Older savers and their families who pick a little-known pension option can cut the cost of later life care by completely avoiding inheritance tax (IHT), but experts say many are missing out.
Pensioners could be better off with what is known as an "immediate needs annuity". Bought only when required to pay for care, it means handing over a lump sum to an insurance company, which then pays a residential home or home help to provide care until death.
Not all financial advisers are qualified to sell them, though, leaving their clients in the dark. Pensioners can also be reluctant; in the wake of the introduction of the pension freedoms four years ago, annuities have been regarded as poor value by many.
However, figures compiled for Telegraph Money by wealth adviser Canaccord Genuity show how the immediate needs annuity can double as an IHT planning tool. Buying one for an 83-year-old widow could save her family from a tax bill of £148,000, effectively cutting the cost of her care by 40pc.
Imagine that Mrs H enters a residential home. She has assets of £1.32m, including £1m from the sale of the family home .NHS at 70 - Average weekly cost of care
After exemptions of £950,000, in the event of her death, her son and daughter's IHT bill would be £148,000.
An inflation-linked immediate needs annuity to pay £30,000 a year towards her care for the rest of her life would cost around £370,000. Funds paid directly to the care home avoid income tax .
Mrs H has other annual income of £20,000, giving her £50,000 a year for care, roughly the current average cost of £43,888, according to LaingBuisson, a healthcare business.
Buying the annuity reduces Mrs H's estate to £950,000, which removes the IHT liability and effectively cuts the cost of her lifelong care by £148,000 to £222,000.
The remaining money can be invested to generate income for her ad hoc expenditure, then passed on tax-free at her death.
Angela Lloyd-Read of Canaccord Genuity said: "Care homes love a guaranteed income, so you can negotiate a good deal with them, such as no price increases.
"Where the children are joint attorneys of the estate, they can also show they acted in the best interest of the donor, their mother, as funding care costs clearly came first."
Immediate needs annuities are not without risk, however. Critics point out that, when a relative dies earlier than expected, all money paid for their care is lost.
Insurance companies consult GPs and use an individual's detailed medical history to judge how long they are likely to live, so should price the annuity accordingly, with the healthy paying more.
Equally, those with long-term complex health needs may at some point qualify for free social care, known as NHS continuing healthcare, making an annuity redundant. In this case Ms Lloyd-Read said payments to the care home could be stopped and the money paid to the person who bought the annuity instead.
"The monthly payments would be considered as part return of capital and part interest," she said. "The interest could be taxable, the capital element wouldn't be. The money would then be available to spend on whatever they wanted ."
However, when someone is in a care home and becomes eligible for continuing healthcare, and the fees charged for that service by their current care home are more than is covered by the NHS, they may be required to move.
Patients cost the NHS more as they get older
Ms Lloyd-Read said: "It isn't possible to top up NHS continuing healthcare packages, as you can with local authority care packages, except by paying for additional private services on top of the services that the NHS assesses to be needed."
Adult social care services in England are facing significant funding pressures, thanks to the ageing population and care costs. The Local Government Association estimates a £1.5bn funding gap, rising to £3.5bn by 2025.
The Government's long-awaited Green Paper detailing its plans for social care funding has been delayed by more than two years, with MPs blaming Brexit talks.
Most people will have to pay for some, if not all, of their care. Only once an individual has assets of less than £14,250 is their care totally funded by the state.
This article was written by Laura Miller from The Telegraph and was legally licensed through the NewsCred publisher network. Please direct all licensing questions to firstname.lastname@example.org.
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