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The biggest retirement expense you may not be ready for

Even with Medicare, medical costs could put you at risk of outliving your savings. Here are some ways to help prepare for future out-of-pocket healthcare expenses.

 

“YOU COULD CALL HEALTHCARE the biggest retirement expense people fail to plan for,” says Ben Storey, director, Retirement Research and Insights, Bank of America. “Many folks just assume Medicare is going to pay for everything, but in reality, it only covers about two-thirds of your costs,” he adds.

 

Premiums, out-of-pocket expenses and critical services not covered by Medicare can deplete your retirement savings. In fact, a healthy 65-year-old couple who retire in 2022 will likely use 71% of their lifetime Social Security benefits to cover their medical costs in retirement.1 Yet only 52% of Americans 55 and older surveyed recently by Civic Science2 said they were actively making plans for these costs.

 

“Retirees counting on Social Security to supplement their retirement income are often surprised to learn that most of it may need to be used for healthcare,” notes Storey. “Your financial advisor can help you estimate and develop a strategy to save for those costs.” Consider these five questions as you work together to develop a plan to help you cover all of your retirement expenses.

How much could medical expenses cost me in retirement?

“Many folks just assume Medicare is going to pay for everything, but in reality, it only covers about two-thirds of your costs.” 

— Ben Storey, director, Retirement Research and Insights, Bank of America

Premiums, copays and deductibles can add up. It’s estimated that the average 65-year-old couple who retires in 2022 will need about $315,000 to cover out-of-pocket medical expenses in retirement — and the costs of most dental services, over-the-counter medicines and long-term care are not included in that figure.3 What’s more, healthcare costs have been increasing at one-and-a-half to two times the rate of inflation4 — a 55-year-old couple today could expect to pay more than $930,000 for healthcare costs during their retirement.5

 

Such a large amount may put you at risk of outliving your retirement savings, notes Storey. Your advisor can walk you through what Medicare does — and doesn’t — cover, estimate how much you may need to save for future healthcare costs and develop a plan to help you get there. As you estimate your costs, says Storey, consider factors such as your current health, your family’s health history, where you’ll retire (medical costs can vary across the country) and whether your employer offers retiree health coverage.

What does Medicare cover, and how much does it cost?

Deciphering the alphabet soup of Medicare parts A, B, C and D isn’t easy. See the chart below for an overview of what’s covered and how supplemental plans can help.

 

Medicare plans at a glance

What the five major types of Medicare plans cover and how your costs can vary

Medicare Plan

Coverage

Out-of-pocket costs
Part A
(hospital insurance)
In patient hospital, skilled nursing, home and hospice care Deductibles, coinsurance and copays
Part B
(medical coverage)
Doctors' visits, outpatient care, other medical services Monthly premiums, deductibles, coinsurance and copays
Part C
(Medicare Advantage)
Private alternative to Parts A, B and D, plus optional benefits; network limits common Variable costs determined by insurer
Part D
(prescription drugs)
Brand name and generic drugs Monthly premiums, deductibles, coinsurance and copays
Medicare Supplement Insurance (Medigap) Paired with Parts A and B to help with some of the costs those plans don't cover Monthly Premiums

Source: Medicare.gov

Medicare plans at a glance

What the five major types of Medicare plans cover and how your costs can vary

Medicare Plan
Part A
(hospital insurance)

Coverage
In patient hospital, skilled nursing, home and hospice care

Out-of-pocket costs
Deductibles, coinsurance and copays

Medicare Plan
Part B
(medical coverage)

Coverage
Doctors' visits, outpatient care, other medical services

Out-of-pocket costs
Monthly premiums, deductibles, coinsurance and copays

Medicare Plan
Part C
(Medicare Advantage)

Coverage
Private alternative to Parts A, B and D, plus optional benefits; network limits common

Out-of-pocket costs
Variable costs determined by insurer

Medicare Plan
Part D
(prescription drugs)

Coverage
Brand name and generic drugs

Out-of-pocket costs
Monthly premiums, deductibles, coinsurance and copays

Medicare Plan
Medicare Supplement Insurance (Medigap)

Coverage
Paired with Parts A and B to help with some of the costs those plans don't cover

Out-of-pocket costs
Monthly Premiums

Source: Medicare.gov

 

With so many options to choose from, many retirees end up purchasing more coverage than they need.6 Weighing these options is an important decision as you approach retirement, notes Storey. You’ll be automatically enrolled in Parts A and B when you turn 65 if you’ve already begun claiming Social Security. But if you’re still working and covered under an employer’s plan at that age, you might want to consider opting out of Plan B and avoiding those premiums until you need the coverage.

 

Premiums, which are set annually, are tied to your modified adjusted gross income — something to keep in mind if you’re thinking of a taxable Roth IRA conversion or a sale of highly appreciated stock options in a single year. Your financial advisor can provide insights on how these options might have an impact on your income, says Storey. For more specifics about coverage, costs, information on deadlines and where to sign up, visit medicare.gov.

What if I retire before I’m eligible for Medicare at age 65?

Unless your employer offers retiree coverage, you’ll need to consider alternate options for staying covered until Medicare kicks in. You could stick with your employer’s insurance plan under COBRA (the Consolidated Omnibus Budget Reconciliation Act) for up to 18 months, but your premiums will be considerably higher than they were. Other possibilities include coverage under a spouse’s plan or buying coverage through the health insurance marketplace or a private insurer.

What about my future long-term care needs?

“Long-term care insurance can help improve the chances that your savings will last through your full retirement.”

— Joe Justice, managing director, retirement product executive, Bank of America

Even with all the medical coverage available through Medicare, there’s one element that falls through the cracks — the cost of long-term care. Someone turning 65 today has a nearly 70% chance of requiring some long-term care during their lifetime.7 Considering that a private room in a nursing home can cost upward of $100,000 per year,8 “savings can get eaten up pretty quickly,” notes Joe Justice, managing director, retirement product executive, Bank of America. “Long-term care insurance can help improve the chances that your savings will last through your full retirement.”

 

But here’s the rub: If you haven’t purchased it by the time you’re in your 60s, the premiums on traditional long-term care policies may be out of reach. Other options to consider include hybrid life insurance/long-term care policies, which are designed to provide long-term care coverage as well as cash value you could tap. In addition, some life insurance policies have a long-term care rider that can provide coverage. The sooner you consider your needs, the more options you’ll have, says Justice. 

Are there other ways to prepare for healthcare costs in retirement?

You could simply increase the amount you save in your 401(k) or other retirement accounts. “But a health savings account (HSA), with its triple tax advantages, is a particularly powerful way to save for medical expenses,” says Storey. With an HSA, you won’t owe income taxes on your contributions, earnings grow tax-free, and withdrawals for qualified medical costs are tax-free.

 

To qualify for an HSA, you must have a high-deductible health plan, not be covered by any other medical plan and not be enrolled in Medicare yet. Opening an HSA could help you accumulate critical additional funds to pay for eligible expenses in retirement, including long-term care services and insurance premiums. Once you enroll in Medicare, though you can no longer contribute to your HSA, you can use the funds you’ve saved to cover most out-of-pocket medical expenses and Medicare premiums (Medigap Supplement Insurance premiums are an exception).

 

Either way, “the more you can earmark for healthcare as you save for retirement, the better,” Storey sums up. Doing so is good for your financial health in retirement.

 

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1HealthView Services, 2022 Retirement Healthcare Costs Data Report, March 2022

2Civic Science, June 2022.

3Fidelity Investments, 2022 Retiree Health Care Cost Estimate, May 2022

4HealthView Services, 2021 Retirement Healthcare Costs Data Report.

5HealthView Services, 2022 Retirement Healthcare Costs Data Report, March 2022

6National Council on Aging, “Choice Error: How Choosing a Medicare Plan Could Impact Your Finances and Health,” 2021.

7U.S. Department of Health and Human Services, “How Much Care Will You Need?” 2020.

8Genworth,  “Cost of Care Trends and Insights,” 2022, February 2022

 

Long-term-care insurance coverage contains benefits, exclusions, limitations, eligibility requirements and specific terms and conditions under which the insurance coverage may be continued in force or discontinued. Not all insurance policies and types of coverage may be available in your state.

 

Life insurance policy guarantees  are backed by the claims-paying ability of the issuing insurance company. They are not backed by Bank of America, Merrill or its affiliates, nor does Bank of America, Merrill or its affiliates make any representations or guarantees regarding the claims-paying ability of the issuing insurance company.

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