CHAPTER 8

The Gift of Health

HEALTH, DISABILITY INCOME, AND LONG-TERM CARE INSURANCE

Would you quit smoking if someone gave you $376,450 as an incentive to do so—today? You could take the money now or, if willing to wait 35 years from the quitting date, you could receive $1,059,279. Even 35 years from now, that would be a pretty decent addition to a retirement nest egg.

How did I come up with those numbers? I took the example of a reasonably healthy, self-employed 30-something male who is married and planning to start a family. Then, I assumed the additional money he spends on smoking and smoking-related costs every year would be inflated and hypothetically invested, earning seven percent per year. I’ll prove it to you later in the chapter.

Fiscal and physical health are often seen as separate and distinct, but like most areas of our lives, money plays a significant role. This is also true in our pursuit of healthy living and the risk management of an unexpected health event. In this chapter, we’ll discuss three types of insurance: health insurance, disability income insurance, and long-term care insurance. They are often lumped together, but there is virtually no overlap in the benefits they provide and the risk from which they shield us. Each of them could easily consume its own chapter, but those would be three fairly boring chapters, so we’ll focus on the highlights and encourage you to go deeper in your personal analysis. We will examine each of them from our risk management perspective.

Health Insurance

Health insurance is the variety of insurance we most often view as an entitlement—a gimme. It’s pretty blah, right? Unless you are self-employed or the benefits coordinator of a company, you’re not inundated with sales pitches for health insurance, as you are for life or auto insurance. This is because most health insurance is handled at the corporate level, and you often don’t have much of a choice in what you get. Of course, if you’re among the unemployed, self-employed, or retired prior to age 65, you have a much greater appreciation for the cost and importance of health insurance.

How does health insurance work? You, your employer, or some combination pays a monthly premium to the insurance company, and the insurance company, in turn, bears some or all of the cost of your medical care. The cost for a young, healthy, single individual with a bare-bones plan can be under $100 per month, while the cost for a family or aging couple or individual can easily be in the thousands.

Types of Plans

Most Americans receive their medical care through one of several managed care platforms, the most common of which are health maintenance organizations (HMOs) and preferred provider organizations (PPOs). HMOs are entities that employ a selection of doctors and health care providers with whom insured patients can choose to work. There is a primary focus on preventative care in HMO platforms, and most require a patient to meet with a primary care physician before being treated by a specialist.

PPOs are groupings of doctors and hospitals that band together to charge approved rates to an insurance company. The cost of a PPO is typically higher than the cost of an HMO, but they tend to offer greater flexibility in the number of doctors from whom patients can choose, and they also allow patients to go directly to a specialist, without a referral from a primary care physician. Another less common managed care variety is the point of service (POS) option that acts as a hybrid between an HMO and a PPO.

If you have an HMO or PPO health insurance plan, you probably have a co-pay and possibly a deductible. The co-pay is the amount paid when you go to the appointment with your doctor or specialist. If you have a generous enough plan, you have no deductible and your only responsibility is the co-pay. If you have a deductible, you are responsible for a specified amount of out-of-pocket cost before the insurance plan will pitch in. Other plans have a cost-sharing arrangement called coinsurance. Typical arrangements may require the patient to pay for 20 percent of a service or procedure while the insurance company covers the other 80 percent.

HSAs and FSAs

In virtually every different kind of health plan, there are out-of-pocket medical costs for which you will be responsible. These costs can be handled in a tax-privileged manner through the use of a flexible spending account (FSA) or a health savings account (HSA). Picture these accounts as buckets. You make a contribution into the bucket and you get a tax deduction for doing so. Then, when you buy a prescription or pay for a doctor’s appointment, you use the funds in your bucket and pay no taxes. The net effect is that most of the money you spend on medical expenses each year can now be tax deductible. That’s the equivalent of getting a 15 to 35 percent discount (depending on your tax bracket) on those costs.

You will be interested to see what the IRS deems to be qualified medical expenses, eligible for withdrawal from an HSA, and you can find a comprehensive list on the IRS web site (www.irs.gov); search for Publication 502 which lists these expenses or Publication 969 for broader information about HSAs and FSAs. The following may be surprising allowable expenses per the IRS: acupuncture to treat a medical condition, smoking cessation programs, alcoholism treatment, chiropractic fees, psychiatric care, massage with a letter from your doctor, and some long-term care insurance premiums. Specifically not allowed are the following: aromatherapy, deodorants, toothbrushes, breast enhancement, natural and herbal remedies and, of course, cigarettes and booze!

Worthy of note is that the IRS disallowed some medical expenses previously allowed beginning in 2011. Previously, most over-the-counter medication was allowed, but the IRS changed that allowance and clarified as much in the newest version of Publication 969:

Qualified Medical Expenses. For HSA, MSA, FSA, and HRA purposes, a medicine or drug will be a qualified medical expense only if the medicine or drug:

• Requires a prescription,
• Is available without a prescription (an over-the-counter medicine or drug) and you get a prescription for it, or
• Is insulin.

Flexible spending accounts can be used in conjunction with any health plan, but they also have two major pitfalls. First, most of them require you to purchase the goods and services yourself and wait for reimbursement, and second—and this is the real doozy—you must use 100 percent of your annual contributions or you lose them. They get swept into that dark financial black hole that no one can find (it’s actually your employer that keeps the change). It is that use-it-or-lose-it feature that gives one pause before contributing to an FSA, but if you’ve done a great job budgeting, you should be able to quantify a reasonable level of medical expenses to contribute to the FSA.

Health savings accounts are only allowable in conjunction with a high-deductible health plan, but unused portions of HSA contributions are yours to keep indefinitely. They can actually earn money over time and be used as a retirement account after you reach age 65 (unlike the 59½ rule applied to IRAs that we’ll discuss in the retirement planning chapter). In order for your health plan to be deemed high-deductible, you must have a minimum deductible of $1,200 for an individual or $2,400 for a family in 2011 (but keep an eye on these numbers as they are subject to change). That seems like a pretty penny to pay for the privilege of being able to contribute to this account, but you’ll be paying less for this health insurance plan option, and your employer may even make a contribution to the HSA for you. The result may be a surplus in your favor that accrues into the future.

Let’s review this because it gets pretty confusing. Instead of choosing the regular PPO plan with no deductible and a co-pay, you choose the high-deductible PPO plan and add an HSA to the mix. Because your employer is paying less for the high-deductible plan, it may very well make a monthly contribution to your HSA. If they contribute $200 per month and your family plan has a $2,400 deductible, then you’ve already covered your deductible. But in 2011, you can contribute up to the maximum of $6,150—an additional $3,750 for which you’ll receive a tax deduction. Then, when you go to the doctor’s office, you pay the full $175 for the visit and you pay for it with your HSA debit card, or you pay for it yourself and keep the receipt.

Here is where it gets interesting. You can reimburse yourself for all eligible medical expenses or you can allow them to accrue, even beyond the year in which they were paid. Then, at some later date when you’ve accrued a ton of receipts, you can write yourself a big check—tax free. Of course, especially at a time when the government is desperate for revenue, they have been known to change the rules, so before you implement any long-term plans dependent on the status quo, plan for possible contingencies.

Can our health insurance industry be saved? The answer lies in a very important question that I pose to you: How much does it cost to go to the doctor? If your answer was $20, $35, or $50, you answered like the majority of Americans, but those answers couldn’t be more wrong. For most standard appointments with a family physician, the amount is probably closer to $200. For specialists, it’s not uncommon for the price of a single appointment to be $600, $1,000, or more—all for the price of a nominal co-pay.

The problem with our health insurance does not lie with the medical system. It is the undisputed best in the world. The problem is with our payment system. The people providing the service (docs) aren’t directly billing the people receiving the service (patients), and the people receiving the service aren’t directly paying the service providers. A freshman economics major could tell you that it’s not going to work. Enter the all-too-late savior of the medical payment system—the health savings account. When patients use a high-deductible medical plan with an HSA, they actually see how much it costs for the doctor’s visit, and they pay for it in full. They don’t pay co-pays for prescriptions; they pay the full price. In the end, it doesn’t cost them any more because of the employer contributions and lower cost for the plan, but the service provider and recipient are finally connected.

What the economists love most about the HSAs is that the prospective patient now has the proper incentive to avoid frivolous trips to the doctor. When I get common cold symptoms, I’m not going to pay $200 to have the doctor tell me I have a cold. I’m going to get plenty of sleep, drink a lot of water, and keep the two-hundo in my HSA!

Recent Health Insurance Changes

I recently queried a group of veteran financial planners for their thoughts on the changing nature of the health insurance landscape. One of them summed it up saying, “To be sure, the law says it will do things that it will not do and does things that are not specified.” Though the planners all agreed that it is unlikely the law will be implemented entirely intact, the following bullets summarize the provisions that may be most likely to impact you:

The new healthcare law . . .

• Prohibits denying coverage of children based on preexisting conditions
• Places restrictions on the insurance companies’ ability to rescind coverage as a result of technicalities
• Eliminates lifetime maximum coverage limits
• Offers some relief to Medicare seniors by providing a small plug to the donut hole
• Requires that all plans offer preventative care
• Extends dependent care coverage for adult children to age 26
• Imposes higher Medicare payroll tax on high wage earners—before and after retirement

How then do we act as responsible risk managers of the personal and financial risk associated with health insurance?

• Risk avoidance: We can avoid the risk of getting sick by living in a bubble and eliminating all contact with the outside world. That’s going to be tough.
• Risk reduction: There is a lot we can do in this department. We can abstain from smoking, wash our hands, take our vitamins, drink fish oil, sleep eight hours a night but don’t oversleep, exercise at least three times per week, find time to relax, get outside to be exposed to sunlight but don’t spend too much time in the sun, drink a glass of red wine each night but don’t drink a bottle of wine every night . . . The list of things that we can do to reduce our health risk is endless. You have to listen to your body and choose the right techniques for you.
• Risk assumption: There is no better example of assuming the financial risk of health care than the deductible. The higher your deductible, or the higher your co-pay, or the higher your coinsurance, the lower your health insurance premium. The optimal vehicle for risk assumption is combining a high-deductible health plan with a health savings account.
• Risk transfer: We transfer the risk of a catastrophic health care event with health insurance. Remember my auto accident story? I didn’t have a couple hundred thousand dollars as an 18-year-old punk who wouldn’t have had insurance if I didn’t automatically default onto my father’s health insurance policy. And thank God I did, because otherwise, they’d probably still be garnishing my wages. Going without health insurance is simply . . . foolish (ever since I’ve had little kids running around my house, I’ve been trying not to use words like stupid; unless I’m talking to the dog, of course).

Of the three insurance varieties discussed in this chapter, would you believe that health insurance is the easiest to understand? Disability income insurance and long-term care insurance are the most complicated and complex personal insurance policies on the street, but they must not be ignored as a result. They could be two of the most important to consider.

Disability Income Insurance

Disability income insurance (DI) is just that. It insures your income in the case you are disabled. If you are disabled in a car accident, health insurance is going to cover the cost of your medical care. If you’re out of work for a period of time, disability income insurance is going to replace a portion of your income. Short-term disability income (STD) coverage will take care of the first few weeks or months. Long-term disability income (LTD) coverage picks up the balance, possibly all the way through age 65 or beyond. Because your short-term needs are probably covered by an STD policy through your employer, or otherwise should be covered by your emergency liquid reserves discussed earlier, we’ll concentrate on LTD.

Most insurance companies will not insure anyone with LTD for over 60 percent of their pretax income because they don’t want to offer them an incentive to be out of work, lest the incidence of disability oddly increase. You probably have a group DI policy through your work, and most of them cover up to the 60 percent rule. You may be thinking that it wouldn’t be too bad because after taxes, you’re not taking home a whole lot more than 60 percent of your paycheck anyway. The only problem is that if your company is paying the premium (you’re getting the coverage for free), and thereby gaining a corporate tax deduction, the IRS is going to require you to pay income tax on that benefit. If, on the other hand, you pay the premium with your own after-tax dollars, the benefit—in the case you were disabled—would be tax free.

Therefore, if you find yourself in the situation of most Americans, working for a company providing an LTD benefit at no cost that will pay 60 percent of your income in the case of a disability, you’ll really only be getting approximately 40 percent of your pretax income with increased medical expenses on the home front. If your company gives you the option to pay for all or a portion of the taxes on your group LTD policy premium, strongly consider accepting the invitation, although this option is quite rare.

You may consider supplementing this gap—to get you back up to that approximate number of 60 percent of your pretax income—with a private LTD policy. Although most insurance agents have a blatant economic bias to sell you more policy than you might need, this bias is restricted for sellers of LTD because the companies are scared to death of giving you too much, and therefore giving you that incentive to become disabled enough to stay home with pay. Therefore, with LTD, you typically want whatever the company is willing to give you (seriously) because the company will never be willing to give you more than you’d want if you were to become disabled. This doesn’t exempt LTD agents from economic bias entirely, though. Their bias can still bite you in the ridiculous number of details and moving pieces.

DI Moving Pieces

Following are the menagerie of moving pieces that I’m reading directly off of an LTD quote in my hands:

. . . base benefit, Social Security benefit, total benefit, elimination period, benefit period, renewability provision, own occupation provision, residual benefit, minimum residual benefit payable, recovery benefit, recurrent benefit, recurrent benefit paid from an unrelated cause, return of premium, COLA, future insurability options, age through which future insurability is exercisable, maximum presumptive disability paid, survivor benefit, limitation on mental or nervous disorders, catastrophic benefit rider, company ratings.

Can you believe that? How is anybody supposed to know what to do with all that . . . stuff (remember my pledge about using child-appropriate language)? You can’t. As I mentioned earlier, if I go through all of it in this book, you’ll stop reading out of sheer boredom, so I’ll simply inform you that you must find an independent source who understands this stuff and doesn’t have an axe to grind. And, I’ll highlight the most important provisions to review:

• Base benefit is the amount you would receive monthly if you suffered a qualifying disability.
• Residual benefit gives you the option to go back to work part-time and receive part of your disability benefit. If you don’t have residual, you’ll be required to stay out of work entirely to receive any benefit.
• Social Security benefit provides a way to save some money on your LTD policy. Although it is notoriously difficult to qualify for, Social Security does offer a disability benefit. If you opt for a Social Security offset provision, your disability benefit will be reduced by the proportionate amount you receive from Social Security, if any.
• Elimination period is the time you would have to wait before the policy would pay a benefit. You can save money on your premium by having a longer elimination period if you have adequate liquid reserves.
• Renewability provision stipulates whether you have a policy that, at some point, the insurer could arbitrarily alter or cancel. A non-cancelable policy contractually binds the insurer to maintain the policy as-is. Guaranteed renewable is more of a pledge that they won’t change the policy. A conditionally renewable policy can hang you out to dry.
• COLA is a cost of living adjustment—sort of. In the LTD world, a COLA provision doesn’t kick in until you begin to receive the benefit. So, if you buy a policy with a $2,000/month benefit when you’re 35, and then you become disabled when you’re 55, your benefit amount will begin at $2,000 per month—and then it will rise with the stipulated contract COLA. It’s tricky, but you still want it.
• Future insurability options are, for all intents and purposes, the predisability cost of living adjustment you thought you were getting with COLA, but you have to pay for them. Every few years, as your income increases, an FIO option will allow you to buy more coverage without underwriting. (Only an insurance company could come up with this . . . stuff!)
• Any or own occupation? That is the question. This may be the most important provision of all. If you have an “Own Occ” LTD policy, it will pay you if you become disabled enough that you cannot perform the material duties of your own occupation. This is what you want. “Any Occ” requires that you are unable to perform the material duties of any occupation in order to have your benefit paid. There is a genuine soft spot in my heart for the folks who work as greeters at Walmart, so I want to be very sure this remark does not come across in a disparaging way, but if you can take a smiley face sticker and stick it on someone’s shirt, you can perform “any” occupation and, therefore, would not be eligible to collect your LTD benefits. So, when you think of disability income insurance, remember this:

Your group LTD policy is often a benefit for which you don’t pay, and it’s not worth a great deal more than it costs you. Most of the previous provisions that you’d ideally tailor are less than optimal in the group policy. Most group LTD policies, for example, are “Own Occ” for the first two years and then convert to “Any Occ.” Good LTD insurance is extremely expensive—much more expensive than your term life insurance—because actuarially, your chances of becoming disabled in your working years are far greater than your chances of suffering a life-ending disability in that phase of life. If you’re supplementing a group policy, the cost will be manageable. Those who don’t have group LTD coverage will be looking at a very steep premium in order to privately insure the desired amount, but it will be much better coverage. And don’t assume the companies with the best marketing for DI also have the best policies. That company well-represented by an overly talkative duck? Not necessarily the best policy.

Let’s finish the disability income discussion as risk managers.

• Risk avoidance: Bubble.
• Risk reduction: Don’t do anything fun—I mean, risky. This is a tough one for me because I like playing sports, white water rafting, mountain biking, road biking, rock climbing, and motorcycling, so I can hardly lecture you. Let’s just follow Mom’s advice and “Be careful!”
• Risk assumption: Maintain an adequate emergency liquid reserve.
• Risk transfer: Pick and choose your bells and whistles, but adequately insure with DI the catastrophic risk of doing serious damage to your family’s money-making machine—you!

Social Security, Medicaid, and Medicare

So, how do the government programs, Social Security, Medicaid, and Medicare fit into this picture? As we mentioned before, Social Security, which we’ll be discussing in greater detail within the context of retirement planning, does offer a disability benefit (often referred to as SSDI) to those who qualify under age 65 (for those over age 65, the program is known as SSI or Supplemental Security Income). The benefit is notoriously difficult to qualify for and may be seen as an “any occupation” benefit. You can read more about these benefits at www.ssa.gov.

Medicaid is a federal program administered on the state level to provide care for the impoverished suffering from a disability at any age. Though Medicare does not include long-term care costs for the elderly, Medicaid does offer assistance, to include nursing care, for those who have exhausted almost all of their assets. It had become big business for attorneys specializing in elder law to take people with money and make them appear to be people without, so that their assets would not be consumed by the costs associated with long-term health care. However, Medicaid rules have been tightened in recent years, making that disappearing act more difficult to accomplish.

Medicare is a federal government health care plan for people over the age of 65. We pay into this system in our working years, and it is designed to reduce medical costs in our retirement years. Because it is a government program, it is naturally confusing and has many different elements. Medicare Part A is hospital insurance. Part B is medical insurance for physician care. Though parts A and B are government run, Medicare Advantage, or Part C, is an A and B hybrid run through private insurance companies approved by Medicare. Medicare Part D is prescription coverage, and if you’re not satisfied with the care offered by Medicare Parts A and B, you’re welcome to look into Medigap plans A through L. As you approach age 65, it is very important to do a thorough review of the plans available to you and balance your needs and wants with your cash flow requirements. For more information, visit the Medicare web site at www.medicare.gov.

Long-Term Care Insurance

One very important thing to remember is that Medicare does not cover the costs of most long-term care needs. Allen Hamm, in his book, Long-Term Care Planning1, shares the following statistics:

• 71 percent of Medicare recipients mistakenly believe Medicare is a primary source for covering long-term care.
• 87 percent of people under the age of 65 mistakenly believe their private health insurance will cover the cost of long-term care.

In reality, Medicare will only pay for 100 days of skilled nursing care. Thereafter, the insured is responsible for 100 percent of the cost. But a risk manager does not automatically assume the reflex response is to purchase a long-term care insurance policy with all the bells and whistles. Individuals in their 50s or older should, however, have a long-term care plan in place. If you are younger than 50, you’ll still want to read the next few paragraphs of this chapter for the bearing it could have on your future life, or the life of a parent who should be going through this thought process.

Your long-term care plan should incorporate the following:

• Facts about you and your spouse, if applicable
  • Your age(s)
  • Your personal health
  • Longevity of lineage
  • Your retirement income and assets
  • Your tolerance for risk
• The costs and demographics of long-term care in your geographic area
• Information about any long-term care insurance that you own or have considered owning

What exactly is the financial risk of a long-term health care incident? AARP breaks down the estimated cost by state on their web site: http://www.aarp.org/families/caregiving/state_ltc_costs.html

LTC Moving Pieces

The annual cost of assisted living care in most states ranges from $30,000 to $50,000. The cost of full nursing care ranges from $50,000 to $100,000, with Alaska topping out at over $200,000 per year! States like New York, Connecticut, Maryland, and California are in the higher end of the ranges with states like Alabama, Louisiana, and South Dakota on the lower end. Regardless, we’re dealing with a significant amount of additional expense which most retirement plans are not prepared to support.

Long-term care insurance is sold most often in daily increments, so you would purchase a policy that would pay $100, $150, or $200 per day for a stated number of years or your lifetime. LTC has almost as many moving parts as LTD. Here are the most important to understand:

• Facility daily benefit is the cost per day that the policy will cover. It is a good idea to ask for quotes based on a policy that would cover you for $100 per day, because then you can determine a higher or lower multiple of that policy rate easily based on the round number.
• Facility benefit period is the length of time over which the policy will pay out. The average stay in a long-term care facility is already low—around two years—but most people utilize care for even less time. The numbers are skewed upward by the relative handful of folks who suffer from dementia or Alzheimer’s for a particularly long stretch. If your tolerance for risk is very low, you may consider a lifetime benefit, but if you are focusing more on the probability, consider a five-year benefit.
• Home care daily benefit is the percentage of the policy benefit that could be applied to skilled care in your home. As the preferred method for most people, you should probably only consider plans offering 100 percent of your benefit to be applied to home care.
• Inflation protection describes how the future inflation of health care costs will be factored into your benefit. With the future costs of health care expected to rise at a pace above the normal inflation rate, this should be a primary concern for the prospective insured. If you are in your 50s or 60s, strongly consider compound inflation protection. Unlike the quirky long-term disability COLA factor, this feature does what you expect it to do—go up every year. If you are in your 70s or older and considering a policy, the premiums are likely to be extremely costly, so you may consider a simple inflation protection calculation or no inflation protection to reduce the costs of the policy.
• Facility elimination period is the initial time frame in which the policy will not pay. Because Medicare will typically pay for the first 100 days, consider an elimination period of 90 days or more.
• Marital discount is a significant discount for couples who are purchasing LTC together. Many insurance companies now offer shared care policies offering less stringent underwriting and reduced costs; but be sure to conduct your LTC plan before choosing this insurance option. A spouse with a history of heart disease may have a higher probability of dying in an instant from a heart attack (and, therefore, may consider opting out of LTC), whereas a spouse with a family history of dementia or arthritis should strongly consider applying for LTC before major symptoms occur (because by then, you’re likely to be turned down).

Your plan may very well include the purchase of long-term care insurance, but it is simply one of the tools that you may use to neutralize a portion of the risk of a long-term health care incident. Let’s apply the risk manager criteria:

• Risk avoidance: You can’t guarantee that you’ll not suffer a long-term health care incident, but you may be able to completely avoid the financial risk. There are now continuing care communities that offer every level of medical care from independent living to assisted living to nursing care and hospice care. Many of these facilities require higher payments for the more intensive levels of care, but some now offer residents the option of flat fee payments (usually in combination with a sizable down payment) that will not increase regardless of the level of care required. That is one way you could virtually quash the financial risk of an extended long-term health care incident (assuming the facility doesn’t go bankrupt, which is a legitimate risk to be considered).
• Risk reduction: The risk reduction factors are similar to that of the disability and health insurance methods. Don’t smoke, eat well, and exercise mentally, physically, and spiritually.
• Risk assumption: The risk of a long-term care incident could be reasonably self-insured if you have a liquid base of assets of $2 million and live off of no more than the growth and interest in the portfolio; but there are no guarantees. If you have much less than $2 million, though, you can reasonably assume you aren’t a likely candidate for 100 percent self-insurance. Another way you can assume risk in this case is by presuming that a family member or members will care for you. Before making this presumption, I’d recommend checking with them first!
• Risk transfer: The way you’d transfer the risk of a long-term health care incident is with long-term care insurance. But before you sign on the dotted line for the Rolls Royce of LTC policies because you conclude you need and want coverage, first consider laying out your long-term care plan and determining to what degree you can manage the risk with the other three methods. Partially insuring this need may be appropriate for many.

A comprehensive risk management approach to health, disability income, and long-term care insurance will help ensure that you insure the risks you can’t manage, and manage the ones you can. The more you can manage, the more dollars you’ll have to apply to other valuable pursuits.

I promised to back up my postulation that it could be worth up to a million bucks 35 years from now for the 30-something smoker who’s thinking about quitting. Here you go. The average cost for a pack of smokes these days is around $5.50 for Marlboros or Camels. You will pay more or less depending on the brand you smoke and the state in which you live. In some states, you can pay up to $10 or more for one pack of 20 cigarettes. Genuine smokers polish off about one pack per day, so the cigarettes alone will cost a smoker an additional $2,007.50 more per year than a comparable nonsmoker.

This same guy would be able to buy $1,000,000 of 30-year term life insurance for $3,160 in the “Preferred Smoker” underwriting class, the best rating that a smoker can receive. If he didn’t smoke, the best rates would be only $825, so the habit just cost him an additional $2,335 per year. This is the only cost described here that will not be expected to go up with inflation each year, because the premiums are guaranteed for 30 years. Health insurance isn’t quite as ugly. Here again, this will be state specific and company specific. Some states and companies gouge smokers while others allow the remainder of the risk pool to pick up the additional costs. We’ll be conservative and say that the self-employed smoker who needs to get his own health insurance will pay $500 more per year for coverage.

Disability income insurance is another cost that the smoker will have to pick up and pay additional for the privilege to puff. This will cost him an additional $260 per year.

The aggregate of these costs amounts to $5,102 per year, so we assume that if that five grand wasn’t going up in smoke, it could be invested to earn seven percent. Then, if the increase in costs other than life insurance over each year (assumed to be 3 percent) were also invested, this would further compound the earning potential of the investment. When the ex-smoker is retired, he would have saved $1,059,279 just for having quit smoking. That’s not a bad start to that retirement nest egg, eh? That $1,059,279 the smoker would have in 35 years could be discounted for inflation (using 3 percent) to be worth $376,450 in today’s dollars.2

Yeah, money and health are connected.

1. Allen Hamm, Long-Term Care Planning (Plan Ahead, 2007), 46.

2. The future value of investing $2,767 in excess costs from smoking at 10 percent (seven percent investment return + three percent annual inflation of costs) 35 years from now is $749,924. The insurance costs would stay level for 30 years and then end, so the future value of $2,335 in excess premium in 30 years is $220,565 if it earns seven percent annually. Then, no additional premiums would be paid, but the $220,565 would continue to compound earnings for another five years with an ultimate future value of $309,355. $749,924 plus $309,355 is $1,059,279 of additional savings from investing the excess costs of smoking. The present value of that amount—the amount of money that $1,059,279 in 35 years would be worth in today’s dollars—accounting for three percent inflation, is $376,450.