Here at myLifeSite we usually cover senior living, retirement lifestyles, and topics related to aging. Because our founders have finance backgrounds and because financial considerations are central to many senior living decisions—especially for life plan communities (also known as continuing care retirement communities or CCRCs)—we occasionally publish finance-focused articles. These posts aim to educate consumers and senior living staff who may not be financially fluent.
Financial requirements for CCRC residents
Many life plan communities require prospective residents to meet financial eligibility criteria before entering into a continuing care or lifecare contract. Communities use these requirements to help ensure that, under typical circumstances, a resident can reasonably afford living there over the long term. This protects both the individual and the overall financial health of the community, and it reduces the need for community-sponsored resident financial assistance.
As part of the admissions process most life plan communities ask applicants to complete a confidential financial data form. Information from that form is often entered into financial planning software to estimate whether the community will be affordable for the applicant over their expected lifetime.
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Accounting for personal retirement income
Prospective residents are typically asked to list their income sources. Income may come from dividends (paid by stocks, stock mutual funds, ETFs, and similar investments) and interest (earned on cash, CDs, bonds, and bond funds). Dividends and interest are usually straightforward to document because they appear on financial statements.
However, other aspects of retirement income can be less obvious and may lead to double counting unless the information is provided clearly and interpreted correctly by the community staff. The common source of confusion is withdrawals from investment and retirement accounts beyond the dividends and interest they produce.
There are two ways to view withdrawals. One approach is to withdraw only the dividends and interest earned by the account, which does not reduce the principal holdings. The other approach is to withdraw more than that amount, which requires selling shares or otherwise liquidating assets and therefore reduces the account balance dollar-for-dollar.
For example, suppose a retiree has an investment account or IRA worth $500,000 that generates roughly 3% per year in dividends and interest, or $15,000. If the retiree needs $25,000 annually for living expenses, they would be taking an extra $10,000 per year by selling holdings. That action reduces the account by $10,000 each year.
The potential problem arises when the confidential financial form records only the total $25,000 annual withdrawal as income without reflecting the $10,000 annual reduction in assets. Viewing the $500,000 account as a finite pot of money that must last for the remainder of the retiree’s life, failing to account for the ongoing $10,000 liquidation will overstate long-term sustainability. Over 15 years, uncounted withdrawals of $10,000 per year would reduce the account by $150,000.
(Note: Tax rules for withdrawals vary depending on account type—regular brokerage accounts are taxed differently than tax-deferred accounts such as IRAs—but the cash-flow and asset-reduction concepts discussed here apply broadly.)
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Guaranteed annuity withdrawals add more confusion
Tax-deferred annuities come in many forms, but they share the feature that growth inside the annuity is not taxed until withdrawn. Some annuities—particularly variable annuities invested in sub-accounts—offer guaranteed income riders that promise a fixed percentage payout based on a benefit base. Depending on the product and purchase date, these riders might guarantee income in the range of several percent per year.
That guaranteed percentage does not mean the insurer is literally paying that percent on the current account value each year. Instead, the insurer allows the policyholder to take withdrawals up to the guaranteed percentage and, if the annuity’s account value were ever depleted, the insurer would continue to make the guaranteed payments. The insurer is effectively underwriting the guarantee.
Using the earlier example: if a $500,000 variable annuity includes a guaranteed withdrawal rate of 7%, it could generate $35,000 per year in guaranteed income. If actual dividends and interest are $15,000 per year, the difference—$20,000—would come from withdrawing or liquidating the annuity value. If an applicant reports $35,000 per year of annuity income on the confidential financial form and the community counts that amount solely as income without recording the $20,000-per-year reduction in assets, long-term projections can be wildly optimistic. Over 15 years, such unrecorded annual withdrawals would amount to $300,000 of principal reduction.
Failing to reflect these reductions can materially alter projected affordability versus actual affordability, especially depending on the annuity’s or investments’ long-term performance.
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Properly calculating retirement income is key to life plan community affordability
In short, it’s important to distinguish between income generated by investments (dividends and interest) and income produced by selling assets or drawing down principal. When communities prepare affordability evaluations, the calculations must capture both the income flow and the impact of withdrawals on assets. Without that distinction, long-term financial projections can be misleading, which could affect the resident’s security and the community’s fiscal stability.
*As with IRAs, withdrawals from annuities before age 59½ may trigger tax penalties. Annuities can also have surrender charges or other early withdrawal penalties during specified periods and may be held inside IRAs.