Thanks to modern medicine, people are living increasingly longer lives. But with the benefits of longevity come the higher costs of a longer retirement – including the rising cost of health care.
Many experts are projecting the cost of health care will increase at more than twice the rate of inflation for the foreseeable future. As these rising costs continue to weigh on employers and the government, individuals will bear more of the financial burden. That’s why it’s important to take health care expenses into account now as you plan for your retirement.
If you’re worried about being able to afford adequate health care during retirement, you’re not alone. Concern about the cost of health care is near the top of the list for many retirees, according to the Society of Actuaries’ 2007 Risks and Process of Retirement Survey. Other top concerns include the effect of inflation on their savings and not being able to maintain a reasonable standard of living.
The First Command Financial Behaviors Index reveals that nearly three out of four middle-class Americans are at least somewhat concerned about healthcare costs in retirement, with those closest to retirement expressing the most concern. Respondents predict they will need more than $100,000 above traditional retirement savings to cover health care costs during retirement. While significant, this estimate is a fraction of the out-of-pocket expenses Americans will likely face in retirement.
It’s a common assumption that your living expenses will be lower once you stop working. And many of your expenses are likely to decrease. But sharp increases in health care costs could actually make your overall living expenses higher during retirement.
Not all employers provide their retirees with a subsidy for health insurance coverage. And, even if you or your spouse will have coverage through your employer, you will probably be responsible for premiums, deductibles and copayments amounting to substantial out-of-pocket expenditures.
What about Medicare? Medicare provides coverage starting at age 65. So, if you plan to retire early, keep in mind that you won’t be eligible right away. Once Medicare does kick in, it won’t take care of all of your health care needs. Current premiums for Medicare Part B, the average for Medicare Part D and the maximum out-of-pocket drug costs before Medicare Part D begins paying 95 percent of drug costs total $5,842 per year.
What does this mean for someone retiring today? Assuming a 5 percent return on savings and an average premium increase of 3.7 percent (the Part B increase rate through 2016), an individual retiring at age 65 today and living to age 100 would need an estimated $166,000 to meet these expenses. For a couple, the figure doubles to $332,000.
The actual need could be considerably higher. In a May 2008 study, the Employee Benefit Research Institute employed a Monte Carlo simulation model to estimate the savings needed to fund health care costs in retirement. The Institute determined that a couple who retired in 2008 at age 65 would need $635,000 in savings to cover Medigap premiums, Medicare Part B and Part D premiums and out-of-pocket drug expenses. And a couple retiring in 2018 at age 65 will need more than $1 million (see chart titled “Savings needed to fund health care costs in retirement”).
While illuminating, these estimates alone should not be used to set savings goals for health care expenses in retirement. Your individual needs are contingent on many factors, including:
• Age at retirement
• Life expectancy at retirement
• Availability of health insurance in retirement
• Health of the retiree
• Health care cost rate increases
• Interest rates
• Rate of return on investments
• Public policy changes
Perhaps the greatest challenge in planning for health care expenses in retirement is uncertainty. Lifespan is uncertain. Health care cost increases are uncertain. Inflation is uncertain. Interest rates are uncertain. And health status is uncertain.
As workers and retirees become increasingly responsible for their own retirement, the risk of uncertainty will make the planning process increasingly complicated. First Command is ready to help. Our Financial Advisors have the tools and expertise to help you estimate how much you should set aside to cover medical expenses in retirement. By making sure you take into account the higher costs of medical expenses, your Financial Advisor can help you better prepare now for the standard of living you desire for your retirement years.
First Command Financial Planning, Inc. (Member SIPC, FINRA).