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Paying for Health Care in Retirement

health care costsThis week I was reading a new study from the Social Science Research Network and it gave me pause, and some serious food for thought. I read that the rate of Americans over age 65 who are filing for bankruptcy now has increased a staggering 204% since 1991. A key takeaway from the research: Insufficient income in retirement and unmanageable health care costs are driving more and more seniors to declare bankruptcy.

With so much uncertainty on Capitol Hill about the future of programs like Social Security and Medicare – which so many of us consider essential to overall retirement strategy – it is imperative that you have an appropriate plan in place to make sure you get the care and coverage you need when you need it. If it’s been a while since you’ve reviewed your anticipated health care costs in retirement, you should make a point to do so; preparing now may mean the difference between retiring comfortably or experiencing possible devastating financial hardship.

Fidelity estimates that a couple, aged 65, retiring in 2018 will need $280,000 to pay for medical expenses throughout their retirement. That’s a 75% increase since 2002. Working with out-of-date numbers may mean that you’re dramatically underestimating how much you’ll need.

People of all ages need to do a lot more to prepare for paying for health care in retirement. Whether you plan to retire tomorrow or 40 years from now, you may be underprepared for the high cost of health care in retirement. Most of us are underprepared. And even those of us who do prepare routinely underestimate what we’ll need to spend. A survey from RBC Wealth Management provide some insight.

According to the poll, 80% of respondents are concerned about the cost of health care in retirement. What is interesting is that only 56% have even factored health care costs into their retirement planning. And those polled grossly underestimated their out-of-pocket health care costs in retirement: they assumed $2,700 per year should be sufficient for an individual, while average out-of-pocket costs are $5,700.

Hmmm . . . that’s a problem.

This week, let’s spend our time together to help develop an appropriate strategy to fix it. This starts with creating a budget for health care costs in retirement that realistically reflects your actual costs.

Factors to consider when developing a budget for health care costs in retirement should include the costs of monthly premiums for Medicare Part B, a Part D prescription plan, and a Medigap supplemental insurance policy, along with more for uncovered drug prescriptions and other expenses. Adjust estimates for inflation – perhaps at 3-4% a year or so.

If you don’t know where to start when it comes to figuring out what you should save for health care costs in retirement, I find the American Association of Retired Persons (AARP) has a handy Health Care Costs Calculator which may help.

It’s also important that your budget accommodates unexpected health care costs. Bear in mind, for example, that Medicare does not cover the costs of dental or vision care. You’re also on the hook for long-term care expenses.

Of course, you may be able to spend less on health care in retirement by maintaining a healthy, active lifestyle and doing whatever you can now to prevent and curtail the effects of age and disease. But let’s face it, your preventative care will only get you so far. You will all need an investment strategy to help accommodate your needs.

One appropriate method to help prepare for health care costs comes in the form of Health Savings Accounts or HSAs. HSAs provide you with a tax-advantaged method to pay for medical services, regardless of your age.

HSAs are a feature of High Deductible Health Plan (HDHPs), a rapidly growing segment of the healthcare market both with employers and the individual health insurance market. HDHP enrollments have increased 400% in the past decade, according to America’s Health Insurance Plans (AHIP). The HSAs associated with HDHPs provide you with a potent vehicle for saving money to pay your health care expenses while deriving plenty of tax benefits in the process.

An HSA provides you with the ability to contribute pre-tax dollars (when deducted from your payroll) to a personal savings account that can be used to pay certain medical expenses, including long-term care insurance and Medicare premiums. The interest earned on the account is tax-free, and distributions are tax-free when used for qualifying medical expenses.

And that doesn’t just include doctor’s visits and prescriptions. You can use your HSA to pay some medical premiums, including long-term care insurance premiums and Medicare premiums. Funds in HSAs do not expire from year to year, and the money rolled over from year to year is counted in addition to the contribution limits.

By the way, if you’re already contributing to an HSA, make sure you’re taking maximum advantage of this resource. Currently, the IRS’ contribution limit for individuals contributing to an HSA is $3,450, and for families, $6,900. The IRS’s new family contribution for 2019 rises to $7,000. The individual contribution limit for 2019 remains at $3,450. If you’re approaching retirement age, you should also be aware that federal rules permit “catchup” contribution of an additional $1,000, for those aged 55 and older – much in the same way you can catch up contributions to 401(k) and IRA accounts.

With good health and appropriate financial discipline, it’s possible to use an HSA to create a significant health savings nest egg.

HSAs only represent one option for investors looking for ways to help pay for health care in retirement. Asset-based Long Term Care Insurance (LTCI) policies can be appropriate for some investors, as well.

An LTCI policy provides payment for long-term care, but what if you don’t need it? Your heirs will receive a death benefit, so you’re not throwing money away if you don’t use it. As with many forms of insurance, you’ll pay less for an LTCI premium the earlier you get it, so work with a retirement specialist to figure out if it’s an appropriate financial vehicle for you.

No matter where you are in your financial lifecycle – the accumulation or the distribution phase – the facts are clear: Health care costs continue to rise and there’s probably no end in sight. What’s more, many of us are living much longer in retirement than we ever did before. So it behooves us all to periodically review our health care budget in retirement and make sure that we’re prepared for the routine and extraordinary costs of health care. Entitlement programs we’ve depended on for decades to help ameliorate those costs are in the sights of many on Capitol Hill.

It’s another good reason why I say that you must be vigilant and stay alert.

Have a great week.

Jeff Cutter, CPA/PFS is President of Cutter Financial Group, LLC, a wealth management firm with offices in Falmouth, Duxbury, and Mansfield. Jeff can be reached at jeff@old.cutterfinancialgroup.com.

Cutter Financial Group LLC (“Cutter Financial”) is a SEC Registered Investment Advisor.

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