises who you are.

However, as more and more of us need to plan for a 100 Year Life, it would be foolish not to prepare for long term care provision in those later years. To this end, I think it is worth planning your retirement income provision around Four Key Stages of Retirement…

Stage 1: Semi-retirement – estimated age 60-67 (possibly earlier with pandemic effects)

During this period, many older workers are seeking to reduce hours, explore a portfolio career or go self-employed. They may want to supplement declining paid income with retirement savings. It’s during this period that drawing on non-pensions savings make the most sense. Particularly if your pension savings are nudging up close to the pensions lifetime allowance (which was recently been frozen at £1,073,100 until April 2026), or you want to continue making pension contributions and so don’t want to trigger the punitive £4,000 maximum money purchase annual allowance by beginning to draw on your DC pension.

With these two scenarios in mind, far better to be building up Retirement Income Bucket #1 – a semi-retirement fund in an investment bond. This wrapper can receive much higher one-off contributions than either pensions or ISAs. HMRC has no upper limit – it’s up to each insurer how much they will accept and £500,000 is a common top end limit. A popular feature is the annual 5% withdrawal allowance, whereby amounts up to 5% of the initial investment can be withdrawn with any tax liability deferred.

If that 5% is not needed in any year, it can be taken forward for future years, an especially useful feature if your portfolio career is a bit ‘feast or famine’. The tax position when the bond matures is complicated, but with careful planning and the use of ‘top-slicing’, holders may be able to avoid any further tax beyond the equivalent of basic rate tax that the insurer has already paid within the product. An ISA, by contrast only allows you to put in up to £20,000 per year, so it’s not quite so easy to build a serious semi-retirement fund which might need to last seven years or more.

And more people than ever might need to be thinking about semi-retirement as a result of the pandemic which is set to swell the numbers of older workers that will be forced into semi- or even full retirement early. A recent study by the Institute of Fiscal Studies working with the Centre of Ageing Better published on 17 June, found that over 65-year-old employees were 40% more likely to be still on furlough at the end of April 2021 than staff in their 40s (14% versus 10% of those two age groups).

“As the furlough scheme is wound down over this summer, we can expect to see increased numbers of older jobseekers, many of whom may face significant challenges when it comes to finding new jobs,” the IFS report notes.

Stage 2 – Active & In Full Retirement – estimated age 67-77

During this retirement sweet spot, most will want to plan for remaining highly active, taking more holidays, and perhaps bringing the extended family together. They might be supporting their adult children with childcare and perhaps even helping their grandchildren out financially. It’s during this period that a second home might be purchased and spending on leisure pursuits is likely to peak.

One option during this period is use of equity release to free up some funds for any unplanned lifestyle expenditure, perhaps to help children or grandchildren get on the housing ladder. Equity release can only be explored while the active retirees still live in their home of course.

It’s during this stage that they may need to consider your two more retirement income buckets: Retirement Income Bucket #2 could be set up to provide guaranteed income to cover the essential income they need for day-to-day expenses, including regular monthly bills for electricity, TV, water, heating, shopping, council tax and keeping the car running. This bucket might need to cover other items that many regard as vital for their sanity – like one or two good holidays each year. Once these have been added up, your clients might want to see if they can fund these essentials out of an annuity to ensure the peace of mind that comes from knowing their basics are definitely covered.

Of course, buying that annuity deep into their 60s may help with the level of regular income they can lock in when you source it for them. Also consider the type of annuity to select. Level annuities cost a lot less than inflation-protected ones.

Then there’s Retirement Income Bucket #3 for those lifestyle items: the second or even third holiday and the occasional bigger expenses such as a new car. Because Bucket #3 demands flexibility, an income drawdown policy is best utilised for this. And the growth assets underpinning drawdown policies should also cover future cost increases in that basket of essentials as well as providing for additional lifestyle spending in retirement. Amongst these lifestyle items, there may be some big-ticket items which your client may not be able to put an immediate timeline or budget on.

Drawdown policies are ideally placed for irregular drawing as these ‘nice to do’ items pop up. They also offer the exposure to higher growth funds, so a good deal of your lifestyle expenditure could be paid for from investment growth in the good years. You’ll need to work with your clients to arrive at a notional annual maximum drawdown amount that you limit them to in order to ensure that they do not run dry before they reach their dotage.

Back in March 2018, The Institute and Faculty of Actuaries recommended a sustainable annual drawdown rate of no more than 3.5% of the entire pot value, assuming that you are going into decumulation at the then State Pension Age of 65. 

In this scenario, a £100,000 pot in Drawdown could deliver an income of £3,500 per year. In an Annuity AND Drawdown model, would £3,500 be enough to cover your client’s lifestyle expectations assuming they have £100,000 to put into an income drawdown plan after you’ve helped them to purchase that first ‘essentials’ annuity and laid money up in an investment bond and/or ISA for use during flexi-retirement?

Stage 3 – Less Active Retirement – estimated age 77-87

At this stage, holiday and larger lifestyle expenditure tends to level off and begin to fall away. Many retirees choose to downsize as the workload associated with running a large family home may start to become too much and moving home still feels do-able.

The alternative is to divert lifestyle expenditure towards hiring additional help with cleaning, gardening and perhaps even some cooking and drop-in home-based care. This is the period for inheritance tax planning, drawing up a Lasting Power of Attorney and settling any final changes to wills. Don’t delay – once other people realise that your clients no longer fully understand what they’re doing it will be too late. They might even want to start earmarking Retirement Income Bucket #4 for passing wealth onto the next generation tax efficiently.

It might make sense in the second half of this period to purchase a second annuity, perhaps benefiting from enhanced annuity rates if in ill health and locking in additional income certainty.

Stage 4 – Long-term care – let’s say anytime from 88 onwards but it could be many years earlier (average longevity for UK men today is currently 78.7 and for UK women it’s 82.7 years)

The numbers tell us that the average number of years that people require long term care (LTC) is rising and now sits at 3.9 years in the US, according to the Bipartisan Policy Center there. There is scope to create Retirement Income Bucket #5 to build a fighting fund for long term care provision. However, if you are living in the South East (see above), you probably need to set aside about £180,000 to cover you – that’s a mighty deep bucket which you might not get to tap. What about LTC insurance?

The LTC insurance market which has been in decline on both sides of the Atlantic for more than 10 years since the early 2000s, began to recover in the US from about 2011, although not so in the UK yet.

What can we learn from the resurgence of the US LTC insurance market over this period? On both sides of the Atlantic part of the market problem was getting people to pay hefty premiums for coverage they might not need.  So, in the US new hybrid ‘combo LTC’ insurance products were created by life assurers. These new offerings provide LTC coverage if there is a need, or a death benefit if the policy isn’t used to pay for care.

The complexity of the product has stimulated an increase of specialist advisers and the burgeoning market is now supported by dedicated provider platforms and underwriting protocols. 

Furthermore, most US combo LTC plans cover modifications to your home to make it easier to remain there to receive care if that’s the preferred option – something that is more popular as a result of the pandemic for obvious reasons. It seems clear we have a good deal to learn from the US here.

The only real LTC insurance offering left in the UK today is a medically-underwritten ‘immediate needs annuities’ which some purchase just before they go into residential care. It’s normally linked with an adverse medical report and as such it can be priced fairly accurately. It makes sense for some who want to ring fence costs.

Involving the wider family

From Stage 3, it’s clear that any financial adviser involved in supporting an ageing client should try to involve family members as early as possible.

The adviser must establish what sorts of decisions the family will and will not support should the client lose mental capability and arrive at the point where long-term care is needed.

So, LTC provision preparedness is yet another reason to get the next generation involved, as well as having the more positive intergenerational wealth transfer discussions during Stage 3.

Chris Read is group CEO of Dunstan Thomas

Editor’s note: This article was written before the government’s latest social care funding reforms were announced