The Overlooked Retirement Time Bomb

My file of articles about retiree medical expenses is filling rapidly with unpleasant headlines. One sample sums up the group: “How Safe Are Your Retiree Health Benefits?” Numerous surveys and my own experience lead to one conclusion: Most retirees and pre-retirees greatly underestimate how much medical expenses will be during retirement and are mistaken about how much of those expenses will be paid by others.

Only one in 20 companies still offers any retirement medical benefits, according to one benefits consulting firm. Only one in three large companies still offers the benefits. Many of the companies that do offer retirement medical benefits are reducing or eliminating those benefits. Many firms cut the benefits because of the rising cost. More will reduce benefits because new accounting rules will require firms to quantify the future cost and use the amount to reduce earnings.

Medicare is not the stopgap most people expect. Only Social Security beneficiaries are eligible for Medicare, so it does not help early retirees. In addition, Medicare is largely a hospitalization plan. It does not cover most routine and preventive care. Studies indicate that Medicare covers only about half the medical expenses of the average beneficiary.

Fidelity Investments recently tried to quantify the retirement medical expenses of a typical retiree, and its estimates are consistent with others I have seen.

A 65-year-old couple retiring today will pay about $190,000 for medical expenses over the next 15 to 20 years. About $58,900 will cover Medicare premiums. Another $62,700 will buy prescription drugs. Other expenses will total $68,400, including eyeglasses, hearing aids, routine doctor visits, preventive tests, deductibles, and copayments.

These are average expenses. Actual costs will greatly vary for each couple. That is the real trick to planning for retirement medical expenses.
Most people do not have $190,000 tucked away solely for medical expenses, and many do not need to.

Medical expenses are unpredictable and volatile. The rate of growth of fixed expenses such as premiums is impossible to forecast. The occurrence of other expenses also is unknown. A healthy person with few medical expenses today could develop a disease or condition that incurs significant costs in a few years. The costs could be compressed in a relatively short period or they could be spread over a lifetime.

Despite the difficulties, retirees and pre-retirees need strategies in place that deal with changes in medical expenses. Strategies can be developed that allow full enjoyment of retirement today and provide ways to deal with rising costs in the future.

Many pre-retirees need two strategies. One strategy covers the period when they have no employer health coverage and are not eligible for Medicaid. The other strategy covers the Medicaid-eligible period.

The first step in the pre-Medicaid period is to line up a medical insurance policy. This can be expensive. The average employer spends about $11,000 per employee for family medical coverage. Individual policies can be more expensive than group policies, and the pre-Medicare retiree is older than the average employee. Those differences can be expensive.

When first leaving an employer, a retiree can pay to participate in the employer’s group plan by paying premiums under Cobra, the law that requires an employer to offer this option. The employee can continue this coverage for no more than 18 months, so this is a temporary and usually expensive option.

After Cobra, the pre-Medicaid retiree has to obtain an individual medical policy. Because of the expense of individual policies, the best option might be to buy a high-deductible policy that covers few routine expenses. These policies are around $100 per month for many people.

Another good move is to buy the individual policy before leaving an employer. (The employer might help pay the premiums.) That ensures a policy is obtained while still relatively young and healthy. After that, the policy cannot be canceled for health reasons. Check ehealthinsurance.com for options.

If there is only a year or less until Medicare kicks in, a short-term policy is a possibility. It won’t cover much, but it will protect you from catastrophic expenses.

A retiree who belongs to an association should see if it offers medical policies. If so, be sure to compare the terms with those of individual policies.

Pre-retirees also should contribute to health savings accounts if they are eligible. These allow the owner to invest annual contributions and let the account’s value grow. When major medical expenses arise, they can be paid from the account and the distributions are tax free. The account can be used to pay eligible expenses any time, but I recommend letting the account accumulate until retirement. Spend the account during retirement.

Once Medicare kicks in, the choices multiply for many retirees. A few still have employer or union medical benefits. For others, a choice must be made between traditional Medicare and Medicare Advantage.

Traditional Medicare is a fee-for-service indemnity program. The beneficiary selects his own doctors. Medicare pays the doctor according to its rate schedule. The beneficiary pays for any uncovered costs.

In traditional Medicare, the beneficiary has to decide whether to buy a Medicare supplement (Medigap) policy to pay some of the costs Medicare doesn’t cover. The types of policies and how to choose among them are discussed in articles in the Health Watch section of the Archive on the web site.

Medicare Advantage is offered by HMOs and similar organizations. This Medicare option was revitalized by the law creating the Part D prescription drug benefit. Managed care organizations greatly expanded their benefits and reduced their charges to Medicare beneficiaries, because the government increased the amount it pays to such organizations.

It is worth the time to compare the offerings of Medicare Advantage plans. The big risk is that the government will repeat what it did in 1997, when it decided that HMOs were profiting too much for Medicare and reduced the reimbursements. As a result, many HMOs pulled out of Medicare.

Whether in Medicare or not, a retiree needs a strategy for adapting to changes. Possible changes are rapidly increasing premiums or copayments, reductions in covered expenses, and new expenses that aren’t covered (such as regular prescription drugs). In any of these instances, the alternatives are the same:

• Go back to work, if able. Many group policies for employees cover an employees’ spouse. If the retiree needing medical coverage is married but unable to work, the spouse might be able to work and obtain coverage for both.
• Reduce spending. Most budgets have a fair amount of variable expenses. When medical expenses jump, consider reducing travel and other recreational expenses. Sell a second home or extra car. Move to a smaller home. The exact actions to take depend on one’s spending. The point is to look for expenses that can be reduced or eliminated to pay the medical expenses.
• Invest more aggressively. This carries more risk than the other suggestions, because the investments might not work out. But someone with a very conservative portfolio might consider taking a little more risk to increase income or capital gains.
• Increase borrowing. The ideal time to use a reverse mortgage is to pay for unexpected retirement expenses such as medical care. This lets you tap home equity without moving.
• Change goals. Many people want to help their grandchildren financially or leave a meaningful inheritance. Those goals, or other spending goals, might need to be altered to meet retirement medical expenses.

Medical expenses are the leading cause of bankruptcy, especially among retirees. There is no reason for that to be the case. Put a plan in place now to deal with the unknowns of retirement medical expenses.

Those who want some help planning future medical expenses should visit the web site www.familyhealth-budget.com (no hyphen).