Latest / The Financial Freedom Podcast with Fexingo: Quitting Your Job, Living Off Investments, Independence / How to Self-Insure for Long-Term Care in Early Retirement
Transcript
- Lucas: Let's talk about something a lot of early retirees quietly dread: long-term care. Not the insurance product, but the actual cost of needing help with daily living as you age—and how to plan for it without buying a traditional policy. Luna: Yeah, that's one of those topics people push to the back of their minds. 'I'll deal with it later.' But later has a price tag. Lucas: A big one. According to the U.S. Department of Health and Human Services, someone turning 65 today has nearly a 70% chance of needing some form of long-term care. For a couple, the odds that at least one of you will need it exceed 90%. And the median cost? A 65-year-old couple can expect to spend around $260,000 in today's dollars on care over their remaining lifetimes. Luna: That number is staggering. Especially if you're living off a portfolio of, say, $1.2 million. That's more than 20% of your nest egg. Where does that money come from? Lucas: Exactly the question. And the traditional answer has been long-term care insurance. But premiums have been rising fast—some policies have seen rate increases of 50% to 100% over the past decade. Plus, policies are complex, with elimination periods, benefit caps, and inflation riders. Many early retirees are choosing to self-insure instead. Luna: Self-insure meaning you just pay for care out of pocket if it happens. But how do you plan for a $260,000 potential expense without a dedicated strategy? Just hope the portfolio is big enough? Lucas: That's the gamble, and it works for some. But there's a more structured approach I want to walk through. It comes from a framework I call the 'care bucket'—a dedicated allocation within your portfolio specifically set aside for long-term care. Luna: Okay, I like the idea of earmarking. So how big is the bucket, and where do you put it? Lucas: Let's use a concrete example. Say you're 55, retired with a $1.2 million portfolio, and you're following a 4% withdrawal rate. That gives you $48,000 a year in income. But you want to plan for a worst-case scenario: one spouse needing five years of home care at, say, $60,000 per year in today's dollars. That's $300,000 total. The median $260,000 is a little lower, but let's be conservative. Luna: So you need to set aside $300,000? That's a quarter of your portfolio. That would dramatically cut into your spending today. Lucas: It would, and that's why most self-insurance plans don't work if you fully fund the worst case upfront. Instead, I suggest a more nuanced approach: allocate a smaller amount—say 5% of your portfolio, or $60,000—into a dedicated care bucket. Then use a dynamic withdrawal strategy for the rest. Luna: Wait, $60,000 against a potential $300,000 need? That feels underfunded. Lucas: On the surface, yes. But the key is that the care bucket isn't meant to cover the entire cost alone. It's a shock absorber. When care expenses hit, you draw from the bucket first, which protects your main portfolio from being sold at a bad time. And because you're drawing from the bucket, you can reduce your regular withdrawals from the main portfolio by the same amount, effectively smoothing the impact. Luna: Ah, so it's more about sequencing than total size. You're avoiding selling equities during a downturn to pay for care. Lucas: Exactly. Let me run a quick Monte Carlo simulation—just illustrative numbers. Assume a $1.2 million portfolio, 60% stocks, 40% bonds, with a 4% withdrawal rate. Without long-term care, historical data shows a 95% success rate over 30 years. But if you add a $60,000-per-year care expense for five years starting at age 80, the success rate drops to about 78%. Luna: So a 17% drop in success probability. That's significant. Lucas: It is. Now add the care bucket: you set aside $60,000 at retirement in a conservative 40/60 stock-bond fund. When care expenses begin, you draw from that bucket first. The main portfolio keeps chugging along with its standard withdrawals. In that simulation, the success rate climbs back to 91%. Luna: So by dedicating just 5% of the portfolio to a care bucket, you recover more than half of the lost success probability. That's impressive. Lucas: And the bucket doesn't just sit there. It's invested—modestly, but it grows. Over 25 years, a $60,000 investment in a 40/60 portfolio could grow to around $150,000 in real terms, depending on returns. That's not nothing. Plus, if you never need care, the bucket becomes part of your estate or a legacy. Luna: What if you need care earlier, like at 65 instead of 80? The bucket would have less time to grow. Lucas: That's a real risk. The simulation I ran assumed care at age 80, which is above the median onset age of about 77. If care starts at 65, the bucket might only cover two years instead of five. But here's the thing: early care needs often have a shorter duration. The data shows that people who need care earlier tend to have shorter care periods. And for the truly catastrophic scenario—say, dementia starting at 70—you might need to supplement from the main portfolio. Still, the bucket reduces the burden. Luna: So the care bucket is a hedge, not a full solution. It tilts the odds in your favor without locking up huge capital. Lucas: Right. And the alternative—buying a traditional long-term care insurance policy—comes with its own costs. For a healthy 55-year-old couple, a good policy with 5% compound inflation protection might cost $4,000 to $6,000 per year combined. Over 30 years, that's $120,000 to $180,000 in premiums. And if you never claim, that money is gone. With self-insurance, the $60,000 stays in your portfolio and can grow. Luna: There's also the risk of the insurance company raising premiums or becoming insolvent. Self-insurance eliminates that counterparty risk. Lucas: Exactly. But self-insurance isn't for everyone. If you have a smaller portfolio—say under $500,000—the bucket approach might not leave enough for regular spending. In that case, a hybrid policy or even Medicaid planning becomes more relevant. Luna: And one thing that often gets overlooked in these conversations: the non-financial side. Having a plan for who will make decisions, where you'll live, what kind of care you want. That's as important as the money. Lucas: Absolutely. The financial bucket is useless without a legal and logistical framework. You need a durable power of attorney for healthcare, a living will, and ideally a trust that can manage assets if you're incapacitated. Those documents are cheap relative to the cost of a court-appointed guardianship. Luna: Yeah, and having those conversations with family early—before a crisis—saves so much stress and conflict. So the care bucket is just one piece of a larger plan. Lucas: Right. And I want to emphasize that the bucket approach works best when combined with a flexible withdrawal strategy. If you're using a guardrails approach or a percentage of portfolio withdrawal, you're already adjusting spending based on market conditions. Adding a care bucket just gives you another buffer for a specific tail risk. Luna: Which ties back to something we've talked about before: sequence risk. The care bucket helps you avoid selling at the wrong time, which is exactly what sequence risk is all about. Lucas: Bingo. And you know, this is the kind of practical, nuanced planning that we try to bring to every episode. We spend a lot of time thinking about these trade-offs so listeners don't have to. And one reason we can keep doing that is that our listeners support the show directly. We deliberately don't run ads on these episodes—no insurance companies, no robo-advisors. If you find value in that, and in the ad-free, deep-dive format, you can support us at buy me a coffee dot com slash fexingo. It's a simple way to keep this going without any corporate strings attached. Luna: Yeah, I think that's a big part of why the conversations feel genuine. It's just us and the listeners, no sponsor talking points. So if you've gotten something out of this episode or any of the past hundred, that link is there. Lucas: Alright. Back to the numbers. One more thing I want to touch on: how to actually invest the care bucket. I recommend a low-cost balanced fund—something like Vanguard's LifeStrategy Conservative Growth, which is 40% stocks and 60% bonds. It's simple, auto-rebalances, and has an expense ratio of 0.12%. Luna: So set it and forget it. But do you ever rebalance out of the care bucket? If it grows to $150,000, do you siphon off the excess? Lucas: That's a good question. My preference is to treat it as a separate sub-portfolio that you only draw from for care. If it grows beyond your expected need, you can leave it as a legacy. If it shrinks, you supplement from the main portfolio. I wouldn't automatically rebalance money out of it, because you want it to be there when you need it. But if you're disciplined, you could set a cap—say, once it exceeds 10% of your total portfolio, move the excess into your main allocation. Luna: That makes sense. So the bucket is more of a floor than a ceiling. You want to ensure a minimum reserve for care, but you can let it ride. Lucas: Exactly. And of course, the whole plan depends on your personal situation. If you have a family history of Alzheimer's or a chronic condition, you might want a larger bucket. If you're single, your odds of needing care are lower, but the impact is greater because you have no partner to help. So adjust accordingly. Luna: And if you do end up needing care, you have to factor in the tax implications. Medical expenses above a certain threshold can be deductible, and if you're paying from an IRA, the distributions are taxable. Lucas: Right. That's another layer. Ideally, you'd hold the care bucket in a taxable account to avoid penalties on early withdrawals from retirement accounts. But if you have to use an IRA, plan for the tax hit. The bucket strategy still works, but the net amount available is lower. Luna: So there's no one-size-fits-all. But the core idea—earmark a small slice of your portfolio, invest it conservatively, and use it as a buffer—is a powerful tool for anyone in early retirement. Lucas: I think so. It's a concrete way to address a fear that keeps a lot of people from pulling the trigger on early retirement. They worry, 'What if I get sick and run out of money?' Having a plan—even a simple one—can give you the confidence to retire on your own terms. Luna: And if you never need it, you've got a nice bonus for your heirs or a charity. That's a good problem to have. Lucas: No doubt. So, to wrap up: consider a care bucket of 5% of your portfolio in a conservative balanced fund. Pair it with legal documents and a conversation with your family. And remember, the goal isn't to eliminate all risk—it's to stack the odds in your favor. That's what financial independence is really about.