The greatest fears of Americans approaching retirement are paying for medical expenses and outliving their money. Those concerns are related, because medical expenses are the largest unknown factor in retirement plans, one of the major expenses, and most people don’t have estimates of their retirement medical spending.
For example, 40% of Americans have no idea how much retirement medical expenses will cost, and 75% don’t have a plan to cover the expenses, according to a survey released by Sun Life Financial in May.
The fears caused by retirement medical expenses diminish for most people when they develop an estimate of the expenses and a plan for dealing with them. Recent studies can give you a start estimating the expenses.
Fidelity Investments released its 10th annual estimate of retirement medical costs, concluding that a 65-year-old couple in 2011 will spend $230,000 on medical expenses during the rest of their lives. This figure assumes the couple qualifies for Medicare and includes their out-of-pocket expenses for premiums, copayments, deductibles, and items not covered by Medicare. It doesn’t include long-term care and most dental and vision care. So there could be significant expenses above this estimate.
The Fidelity estimate is an average. Most people will pay significantly more or less. It also is a lifetime estimate, and most people have these expenses bunched in the last few years of life rather than being spread evenly over time.
To estimate your potential long-term care expenses, consult the Genworth web site at Genworth.com. The insurer recently released its latest annual update of long-term care costs. I’ve always liked the Genworth study because it provides local estimates around the country rather than offering a single national estimate. It also breaks down separate estimates for nursing homes, assisted living, and home care. The web site offers good online tools to analyze and compare the expenses.
Turning back to other medical expenses, I urge you to consider two studies that are more sophisticated than the Fidelity estimate. Your medical expenses will vary by longevity, the presence of chronic conditions, and other factors. You also need estimates for the potential range of expenses, not simply an average.
A very good study by the Employee Benefits Research Institute (www.ebri.org) takes these factors into account. Here’s how EBRI summarized its findings:
“An Employee Benefit Research Institute study finds that a man with median drug expenditures would need $65,000 in savings and a woman would need $93,000 if they want an average (50 percent) chance of having enough money to cover health care expenses in retirement. For a higher (90 percent) chance of having enough, a man would need $124,000 and a woman $152,000. A couple both with median drug expenses would need $158,000 for a 50 percent chance of having enough money, and $271,000 for a 90 percent chance. At the highest (90th percentile) level of drug spending, a man would need $187,000 and a woman $213,000 to have a 90 percent chance of having enough money to cover health care expenses in retirement.”
The Center for Retirement Research (crr.bc.edu) went a step further and estimated lifetime expenses at different ages and the probability of incurring very high expenses at each age. An interesting finding in that study is that living long without chronic conditions doesn’t really reduce lifetime medical expenses and might increase them. Here’s their summary:
“Our simulations show that households are at significant risk of incurring health care costs that are more than twice the average. A typical couple age 65 can expect to incur health care costs of $260,000 in present-value terms over their lifetimes, including the cost of long-term care and Medicare, Medigap, and retiree health insurance premiums, assuming their financial resources permit. But this couple faces a 5-percent chance that it will spend more than $570,000. At age 65, remaining life expectancy for men and women born in 1944 is 17 and 21 years, respectively. By age 85, it has more than halved, to six and seven years, respectively. But health care cost risk decreases much less than proportionately, and a typical couple age 85 still faces a 5 percent chance that the present value of its remaining lifetime health care costs will exceed $477,000.”
As you can see, the costs can be significant, and for more of us they are unpredictable. There’s no one tool or silver bullet for dealing retirement medical expenses. Instead, you want to put together a package of tools and most of them will be different kinds of insurance. As with all insurance products, you’re looking at a trade off. You pay a higher fixed cost (insurance premiums) in return for shifting the unknown risk of a potentially large expense to the insurer. The more money you’re able to save before retirement, the more comfortable you might feel about buying less insurance.
Here’s the package of tools to consider.
? At age 65, you start with a choice between traditional Medicare and Medicare Advantage. Medicare Advantage plans generally cover more care but reduce some of your choices about doctors and treatment plans.
? When you opt for traditional Medicare, there are other decisions to make. You can buy Medicare Supplemental Insurance (Medigap) to cover some of the items not covered by traditional Medicare. These include the deductibles, copayments, and uncovered care. You can choose from different Medigap policies to find the trade off between premiums and uncovered expenses you’re comfortable with. We’ll cover Medigap plans in more detail in a future issue. In the meantime, you can review the past articles in the Archive on the web site.
Before opting to ignore Medigap, consider all your potential exposure. For most care, you’ll have a 20% deductible. That means if you need major surgery or treatment that is not 100% covered by Medicare, you’ll owe 20% of the bill. Since some surgeries and treatments can cost tens of thousands of dollars, that can be a big bill.
? Under traditional Medicare, you’ll also want to decide whether to buy a policy under Part D that covers prescription drugs. (This is covered under Medicare Advantage.) This is another issue we’ll look at in detail in a future issue. In the meantime, you can review the past articles in the Archive on the web site.
? Then, you look at your guaranteed income and regular expenses to determine how much money, if any, is available to help with either regular or irregular medical expenses.
? Finally, there’s your long-term savings. I’ve often recommended the “basket approach” to retirement savings. You take a lump sum and put it either actually or mentally into a separate investment basket. For most people the largest medical expenses are likely to occur in the last couple years of life. So, the medical expense basket of a portfolio can be invested with a longer-term perspective and potentially earn higher returns than money you’ll plan to spend in the next few years.
The ultimate fallback strategy when things get tight is to qualify for Medicaid. This is the program to cover medical expenses for the poor, so you essentially have to impoverish yourself by spending or giving away your assets and not having much income. There also are rules to prevent you from giving away assets to family members so you can qualify for Medicare. Of course, you should be concerned about the quality of care and coverage you’d receive under Medicaid. Your current medical providers might not accept Medicaid’s payment terms or belong to the system.
Remember, none of the estimates above include long-term care expenses. This is a separate issue, because the risk level is different.
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