Philadelphia Reflections: Last Year of Life Insurance

Last Year of Life Insurance

Last year of life insurance is life insurance, retrospectively paid after the death of the subscribers to his health insurance company. Although theoretically reimbursement could be made for actual individual expenditures, it is a more powerful idea to reimburse in the amount of the calculated average last-year costs of the community. It could loosely be said this approach constitutes 100% reinsurance of a selected peril, in order to suggest possible variations, such as 105% reinsurance (to transfer administration costs), 80% reinsurance (to encourage case management ), etc.

The last-year-of-life concept should be regarded as a tool for coping with certain problems inherent in the system of basing health insurance on employer groups. Employer-related health insurance is tax-favored, reduces marketing costs, and almost eliminates risk to the insurers; it is far easier to modify such a system than to reform it. However:

Non-random perils like AIDS may cause insurers to withdraw from ensuring particular companies or even whole industries.

Employees who retire early for reasons of health may find themselves unable to obtain health insurance after the COBRA protection period.

There is presently no method available for young people to guarantee their insurability before they enter permanent employment, or for employees of any age to guarantee their insurability in the event of company insolvency.

The risk of losing insurability is present in every change of employment; job immobility is created when fear of health insurance problems is on the employee's mind. Early retirement may be rejected for fear of exposure to loss of health coverage between the time of retirement and the onset of Medicare coverage.

Serious dilemmas for corporate funding of post-retirement health benefits have been created by a fear that voluntary pre-funding such obligations may create cash targets for corporate raiders. An employee has no legal rights to the prefunded reserve even though he may have legal claims for the eventual benefit obligations

Consequently, the most conservative present estimate of unfunded post-retirement health insurance obligation is $100 billion, and it may be four times that.

Since last-year-of-life insurance is life insurance, it might be provided as either term insurance or cash-value insurance. Although cash-value insurance has obvious advantages for the problems listed above, it would not enjoy the same tax-sheltering which term insurance would have, and consequently would require legislative relief to be fully effective. However, term insurance might well offer some relief for the AIDS problem.

Insurers are leaving the Washington DC area because of prohibitions against screening for AIDS, and Massachusetts also has a law against testing. The obvious first resort of an insurer is to withdraw from covering companies involved in the arts, design, theater, etc, and this tendency is paralleled by rapidly increasing detox and rehab costs for cocaine abuse, which have led to harsh exclusions for psychiatric care. The point is that employer-based insurance seldom includes a premium provision for risk, and if a particular peril cannot be excluded then a general class of service or a particular sort of employer is excluded as a proxy for it.

In this particular instance, it is proposed that insurers explore the willingness of their group markets to shift coverage of last-year costs from company-specific to community-rated premiums while continuing to be experience-rated for all other perils. If the various trade-offs were favorable, then insurers might be willing to discontinue offering last-year coverage except through the community-rated life insurance route. At present, the experience is probably insufficient to judge whether a market-driven voluntary approach would be effective. In the event, most companies proved willing to adopt the approach but insurers feared non-compliant competitors who saw an opportunity to steal business, then the public-interest need for legislation to protect the health insurance industry from disruption by the AIDS problem would have to be debated. For those who dislike compulsory solutions, it is exasperating to discover that the insurance industry generally prefers to be compelled by law since to move ahead in a cooperative manner is to invite anti-trust action.

The preceding, or "term-insurance" approach has the advantage of gathering useful information about the last-year concept without requiring extra tax sheltering or even the formality of separate policies or insurance subsidiaries. It could be retrospectively tested on paper without much cost or any risk, and it might be held ready as a potentially useful tool for the eventuality of the AIDS epidemic provoking serious disruption of health insurance. However, much more important benefits might grow out of the cash-value life insurance or refunded, approach to last-year-of-life coss. Since last-year expenses come at the end of a 70+ year life expectancy, the opportunity for compound interest to work is at a maximum.

Under this approach, the initiative would lie with life insurers, who would be induced to include a standard beneficiary clause in their policies. That clause would assign the community-average last-year health cost reimbursement to any health insurance company which had assumed those costs and had previously provided the beneficiary with appropriate consideration for making the assignments. (At the moment, the various secondary adjustments between employer, employee, health insurer, and tax collector can be left to the marketplace to work out. If no one makes an adequate offer, the beneficiary simply has some life insurance).

The cost of such insurance might turn out to be fairly modest. Although average last year-of-life health costs might be guessed to approach $20,000 per death, the comparatively low death rate before the age of 65 means that an average life insurance policy of less than $5000 (with proceeds exhausted at 65) could conservatively be guessed to cover that need. After age 65, every person can reasonably expect Medicare to have a last-year obligation. Using a 65 investment assumption, the present value of such policy would be $250 at birth; a 3% assumption would only be $500 and would allow general inflation the economy to be ignored. (The $5000 figure would seem to allow generous room for potential innate health-care cost inflation, inasmuch as last-year coverage does not require any provision for recovery from one formerly-fatal condition only to die later of a second fatal condition, which is the main cause of "innate" health cost inflation.) Presumably, the best protection against future health cost escalation is to purchase more insurance than is thought to be needed, expecting any surplus to flow into the estate. Even taking a conservative view of the health-cost escalation problem, its possible to imagine premium costs of $100 per year during thirty years of working life.

Although the marketplace could be expected to determine how much reduction in health insurance premium would be accorded for the lifting of last-year risks, the main value of this coverage would appear in the case of someone who was uninsurable (? ie unemployable?) without it, or who would have been afraid to switch jobs without it. When individuals sustain periods of loss of income, the possession of this insurance might be regarded as a form of catastrophic health coverage, which for the temporarily unemployed might be an absolute minimum coverage. The reasoning is that this type of coverage can be switched on or off; a treaty of assignment need only be signed if the individual finds it advantageous to use it, and is later revocable at will. The policy, in short, is his not his employer's but can be made to coordinate with employer benefits.

Medicaid programs are rather dubious candidates for this approach but even they might be induced to be more generous with last-year coverage (probably under either a term-insurance or waiver-of-premium approach) than they have typically been with full health insurance, the becaused potential for abuse is eliminated.

Finally, the relationship with Medicare needs to be explored with HCFA. After all, Medicare is the main health insurers of fetal illness costs. Far from ever escaping these costs, Medicare has a major concern that it may also have to assume long-term custodial and nursing home costs. Far from ever escaping these costs, Medicare has a major concern that it may also have to assume long-term custodial and nursing home costs. In this matter, Nature provides a certain trade-off. Dying young and outliving your income are both tragedies, but few people have both of them. There is a need to consider ways of transferring costs between the two largely-exclusive problems. The aggregate community cost of fatal illness after age 65 is much heavier than it is up to age 65; possibly $20,000 average coverage would be necessary. Since compound interest would have longer to operate, however, the premiums or present-value costs would not necessarily be proportionately larger. A premium of $40 (1988 dollars) could be imagined; there is no reason why premiums could not be inflation-adjusted on a yearly basis as an alternative to making overly conservative interest-rate assumptions.

The proposal is to explore with HCFA he attractiveness to them of providing some degree of long-term care coverage in return for surrender to them at age 65 of paid-up life insurance adequate to cover fatal-illness costs.

QUESTION: If the health insurer agrees to lower his premium, and subsequently pays the last year costs for the subscriber, how can he be assured the life insurance will eventually reimburse him?

Since health insurance is mostly in employer groups, covering only expenses n the current year, the health insurer can limit his concern to the current year. The health insurance annually needs a slip of paper guaranteeing payment by a life insurer, in the event of client death. Three main methods are available, each with implications about who owns and controls the process:

One method is to follow the reinsurance model strictly; the employer pays the health insurer, who then pays a life insurer for "reinsurance". In this case, the health insurer controls the process, which is almost invisible to the employer an employee.

Where the employer already has a group life insurance benefit, he might well wish to send the check directly to the life company for a somewhat larger benefit(simultaneously reducing the payments to health insurer). While this approach gives control to the employer, it also gives him the headache of negotiating the premium adjustments.

Both of two foregoing approaches would be administratively very convenient, but neither one provides the employee with portability between employers, bridging of episodic gaps in employment, etc. For the employee to take advantage of portability, carriers other than the company carrier must be utilized. The employer's health carrier would then need yearly slips of paper from a number of life carriers, most easily obtainable as part of the yearly premium billing process for the life insurance. Such a paper would amount to a rebate coupon, issued by the life insurers, honored by the health insurer.

It is essential to keep paperwork simple for an estimated premium of about $100 a year for a term an $400 a year for cash-value life insurance (of course, only$100 of either would be transferred to the health insurer). Consequently, insurance management would want to look into bulk communication: "Dear Health Insurer, Our records show the following clients have exclusively assigned the average last-year health benefit to your company for deaths which might occur during the period between A and B. Yours Truly, Life Insuror"

Because of the problem of differing premium dates, the insurance industry might further wish to agree on a calendar or other standardized year definition for this type of coverage. The administrative issue can be stated in the plainest possible term: the extra administrative cost of this approach is the price of portability.

QUESTION: No underlying health insurance.

Although an individual with cash-value life coverage could borrow against it to pay health costs, terminal or otherwise, the issue has been raised as to how someone would employ the life insurance mechanism if he did not have any underlying health insurance, but did have term life insurance. Alternatives would be:

He could purchase health insurance with a front-end deductible equal to the face value of the life insurance. MONY sells a $25,000 deductible policy for about $200 a year family premium, with a $1,000 top limit. Such a combination would protect for more than just terminal illness, but it would not protect against more than one heavy cost. For what would presumably be a very low extra premium, he would need another reinsurance policy to cover multiple illnesses. Such reinsurance might have two parts: one part to cover the remote possibility of exceeding the deductible more than once, and another part to cover the deductible on what proved to have been a non-fatal illness. This degree of coverage goes considerably beyond the last illness concept and would naturally cost more.

The main problem with this life-insurance-to-pay-off-the-high-deductible approach is that it presumes the beneficiary would pay his bills in cash and contains no way to spread the risk. Therefore, everyone ends up either overinsured or underinsured. A smaller issue is that he would pay full charges without a way to negotiate volume discounts at hospitals. Taken together, this approach would be unnecessarily expensive.

An approach more narrowly related to the cost of terminal illness would be for the life insurer to pay last-year costs, large and small, but only reduce the net death benefit to the estate by the average community terminal illness cost rather than the actual case-by-case expense. Once the average rate had been established, it would become possible to tailor the insurance coverage, leaving a suitable margin for year-to-year inflation and other contingencies.

The degree to which carriers could pool claims data in arriving at the average cost is an anti-trust question; the definition of a covered expense is purely a question of practicality within claims administration. However, differences of opinion about the feasibility of different coverages might make data sharing less practical.

QUESTION: What if there are multiple carriers involved?

On examination, this question relates mainly to carelessness, misunderstanding or incompetence on the part of the subscriber. Even if the individual has multiple life insurance carriers, he would be foolish to execute a last-year beneficiary clause with more than one of them. Consequently, no such clause should be permitted unless it defines the primary carrier for last-year purposes as that carrier with the earliest date of execution of such a clause which is still valid at the time of death.

With regard to multiple health carriers, the life carrier would generally take the position that he is only going to pay so much, and the health carriers can work it out among themselves. The reasonable division of the award would be in proportion to the degree the health insurers had paid out the actual health costs. No doubt there would be instances of multiple health insurance coverages of someone who dropped dead with no medical costs at all. If the reimbursement were on the basis of average community costs, lawyers for the health companies would no doubt exercise their imaginations in court, but the life insurer would be serene, and the situation would soon clarify itself with case law.

It is somewhat more difficult to contend with the possibility that the life insurance clause would authorize payment of actual individual costs, only to discover that the beneficiary had over insured himself with multiple health carriers, without coordination of benefits clauses. The life carrier would thus be in a poor position to know just what the actual payments by the two contending health insurers had been, and how much overlap or legitimacy there was to them. It follows that the subscriber who requests that individual actual reimbursements rather than average community ones be made, must also be required to specify whether he wants all carriers reimbursed, or only the primary, or only the largest, payor. With the life carrier thus immunized, it becomes the responsibility of health carriers not to reduce their premiums or make other concessions to the subscriber in return for a last-year treaty unless the subscriber can satisfy them that their agreement meshes with the life clauses, or that the subscriber agrees to the coordination of benefits.

Originally published: Tuesday, September 18, 2018; most-recently modified: Tuesday, April 30, 2019