Long-Term Care Insurance: Carrier Interest in the Federal Program, Changes to Its Actuarial Assumptions, and OPM Oversight
Released: 2011-08-10T00:00:00

Letter

Background

Long-term care, which includes services provided to individuals in nursing homes, in assisted-living facilities, or in their homes, can be costly. Most of our nation’s spending for this care is paid for by government programs. Private long-term care insurance can also be used to pay for these costs; however, only a small portion of total long-term care costs are paid for by such coverage. The federal government has taken steps to increase the use of private insurance to pay for long-term care costs, including creating FLTCIP.

Long-Term Care Costs

Long-term care costs vary based on the types of services provided and the geographic area where they are rendered. For example, in 2010, the average annual cost for care in a nursing home exceeded $83,000 and the average annual cost for care in an assisted-living facility was nearly $40,000. In addition, the average hourly rate for a home health aide was $21; for example, 10 hours of such care a week would average about $11,000 per year.

Most of the nation’s spending on long-term care services is paid for by government programs. About $253 billion was spent nationwide on long- term care services in 2009, according to the most recently available data. Nearly three-quarters of this amount—$183 billion—was paid for by government programs, primarily Medicaid, and to a lesser extent, Medicare and other government programs. Individuals paid 18 percent of the total, or $46 billion, out of pocket, and private insurance paid for a small portion of the total, 6 percent, or about $16 billion. (See fig. 1.)

Individuals may purchase long-term care insurance policies directly from carriers in the individual market, or they can enroll in those offered by groups, such as their employers. At the end of calendar year 2009, 6.7 million individuals had long-term care insurance policies, according to data from the National Association of Insurance Commissioners (NAIC). Nearly 70 percent of these policies were purchased in the individual market, with the remaining portion purchased through employers or other group sponsors.

States are generally responsible for overseeing long-term care insurance. Through laws and regulations, states establish standards governing long- term care insurance and state insurance departments enforce those standards. NAIC has issued model laws and regulations to assist states in formulating their laws and regulations for long-term care insurance; many states have adopted NAIC’s models. State regulators perform a variety of oversight tasks that are intended to protect consumers from unfair practices, including reviewing premiums and marketing materials and responding to consumer complaints.

Long-term care insurance is generally structured around a number of benefit options that applicants select. These include the types of services covered, such as nursing home services, care in home and community settings, or both; the daily benefit amount, which is the maximum amount insurance will pay on a single day; the benefit period (or duration of coverage), which can range from 1 year to unlimited (i.e., lifetime) coverage; and the length of the elimination or waiting period, which is the length of time an individual has to wait before insurance will provide coverage toward the cost of care.

An applicant can also select an inflation protection benefit to help ensure that over time, his or her daily benefit amount remains commensurate with the costs of care. Inflation protection benefits increase the enrollee’s daily benefit amount at specified intervals—for example, annually. Carriers typically provide multiple inflation protection options, including a 5 percent ACIO. Under this option, an enrollee’s daily benefit amount is increased each year by 5 percent of the prior year’s amount without a routine increase in premiums. For example, an individual who selected a daily benefit amount of $100 at enrollment would have accrued a $105 daily benefit amount that would be available to him or her at the beginning of the second year of coverage. At the beginning of the third year of coverage, the enrollee’s daily benefit amount would accrue by an additional 5 percent to $110.25. Inflation protection is important because many purchasers of long-term care insurance do not expect to need long- term care services until some time in the future; they pay premiums over a period of years in return for a promise of future protection. This benefit allows enrollees to take advantage of lower premium rates available to younger enrollees, while allowing their benefits to grow over time.

Long-term care insurance premiums are affected by many factors. Carriers charge higher premiums for richer benefits; for example, higher daily benefit amounts, longer benefit periods, and higher levels of inflation protection will increase premiums. In addition, premium rates vary based on enrollees’ age at enrollment, with older individuals subject to higher premiums than younger individuals who select the same benefits. Premiums for some policies may also be based on the health status of the applicant. For example, policies sold in the individual market are generally subject to full underwriting, which entails an extensive review of the applicant’s health and may result in premiums that vary based on health status. In contrast, premiums for policies sold in the group market usually do not vary based on individuals’ health status. Such policies may be offered, during at least some periods, on a guaranteed issue basis with no underwriting—meaning that coverage is guaranteed to all eligible individuals. For example, some carriers guarantee coverage to a group of eligible individuals, such as active employees, during an open enrollment period.

In addition, carriers establish premiums on the basis of actuarial assumptions—including lapse, mortality, morbidity, and return on investment assumptions.  The lapse assumption reflects the expected portion of enrollees who drop their coverage each year, for example, by voluntarily canceling their policies. Lapse assumptions can vary based on a variety of factors, including the enrollees’ age at enrollment and the number of years enrollees have had their policies. In general, it is assumed that the longer that enrollees keep their policies, the less likely they are to lapse. After enrollees have maintained their policies for a certain number of years—for example, after 6 or 8 years—carriers may assume that the lapse rate will remain constant. This rate is referred to as the ultimate lapse rate. Lapse rate assumptions greatly affect long-term care insurance premiums because when individuals lapse, future liabilities are immediately reduced although current assets are not affected. Premiums that have already been paid by those who lapse generally remain with the carrier and are used to subsidize the cost of future claims by other enrollees.  The mortality assumption summarizes the expected death rate of the enrollee population, by age. Similar to the lapse assumption, mortality reduces future liabilities without affecting assets.  The morbidity assumption reflects the amount of claims costs expected for enrollees, by age, and accounts for the portion of enrollees of each age who file a claim and the duration of those claims. Because carriers assume that older enrollees are more likely to file a claim, the expected amount of claims costs increases with age.  The return on investment assumption reflects the expected interest rate earned on invested assets.

Because actuarial assumptions are projections about the future, they can change over time as carriers gain more experience, especially with relatively new products such as long-term care insurance. In addition, these assumptions are developed based on the professional judgment of carriers’ actuaries; therefore, actuarial assumptions—and the resulting premiums—can differ across actuaries and carriers.

A key feature of long-term care insurance is that premiums are designed—although not guaranteed—to remain level over time. Carriers calculate premium rates with a goal of ensuring that the total amount of premiums paid by all enrollees plus the interest earned on the invested assets over the lifetime of the policy are sufficient to cover the cost of future claims and expenses. Setting premiums at an adequate level to cover future costs has been a challenge for some carriers. Long-term care insurance is a relatively new product. In addition, several decades may elapse before enrollees submit claims and carriers obtain data on how their enrollees use their policies. As a result, many carriers have lacked (and may continue to lack) sufficient data to accurately estimate the revenue needed to cover costs. This has led to changes in the marketplace as many companies have raised premiums, left the marketplace, or consolidated to form larger companies.

In response to the growing number of premium increases for long-term care insurance, NAIC issued revisions to its model long-term care insurance regulation in 2000. The new model regulation established more rigorous requirements that carriers must meet when setting initial premium rates and when requesting premium increases. For example, the model regulation introduced a new requirement for insurance carriers’ actuaries to certify that premiums are adequate to cover anticipated costs over the life of a policy, even under “moderately adverse conditions,” with no future premium increases anticipated. Moderately adverse conditions could include, for example, below average returns on invested assets. To fulfill this requirement, insurance carriers’ actuaries must include a margin for error when setting premiums.

FLTCIP Oversight and Administration

The Long-Term Care Security Act authorizes OPM to enter into 7-year contracts with one or more private entities to insure FLTCIP enrollees and administer the program. The Act requires OPM to ensure that each of these contracts is awarded on the basis of contractor qualifications, price, and reasonable competition. The Act also tasked OPM with overseeing FLTCIP and preempts state oversight of the program. As a result, OPM performs functions of both a sponsoring employer and a regulator for this program.

To obtain carriers’ proposals for FLTCIP, OPM issued two requests for proposals (RFP)—one in 2001 for the program’s first contract, and another in 2008 for the program’s second contract. The agency’s RFPs summarized information about the program, including information about the population eligible to apply for coverage, as well as program requirements, such as covered services and benefit options that were to be offered. The RFP for the program’s second contract included detailed information about the experience of the program to date—including the number of enrolled individuals and their characteristics, current premiums, and the balance of funds available to pay for FLTCIP claims and expenses. The RFPs for both contracts also outlined OPM’s expectations for the program. For example, OPM’s RFP for the first contract stated that because of efficiencies in marketing to a large group, the agency expected that carriers would offer premiums that were 15 to 20 percent below those charged for comparable benefits in the individual market. In its RFP for the second contract, OPM stated that carriers should adjust premiums to ensure that they were adequate, but that premium increases should not exceed 25 percent per enrollee. In addition, in its RFPs for both contracts, OPM stated that it expected carriers to follow NAIC’s 2000 model long-term care insurance regulation by including a margin for moderately adverse conditions when setting premiums for FLTCIP. In addition to providing information about the program, OPM’s RFPs required carriers to submit detailed proposals for plan premiums and benefits as well as for the administration of FLTCIP.

The FLTCIP contract includes the winning carrier’s responses to OPM’s RFP and outlines all key aspects of the program. Once the contract is signed, any changes made to the program during the contract term—such as changes to enrollee premiums—must be agreed upon by OPM and the carrier. The contract outlines the roles and responsibilities of all parties and the type and frequency of reporting. It also includes information about the benefits offered; the actuarial assumptions used to set premiums; the premiums charged; and how payments for the program’s expenses, as well as payments that are designated as profits, are determined. Unlike other contracts between employers and insurance carriers, the FLTCIP contract includes provisions for the management of program assets—that is, the funds collected as premiums and used to pay claims. By statute, such funds must remain separate from the carrier’s other businesses.

At the end of FLTCIP’s 7-year contract, OPM can again conduct a competitive process to obtain proposals for insuring FLTCIP during its third contract term. If a new carrier is selected, the current carrier must transfer all FLTCIP enrollees and assets, including any positive or negative returns related to the experience of the program, to the next carrier. If OPM does not contract with another carrier, the current carrier would retain its responsibility for insuring all current enrollees and would continue to work with OPM to administer the program. Premium rates would remain at their then current levels unless OPM and the carrier agree on different rates, or the carrier submits new premium rates it believes are warranted to attain funding sufficiency, at least one year prior to the rates’ effective date. FLTCIP assets would remain available to pay for these enrollees’ claims and expenses.

FLTCIP Eligibility and Benefits

The Long-Term Care Security Act also defined key aspects of FLTCIP eligibility. For example, the statute requires that all federal and Postal Service employees and retirees, active and retired members of the uniformed services, their qualified relatives, and certain others be eligible to apply for FLTCIP coverage. Almost 19 million people were estimated to be eligible to apply for coverage as of October 15, 2001. While the Act specifies who is eligible to apply for FLTCIP coverage, it does not require that coverage be guaranteed to all eligible individuals. Eligibility for coverage has been subject to underwriting, though the level of underwriting used by the program varies. During FLTCIP open enrollment periods, an abbreviated underwriting application has been used for active federal employees and their spouses or same-sex domestic partners and active members of the uniformed services and their spouses. A more lengthy underwriting application, similar to underwriting in the individual insurance market, is generally used for these applicants if they apply for coverage during other times and for all other applicants, including retirees and qualified relatives, regardless of when they apply.

Similar to other long-term care insurance plans, FLTCIP enrollees are able to select from a range of benefits, as outlined in OPM’s contract with the carrier. FLTCIP offers applicants the ability to choose, for example, their daily benefit amount and benefit period. The program also offers inflation protection benefits, including a 5 percent ACIO, which has been offered since the program’s inception. Once an enrollee becomes eligible for benefits, FLTCIP provides reimbursement for covered services up to the enrollee’s accrued daily benefit amount based on the benefit options selected. For example, FLTCIP pays for 100 percent of enrollees’ nursing home costs, up to their accrued daily benefit amount.

FLTCIP premiums vary greatly depending on the benefits selected as well as individuals’ ages at enrollment. For example, a plan with a $150 daily benefit amount, 3-year benefit period, and 5 percent ACIO would cost $87 per month for coverage for an individual who enrolled at age 40, but would cost $238 per month for an individual who enrolled at age 65.

As part of FLTCIP’s second contract, OPM and John Hancock agreed to a premium increase of up to 25 percent for current enrollees who had selected the program’s 5 percent ACIO benefit and were less than 70 years old at the time of their enrollment. As of October 2009, two- thirds of all FLTCIP enrollees—146,415 individuals—had 5 percent ACIO coverage and were subject to the premium increase. OPM and John Hancock officials have stated that the premium increase was warranted because of projections for future program underfunding, which occurred primarily as a result of lower-than-expected lapse and mortality rates, as well as lower-than-expected returns on investments.

A Variety of Factors Influenced Carriers’ Interest in FLTCIP, Business Strategy Most Significantly

A variety of factors have influenced carriers’ interest in contracting to insure FLTCIP enrollees and administer the program, according to officials from the carriers we interviewed. Carriers’ business strategies had the most significant effect on their interest in the program at the time of both contracts, but their strategies affected their interest in different ways. Factors relating to FLTCIP’s history generally detracted from carriers’ interest in the program at the time of its second contract, and a variety of other factors—including the size and characteristics of the program—have also influenced carriers’ interest in the program since its inception.

Business Strategy Most Significantly Influenced Carriers’ Interest in FLTCIP, but in Different Ways

Carriers’ business strategies had the most significant influence on their interest in FLTCIP at the time OPM solicited proposals for the first and second contracts, according to officials we interviewed. However, carriers differed as to whether their business strategy had a positive or negative effect on their interest in FLTCIP. Officials from three of the six carriers we interviewed said that their carrier’s business strategy positively influenced their interest in FLTCIP at the time OPM solicited proposals for each contract. In contrast, officials from three of the carriers we interviewed indicated that their carrier’s business strategy detracted from their interest in FLTCIP.

Officials from the carriers who indicated that business strategy had a positive influence on their interest noted that their companies were interested in growing their long-term care insurance business and believed FLTCIP would provide them with an opportunity to do so. They also stated that insuring FLTCIP would lend them credibility, assist them in gaining name recognition in the marketplace, and further their goals of expanding sales of their other (nonfederal) long-term care insurance policies. In contrast, officials from the carriers who indicated that their business strategy detracted from their interest in FLTCIP said that they wanted to grow their long-term care insurance business at a slower pace or focus on other segments of the market, such as the individual market. Officials from three carriers noted that FLTCIP had the potential to be so large that the carrier may not have been able to insure enrollees or administer the program independently, and some carriers also noted concerns about partnering with other insurance carriers to do so. Finally, two carriers told us that they had less interest in selling long-term care insurance overall at the time of the second contract. Officials from these carriers told us that they were uncertain about the risks associated with long-term care insurance because of industrywide challenges in setting actuarial assumptions that lead to adequate premium rates. As of January 2011, three of the six carriers whose officials we interviewed had suspended sales of some or all of their long-term care insurance policies. (See app. I for more information about how factors related to carriers’ business strategies and capabilities influenced their interest in FLTCIP.)

FLTCIP History Generally Detracted from Carriers’ Interest in the Second Contract

Factors related to FLTCIP’s history generally detracted from carriers’ interest in the program at the time of OPM’s solicitation for the second contract and had the second most significant influence on carriers’ interest in FLTCIP at that time. When asked about how FLTCIP’s history affected the carrier’s interest at the time of the second contract, officials from four of the carriers noted that as a result of the program’s history— including the premiums charged for the benefits offered during the first contract period and the actuarial experience of the program—a premium increase was warranted. These officials raised concerns about having to implement a premium increase for FLTCIP. Specifically, officials from three of the carriers, none of which were involved in the program’s first contract, raised concerns that implementing a premium increase as the program’s new carrier would result in negative implications for the carrier’s reputation. Additionally, officials from two carriers told us that OPM’s 25 percent cap on premium increases was a concern because they estimated that a larger premium increase was warranted.

Four carriers also cited concerns about transitioning the program from other carriers. Specifically, officials from some of these carriers stated that transitions are difficult for the smallest programs, and the large size and complexity of FLTCIP would add to other challenges related to transitioning the program. In addition, officials from two carriers explained that their concerns over transitioning FLTCIP were linked to taking on the risk of insuring a population that the carrier had no involvement in underwriting. (See app. II for more information about how FLTCIP’s history influenced carriers’ interest in the program.)

Other Factors, Including the Size and Characteristics of FLTCIP’s Eligible Population, Also Influenced Carriers’ Interest

Other factors, such as the large size and characteristics of FLTCIP’s eligible population, also influenced carriers’ interest in the program at the time of both the first and second contracts. The large size of the eligible population had a positive influence on carriers’ interest in FLTCIP, but the lack of a list of home addresses for the eligible population and the voluntary nature of the program had a negative influence. Officials from four of the six carriers we interviewed noted that the large number of people eligible for FLTCIP positively influenced their interest in the program. These officials explained that a large eligible population increases the likelihood for a larger number of enrollees and provides a greater potential for enrolling healthy individuals who represent a lower risk of submitting claims. However, as OPM noted in its RFPs for both contracts, the agency does not have a list of home addresses of active federal employees for the carrier to use in marketing FLTCIP. All of the carriers we interviewed noted that not having this information significantly detracted from their interest in the program. These officials explained that marketing directly to eligible individuals at their homes is critical for ensuring that a large number of individuals—including a high proportion of healthy individuals—apply for coverage. As such, not having this list resulted in concerns that FLTCIP would attract a disproportionate share of individuals who knew they needed coverage, which would result in a higher risk for the program. Likewise, officials from three carriers we interviewed also noted that offering FLTCIP as a voluntary benefit with no government contribution to premiums detracted from their interest in the program because carriers had concerns that the program’s enrollment would not be as large as it could have been. In addition, officials noted that this aspect of the program would likely attract a disproportionate share of individuals who expected to incur long-term care costs and would likely submit claims earlier than was typically expected. These officials explained that if all active federal employees were automatically enrolled in FLTCIP, or if the government paid for a portion of all active federal employees’ premiums, FLTCIP would benefit from a larger number of enrollees as well as a larger portion of healthy enrollees who would have a lower risk of submitting claims.

Similarly, characteristics of the eligible population negatively affected carriers’ interest in FLTCIP, but this was at least somewhat offset by the fact that eligible individuals are not guaranteed coverage. Officials from all of the carriers we interviewed cited concerns about the relatively high portion of active federal employees who were disabled and eligible to apply for FLTCIP coverage. In its RFP for the first contract, OPM notified insurance carriers that the federal government employs a large percentage of persons with self-reported disabilities. Specifically, OPM reported that approximately 7 percent of active federal employees self- identified as disabled, noting that this estimate did not include active postal or military employees. Insurance carrier officials told us that the relatively large portion of disabled individuals increased the risk to FLTCIP because disabled individuals were more likely to seek coverage and submit claims sooner than nondisabled individuals. Officials from five of the six carriers we interviewed said that the fact that FLTCIP has not guaranteed coverage for all eligible individuals—and is not required to do so—had a large positive influence on the carriers’ interest at the time of the first and second contracts. These officials explained that the ability to conduct at least some underwriting for applicants would enable them to better manage the risks of the program, especially given the relatively large portion of disabled employees. Officials from several carriers also said that if FLTCIP guaranteed coverage to all eligible individuals at any point in time, carrier interest in FLTCIP would likely diminish and officials from two carriers we interviewed noted that they would not have considered submitting a proposal for FLTCIP if the program were required to offer coverage on a guaranteed issue basis.

Five of the six carriers we interviewed stated that having FLTCIP subject to OPM oversight rather than states’ oversight influenced their interest in the program, but the carriers varied with regard to how this affected their interest. Officials from three of these carriers said that OPM’s role was unusual, because the agency would be acting as both the employer sponsor and insurance regulator. Officials also raised related questions and concerns about OPM’s ability to adequately oversee such a complicated insurance product as well as the potential for FLTCIP to be subject to political pressure. In addition, officials from three of the carriers we interviewed expressed concerns regarding the potential for having a difference of opinion with OPM during the contract period regarding key elements of the program, such as the need for a premium increase. However, officials from four of the carriers we spoke with noted that OPM oversight positively influenced their interest in FLTCIP, in part because it had the potential to produce a single, large, uniform program as a result of a more streamlined oversight process than what would otherwise be available through state oversight. Appendix III provides more information about how a variety of factors influenced carriers’ interest in FLTCIP.

Key Changes Have Been Made to FLTCIP Benefits, Investment Strategy, and Profit Payment Formula since the Second Contract Was Awarded

Since the second contract was awarded, three key changes have been made to FLTCIP, in addition to the implementation of a premium increase for certain enrollees. These key changes were the introduction of new benefits for current and new enrollees, modifications to the program’s investment strategy, and revisions to the formula used to calculate the carrier’s profit payment.

Regarding the program’s benefit changes, FLTCIP introduced a new benefit plan and a new inflation protection option for enrollees.  The new benefit plan—referred to as FLTCIP 2.0—was made available to all program enrollees. In comparison to the FLTCIP 1.0 plan that was previously offered, the FLTCIP 2.0 plan provides enhanced coverage. It offers additional benefit options, for example, by expanding the range of daily benefit amounts and benefit periods available to enrollees. The FLTCIP 2.0 plan also covers a greater portion of the cost of care for some long-term care services. For instance, the FLTCIP 2.0 plan covers 100 percent of the cost of home care and adult day care, up to the enrollee’s accrued daily benefit amount. This represents an increase over the FLTCIP 1.0 plan, which covered these costs up to 75 percent of the enrollee’s accrued daily benefit amount for those who selected comprehensive coverage. In addition, the FLTCIP 2.0 plan provided coverage for a broader range of services than the FLTCIP 1.0 plan. Specifically, the FLTCIP 2.0 plan expanded the services covered under its stay-at-home benefit. This benefit pays for costs that enable enrollees to receive long-term care services in the home, including those incurred for home modifications and caregiver training. (See app. IV for a comparison of selected benefits available under the FLTCIP 1.0 and FLTCIP 2.0 plans.) John Hancock officials told us that they proposed changes to FLTCIP’s benefits to make the program’s benefits comparable to those offered by other long-term care insurance plans available in the market. They further noted that these changes were intended to ensure that FLTCIP remains competitive with other long- term care insurance plans.  FLTCIP also introduced a new inflation protection option for enrollees—a 4 percent ACIO. This option was made available to enrollees in addition to the other inflation protection options that FLTCIP has offered since its inception, such as the 5 percent ACIO. Compared with a 5 percent ACIO, a 4 percent option results in reduced protection against increases in the cost of long-term care services. However, a 4 percent ACIO allows enrollees to obtain a package of benefits at a cost that is lower than that available with a 5 percent ACIO. John Hancock officials told us that they offered a 4 percent ACIO to provide enrollees with an additional inflation protection option, and they were comfortable that this option provides enrollees with adequate protection against inflation based on historical increases in the cost of long-term care services. (See app. V for an analysis of how the 4 and 5 percent ACIOs compare to changes in the cost of long-term care services since 2002.)

Another key change made to FLTCIP was the modification of the program’s investment strategy. John Hancock proposed a new, less conservative investment strategy in its response to OPM’s RFP for FLTCIP’s second contract, which later became part of the terms of the carrier’s contract with OPM. According to John Hancock officials, the revised strategy has a higher expected rate of return than the former strategy. During the first contract period, FLTCIP invested 100 percent of its assets in short-duration fixed-income bonds. FLTCIP’s new investment strategy involves investing a portion of the program’s assets in fixed- income bonds of a longer duration, while investing another portion in public equities. Specifically, all of the assets corresponding to the program’s short-term liabilities—those expected to be incurred within the next 20 years—would be invested in fixed-income bonds. However, most of the assets corresponding to the program’s long-term liabilities—those expected to be incurred in more than 20 years—would be invested in public equities, which have the potential to earn a higher rate of return than fixed-income bonds. John Hancock proposed modifications to the investment strategy to enable FLTCIP to earn a potentially higher rate of return on its investments over time without subjecting short-term investments to possible fluctuations in investment returns. According to John Hancock officials, the new strategy would also better align the duration of the program’s investments with the program’s liabilities. John Hancock officials told us that they hoped these changes would enable FLTCIP to maintain more stable premiums over time.

The third key change made to FLTCIP since the second contract was awarded was a revision to the formula used to calculate the insurance carrier’s profit payment. While the structure of the formula remained the same, the portion of premiums and assets used in calculating the profit payment was reduced. Both FLTCIP contracts have explicitly defined a profit payment that is to be paid to the program’s carrier each year of the program’s 7-year contract period. For both contract periods, this profit payment has consisted of three distinct payments; two of these are based on a percentage of the premiums collected during the fiscal year, and one is based on the average annual assets of the program. One of the premium-based payments is subject to OPM’s evaluation of the carrier’s performance, while the other premium-based payment is guaranteed to the carrier. With the second contract, FLTCIP reduced the maximum portion of premium-based profit payments from 6.5 percent of premiums collected in each fiscal year to 4.0 percent of premiums collected in each fiscal year. To do so, the program decreased both the portion of premium- based payments that were guaranteed and those that were subject to OPM’s evaluation of John Hancock’s performance. In addition, FLTCIP also reduced the portion of average annual assets used to calculate the profit payment, from 0.3 percent to 0.15 percent. (See table 1.) John Hancock officials told us that they proposed modifications to the profit payment formula in order to provide greater premium stability for enrollees over time. They also stated that had they not reduced the profit payment formula, FLTCIP would have needed to implement a greater increase in enrollee premiums. While the portion of premiums and assets used in calculating the profit payment decreased with the second contract, John Hancock’s profit payments will likely grow during the contract period because the number of enrollees paying premiums and the value of the program’s assets is also expected to increase over time.

In addition to the three key changes noted above, several other changes were made to FLTCIP since the second contract was awarded. For instance, FLTCIP eligibility was expanded in 2010 to provide coverage for same-sex domestic partners of active and retired federal and Postal Service employees. In addition, the performance metrics that OPM uses to evaluate the carrier—and on which a certain percentage of profit payment depends—were updated. Changes to these metrics included adding a requirement that FLTCIP customer service representatives become certified long-term care insurance specialists within 9 months of employment and reducing the amount of time available to make benefits determinations and to pay claims, from 10 business days to 5 business days. (See app. VI for additional information about the changes made to the performance metrics.)

FLTCIP Offered Enrollees Options to Change Their Benefits to Limit the Premium Increase; Nearly Half Made No Changes

In order to limit their premium increase, FLTCIP offered enrollees options to change their benefits, including reducing their inflation protection benefits. Nearly half of enrollees facing the premium increase made no changes to their benefits and, as such, elected to pay a higher premium.

Options Offered to Enrollees Included Reducing Their Inflation Protection Benefits

FLTCIP offered enrollees options to change their benefits—including reducing their inflation protection benefits—in order to avoid, or limit the amount of, their premium increase. Specifically, in October 2009, FLTCIP sent personalized letters to enrollees facing the premium increase to inform them of the increase, to offer them options to adjust their benefits, and to illustrate how these options would affect their premiums. The enrollees who faced a premium increase—all of whom had the FLTCIP 1.0 plan with 5 percent ACIO—were offered the option to reduce their ACIO to 4 percent while maintaining their accrued benefits. This option would result in a premium that was similar to—within a few dollars of— enrollees’ existing monthly premiums, so long as enrollees made no additional changes to their benefits. In addition to the option to reduce their inflation protection benefit, enrollees were offered the option to switch their benefits package to the new FLTCIP 2.0 plan without additional underwriting, although such a change could lead to an increase in their premiums. In addition, FLTCIP enrollees were reminded of their ability to make other changes to their benefits at any time—for example, by modifying their daily benefit amount—although those who wanted to increase their benefits in ways other than switching to the FLTCIP 2.0 plan had to undergo underwriting.

John Hancock officials stated that they offered enrollees the option to reduce their inflation protection coverage because this enabled them to maintain relatively stable premiums while affecting future—but not current—benefits. Reducing inflation protection affects the rate at which future benefits grow over time. As such, FLTCIP enrollees who decreased their ACIO protection to 4 percent retained their accrued daily benefit amount; that amount would then increase at the reduced ACIO rate. In contrast, other reductions in coverage—such as decreasing the daily benefit amount or increasing the waiting period—result in an immediate reduction in benefits.

Similar to FLTCIP, officials from other carriers we interviewed told us that they have typically offered enrollees multiple options to reduce their benefits at the time of a premium increase. These options have included reducing their daily benefit amount or benefit period or reducing inflation protection coverage. In addition to these options, officials from several carriers told us that they have offered a nonforfeiture benefit to enrollees facing a premium increase. This benefit allows enrollees who lapse to maintain long-term care insurance coverage equal to the total amount of premiums paid to date; the coverage will be provided in the future once the individual becomes eligible for benefits. In contrast, FLTCIP did not provide a similar nonforfeiture benefit to enrollees facing the premium increase.

Forty-Six Percent of Enrollees Facing a Premium Increase Made No Changes to Their Benefits

The most popular option among FLTCIP enrollees facing the premium increase was to make no changes to their benefits. Specifically, 46 percent of the 146,415 enrollees facing the premium increase, or 67,511 individuals, kept the FLTCIP 1.0 plan with 5 percent ACIO. These enrollees elected to pay the premium increase. Many enrollees chose to reduce their inflation protection benefits to a 4 percent ACIO, while either switching to the FLTCIP 2.0 plan (26 percent) or retaining the FLTCIP 1.0 plan (20 percent). In addition, 1.6 percent of enrollees facing the premium increase, or 2,344 individuals, lapsed their coverage and as such are no longer enrolled in FLTCIP. (See fig. 2.)

Of the 144,071 enrollees who did not lapse their FLTCIP coverage after the premium increase was announced, 76 percent (109,114 individuals) experienced a premium increase and 23 percent (32,787 individuals) experienced a premium reduction as a result of their benefit selections. Premiums did not change for the remaining enrollees. The extent to which enrollees’ premiums changed varied considerably based on their benefit selections. For example, over 90 percent of those who retained their 5 percent ACIO had a premium increase of 20 percent or more. In contrast, most enrollees who selected a 4 percent ACIO experienced a premium change of 5 percent or less. (See table 2.)

On average, enrollee premiums increased 14 percent, or $16.30 per month. Those who maintained their FLTCIP 1.0 plan with 5 percent ACIO experienced an average premium increase of 24 percent, or $28.54 per month. In contrast, enrollees who selected FLTCIP 1.0 plan with 4 percent ACIO experienced a small change in their premiums of about $2 or less per month, while those who selected the FLTCIP 2.0 plan with 5 percent ACIO experienced an average premium increase of 38 percent, or $40.56 per month. Table 3 summarizes the impact of enrollee benefit selections on their premiums.

Changes to Actuarial Assumptions Used to Set FLTCIP Premiums Resulted in a Projected Increase in Future Claims

Since FLTCIP’s inception in 2002, John Hancock has revised the actuarial assumptions used to set the program’s premiums—specifically, those made for the program’s lapse, mortality, morbidity, and return on investment. Collectively, changes to FLTCIP’s actuarial assumptions resulted in a projected increase in the total amount of future claims payments.

Changes to FLTCIP’s lapse and mortality assumptions reflect an expectation that a larger portion of enrollees will voluntarily maintain their coverage over time and will live longer than originally expected. Specifically, John Hancock decreased FLTCIP’s lapse assumption for the first few years an enrollee had a policy as well as for later years, as reflected in the ultimate lapse rate. For example, between the first and second contract, the assumption for FLTCIP’s ultimate lapse rate decreased from 2 percent of enrollees lapsing per year to between 0.25 and 1.25 percent per year, with variations based on the enrollee’s age at enrollment. John Hancock also decreased FLTCIP’s mortality assumptions, reflecting an expectation that more FLTCIP enrollees will reach older ages than the program originally expected. In addition to the changes in the lapse and mortality assumptions, John Hancock revised FLTCIP’s morbidity assumption to reflect a reduction in the amount of claims costs FLTCIP expects for enrollees of any given age. John Hancock officials we interviewed explained that they revised the program’s lapse, mortality, and morbidity assumptions to reflect FLTCIP’s experience during the first contract period. In addition, the morbidity assumption was also updated to reflect the carrier’s experience, and knowledge of industry experience, with long-term care insurance policies.

When setting premiums for FLTCIP’s second contract period, John Hancock used the same return on investment assumption—6.5 percent— that it used when setting premiums for the first contract period. Despite FLTCIP’s lower-than-expected return on investment experience during the first contract period, John Hancock officials told us that they used the same return on investment assumption because they revised the program’s investment strategy. The new strategy, which invests a considerable portion of FLTCIP assets in public equities, has a higher expected rate of return than the investment strategy utilized during the first contract period, according to John Hancock officials.

As a result of changes made to FLTCIP’s lapse and mortality assumptions—and despite those made to the morbidity assumption— John Hancock increased projections for the total amount of FLTCIP claims payments. While John Hancock expects that the amount of claims payments made for enrollees of each age will be less than initially assumed, it also expects more enrollees to continue their coverage and reach older ages. Consequently, FLTCIP expects to pay claims for a greater number of enrollees than initially expected. Additionally, since the expected amount of claims payments increases with age, the total amount of future claims payments is projected to be greater than initially expected. Finally, while the amount of premiums collected each year is also projected to grow as more enrollees maintain their coverage, John Hancock officials told us that this additional income will likely be offset by the higher total costs associated with future claims.

Since setting premiums for FLTCIP’s second contract period, John Hancock has not changed the program’s lapse, mortality, or morbidity assumptions, although it has decreased its assumptions for FLTCIP’s return on investment. John Hancock officials stated that they reduced FLTCIP’s return on investment assumption, from 6.5 percent (at the time they set premiums for the second contract period) to 6.25 percent (as of September 30, 2010), to reflect an overall decrease in investment returns earned throughout the financial industry. John Hancock officials noted that this change does not raise concerns about the adequacy of current premiums and does not itself warrant an additional increase in premiums because they had included margins for moderately adverse conditions when setting FLTCIP premiums for the second contract period.

The changes made to FLTCIP actuarial assumptions since its inception in 2002 are generally similar to those made throughout the long-term care insurance industry during that time frame. For example, the carriers whose officials we interviewed generally decreased their ultimate lapse rate assumptions since 2002, and as of 2011, all of these carriers used ultimate lapse rate assumptions of 1.5 percent or less. Similar to FLTCIP, five of the six carriers also reduced their mortality assumptions. In addition, officials from all of the insurance carriers we interviewed told us that they had reduced their return on investment assumptions to varying degrees since 2002. As a result of these changes, five of the six insurance carriers had also increased their projections for future claims payments and requested premium increases for at least some of their policies, according to the officials we interviewed. Finally, officials from the three state insurance regulators we interviewed described similar changes to the actuarial assumptions used in setting premiums for policies issued in their states.

OPM’s Oversight Includes an Evaluation of FLTCIP’s Actuarial Assumptions and a Review of Program Communications

OPM evaluates the actuarial assumptions proposed by carriers and monitors how the program’s experience compared to those assumptions. In addition, OPM reviews all program communications for accuracy and clarity.

OPM Evaluates FLTCIP’s Actuarial Assumptions and Monitors Program Experience

OPM evaluates the actuarial assumptions carriers propose for FLTCIP to ensure that the assumptions are reasonable and collectively support the premiums proposed for FLTCIP plans. In its RFPs for FLTCIP’s first and second contracts, OPM asked carriers to include in their offers, among other things, detailed information about the assumptions they used to calculate premiums. In reviewing offers for both the first and second contracts, OPM convened a panel of officials—including actuarial staff— to evaluate the actuarial assumptions carriers proposed. The panel reviewed the actuarial assumptions, methodology, and resulting premium rates for reasonableness and the likelihood they would achieve the goal of FLTCIP solvency and long-term premium stability. OPM also hired an independent actuarial firm to assist the agency in its evaluation. The actuarial firm used its own data to evaluate the reasonableness of the carriers’ proposed assumptions and the adequacy and appropriateness of proposed premiums. In addition, as part of its evaluation, OPM asked additional questions of officials from carriers that submitted offers. OPM officials we interviewed stated that the purpose of these communications included gaining a better understanding of how the carriers developed their assumptions and why they considered them reasonable. OPM officials told us that they used the information gathered throughout their evaluation process to inform their decision making when awarding the FLTCIP contracts. OPM’s award of each contract signified its acceptance of the premiums proposed by the winning carrier; the premiums were based on the actuarial assumptions outlined in the carrier’s response to the RFP. However, OPM has acknowledged the risks involved in insuring FLTCIP enrollees, including the potential for future premium increases. The agency noted that such risks called for close government monitoring.

Once FLTCIP’s premiums are finalized with the award of the contract, OPM monitors how FLTCIP’s experience compares with the actuarial assumptions that were used to set premiums. As part of both FLTCIP contracts, OPM required the carrier to submit regular reports about the program’s experience. These status reports include a summary of FLTCIP’s experience in key actuarial areas—lapse, mortality, morbidity, and return on investment—and a comparison of this experience to the program’s assumptions. The reports also include the carrier’s projections about FLTCIP’s ability to pay for future claims and expenses. Beginning in 2004, OPM required the carrier to submit these reports on an annual basis, and the agency now requires these reports be submitted semiannually. The agency also required the carrier to submit quarterly reports about the experience of FLTCIP’s invested assets, which it uses to compare the actual returns to the return on investment assumption. OPM officials stated that the agency uses the information included in these reports to monitor FLTCIP’s overall experience and to evaluate whether any changes to the program are warranted.

OPM’s oversight of FLTCIP’s actuarial assumptions is similar to that of state insurance regulators, although its oversight of the program’s experience differs from that of states. According to insurance carrier officials we interviewed, carriers provide a similar amount and type of information to state insurance regulators about the actuarial assumptions used to set premiums as is provided to OPM for FLTCIP. However, these officials also noted that many states do not require carriers to provide any additional information related to the experience of their plans, unless the carrier is seeking to increase premiums for existing enrollees. Thus, states’ ability to monitor the experience of long-term care insurance policies issued in their states may be more limited than OPM’s ability. In addition, OPM receives more information about FLTCIP’s actuarial assumptions and experience compared with other employers. Officials from the carriers we interviewed stated that they only provide employers with information on the actuarial assumptions and experience of their plans when such information is specifically requested, which rarely occurs.

OPM Reviews All FLTCIP Communications for Accuracy and Clarity

OPM reviews all FLTCIP communications—including materials intended for current enrollees as well as marketing materials intended for prospective enrollees—for accuracy and clarity. As part of both FLTCIP contracts, OPM has required the carrier to submit all communication materials to OPM prior to their use; OPM then reviews and approves the materials for use. Specifically, OPM program officials review all communications materials for technical accuracy and clarity. They also review all materials to ensure that information provided to prospective or current enrollees is consistent across materials. In addition, some FLTCIP communication materials undergo a second review by OPM’s Office of Communications. Specifically, all materials intended for the general public—for example, Web site material and advertisements—as well as for new retirees are reviewed by OPM communications officials. These reviews are focused on ensuring the clarity of materials distributed to the general public, which may not be familiar with FLTCIP or long-term care insurance. OPM officials said that their goal in reviewing communications is to ensure that current and prospective enrollees have accurate information so that they can make informed decisions regarding FLTCIP. Officials also told us that their process for reviewing communication materials has not changed since FLTCIP’s inception, but indicated that the quality of their reviews has improved as they have gained a deeper understanding of how to effectively communicate with the eligible population.

OPM has taken some actions to address concerns that communications about FLTCIP during the first contract period were not clear. For example, in response to concerns that were raised at the time of FLTCIP’s premium increase—namely, that some enrollees with ACIO coverage did not think their premiums could ever increase—OPM required John Hancock to include more prominent disclaimers on its marketing materials and applications for enrollment to ensure that prospective enrollees understood the potential for future premium increases.

Unlike OPM, state regulators and employers may not review and approve all long-term care insurance communication materials prior to their use by carriers. Not all states receive communication materials for review. Specifically, according to officials from several carriers we interviewed, more than half of states require carriers to submit at least some communication materials, such as marketing materials, prior to their use. However, not all of these states require that the materials be approved before they are used. Additionally, according to the carriers we interviewed, employers offering long-term care insurance generally have a limited ability to modify the communication materials sent to their employees. Carriers generally make a number of standard communication materials available from which each employer can select. Officials from the carriers we interviewed stated that some employers review these materials, but they generally do not suggest substantive changes to the materials since doing so would require the carrier to refile the materials with at least some states and could thus potentially delay program time frames, including enrollments.

Agency and Third- Party Comments

We provided OPM with a draft of this report and provided John Hancock with portions of the draft report for review. OPM and John Hancock provided technical comments, which we incorporated as appropriate.

As agreed with your offices, unless you publicly announce the contents of this report earlier, we plan no further distribution until 30 days from the report date. At that time, we will send copies to the Director of OPM and appropriate congressional committees. The report also will be available at no charge on the GAO Web site at http://www.gao.gov.

If you or your staff have any questions about this report, please contact me at (202) 512-7114 or dickenj@gao.gov. Contact points for our Offices of Congressional Relations and Public Affairs may be found on the last page of this report. GAO staff who made major contributions to this report are listed in appendix VII.

Appendix I: Influence of Carriers’ Business Strategies on Their Interest in the Federal Long Term Care Insurance Program (FLTCIP)

Appendix I: Influence of Carriers’ Business Strategies on Their Interest in the Federal Long Term Care Insurance Program (FLTCIP)

Appendix II: Influence of Program History on Carriers’ Interest in FLTCIP

Appendix III: Influence of Program Size and Other Characteristics on Carriers’ Interest in FLTCIP

Appendix IV: Selected Features of FLTCIP Benefit Plans Offered during the Program’s First and Second Contract Periods

Appendix V: Changes in the Cost of Long- Term Care Services Compared with FLTCIP Inflation Protection Options

To summarize changes in the cost of long-term care services from 2002 through 2010, we analyzed consumer price index data from the Bureau of Labor Statistics on changes in the cost of nursing home care and home care. The nursing home care index provides information about changes in the cost of long-term care services provided in a residential setting, such as a nursing home or an assisted-living facility. The home care index provides information about changes in the cost of nonmedical long- term care services provided in the home, such as agency or individual assistance with bathing, food preparation, or toileting. Using data from these indexes, we compared the rate of growth in long-term care costs from 2002 (the year that FLTCIP began) through 2010 to the inflation protection offered by FLTCIP’s automatic compound inflation options (ACIO)—5 percent ACIO and 4 percent ACIO.

We found that FLTCIP’s 4 percent and 5 percent ACIOs would both have provided substantial protection against increases in long-term care costs from 2002 through 2010. Specifically, according to our analysis of consumer price index data, the cost of nursing home care increased 38 percent from 2002 through 2010, which equates to an average annual increase of 4.1 percent. In comparison, a 5 percent ACIO would have increased an enrollees’ daily benefit amount by 48 percent during the same time frame, while a 4 percent ACIO would have increased an enrollees’ benefit amount by 37 percent. (See fig. 3.) According to our analysis of consumer price index data, the cost of home care increased 9 percent from 2006—the first year data became available—through 2010 at an average annual increase of 2.3 percent. Both the 4 percent and 5 percent ACIO would have protected enrollees fully against increases in the cost of such care during that period. However, past increases in the cost of long-term care services may not reflect future trends.

Appendix VI: Changes to FLTCIP Performance Metrics

A portion of the profit payments made to the FLTCIP carrier is based on the Office of Personnel Management’s (OPM) evaluation of the carrier’s performance. The FLTCIP contract outlines both the performance measures used and the target performance values that the carrier must meet in order to receive all of the performance-based portion of the profit payments. With FLTCIP’s second contract, OPM and the FLTCIP carrier agreed to modify the performance metrics used to determine the carrier’s profit payment. These modifications included adding or removing performance categories, revising performance measures, and changing target performance values. Table 4 outlines changes made to FLTCIP performance metrics since the second contract was awarded.

Appendix VII: GAO Contact and Staff Acknowledgments

GAO Contact

Staff Acknowledgments

In addition to the contact named above, Michelle B. Rosenberg, Assistant Director; Coy J. Nesbitt; Laurie Pachter; Patricia Roy; and Brienne Tierney made key contributions to this report.