Financial Advice for Retirement, Social Security, IRAs and Estate Planning

How to Avoid the Retirement Medical Expense Surprise

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The wildcard in every retirement plan is the cost of medical care. The retirement medical expense surprise is probably the cause of most retirement plan failures. There are several reasons medical expenses disrupt so many plans:

  • Many people are used to employer-paid medical care. Before they retire, they do not realize the full cost of medical insurance.
  • Employers used to provide medical coverage for retirees. As of 2005, only about 20% of companies with 500 or more employees offered at least some retiree medical coverage. Most that do offer retire medical care reduced benefits in recent years, and smaller employers rarely offer retiree medical care.
  • Life expectancy continues to increase, and medical expenses tend to rise with age.
  • The cost of medical care is rising faster than general price inflation.
  • Technology makes more conditions treatable but the treatment comes at a cost.
  • The cost of medical care varies between individuals. Some have minimal expenses until a final illness; others develop chronic conditions and incur above average expenses for years.
  • Retirement medical care is divided into two buckets: regular medical expenses and long-term health care.
  • Medical care is not spread evenly over retirement. The expenses generally increase over time and bulge in the later years.

Estimating the cost of retirement medical care is difficult. Fidelity Investments has an annual survey that attempts to do that. The latest survey estimates that the average married couple age 65 today will pay $225,000 for medical care between ages 65 and 80. That cost includes everything Medicare does not cover: Medicare premiums, deductibles, copayments, noncovered care (including dental care), supplemental insurance, and prescription drugs. This estimated tab was $175,000 only five years ago. For most couples, the expenses will average $10,000 or more in the early years of retirement and be much higher in later years. Many people will live beyond 80, boosting lifetime costs. The Fidelity estimates are an average, so half retirees will have higher costs.

In 2008 for the first time Fidelity also estimated the cost of long-term care for the average 65-year-old couple. The couple will spend $85,000 over their lifetimes on long-term care. This is in addition to the other estimated retirement medical expenses.

Remember that these are average expenses. Some will spend less; others will spend more.

For a couple retiring at 65 today, a fund of about $207,000 is needed just to fund the medical expenses through 80 (not including the long-term care). That assumes a 7% after-tax return on the fund.

Clearly retirement medical expenses are an important part of the retirement plan, and they also one of the most neglected. Here is what pre-retirees and those in the early years of retirement should do to properly plan for retirement medical expenses.

Prepare early. As soon as possible before retirement determine the level of any employer support for retirement medical expenses.

Estimate expenses. You can use the Fidelity survey numbers or develop your own based on personal and family medical history and costs in your area. Do not forget to include medical cost inflation.

Prepare for contingencies. Employers can reduce retiree benefits. An important wildcard is Medicare. The annual reports from its trustees make clear that it is financially unstable. Already a means-tested premium is in place that charges higher premiums to higher income individuals. More means-testing is likely in the future as are reductions in coverage. Another likely change is to increase the eligibility age. The full retirement age for Social Security is rising, so the age for Medicare is likely to follow.

Research alternatives. Retirees must know the alternatives available to them if employers or Medicare change the rules. Alternatives include private individual insurance, HMOs, professional or trade association policies, and different forms of Medicare. Returning to work, even on a part-time basis, might be another way to regain medical coverage. One way to research alternatives is ehealthinsurance.com.

Don’t retire early. Retiring early is perhaps the most significant source of retirement financing problems. Too many people retire before being eligible for Medicare or employer retirement benefits. They do not realize how expensive or difficult it is to obtain medical insurance for individuals older than 50. Someone who retires early and stays healthy until age 65 might be fine. But significant health problems during the gap period will be very expensive.

Waiting until 18 months before age 65 to retire allows you to purchase health insurance through the employer under COBRA. But the employer can charge the full cost plus an administrative charge, and that likely will be expensive.

Start health savings accounts. Those who are eligible to create health savings accounts should do so before retirement. Contributions are deductible. Investment earnings accumulate tax free. Distributions for qualified medical expenses are tax free. You can make contributions before retirement and let the account accumulate to pay for retirement medical expenses, including premiums.

Evaluate Medicare choices. A Medicare beneficiary in most areas can choose traditional fee for service or from a range of Medicare Advantage plans. You can learn which plans are available in your area on the Medicare web site or from your state insurance commissioner.

Consider a Medicare supplement. The Medicare supplement policies pay Medicare premiums and some items not covered by Medicare. There are a range of policies to choose from. The different policies and the factors to consider are explained in articles in the web site Archive and also in my book, The New Rules of Retirement.

Consider prescription coverage. Medicare Part D covering prescription drugs is getting ready for its third year. You might want to choose one of the plans available in your area. This decision also is discussed in articles in web site Archive.

Review long-term care coverage. Medicare pays for long-term health care only in limited circumstances. In other circumstances, you either fund it yourself, buy private insurance, or try to qualify for Medicaid. This is another topic we have discussed in past visits. Those discussions are in the web site Archive and in my book.

Have a replacement fund. Ideally there is a cushion in your retirement portfolio in case expected medical expense coverage is reduced or expenses are higher than planned. Your spending and investment goals should reflect the possibility that medical spending will be higher than projected because of higher expenses or reduced coverage.

The cost of retirement medical care is a shock to many new retirees. Do not fall into that group. Review the coverage available to you before retirement and know the likely cost to you. Once retired, keep track of the status of and possible changes in your coverage and of the alternatives available. Getting medical coverage right can make or break your retirement.

 

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