Health care is one of the biggest costs you will face in retirement. In fact, by many estimates, it’s the biggest cost to retirees. A representative study by Fidelity found that a 65-year-old couple in 2022 will need more than $315,000 to cover their retirement healthcare expenses. That’s after-tax, so if you plan to withdraw that money from a 401(k) or other taxable account, that’ll likely mean about $362,000 in overall savings. With that kind of money at stake, planning for your health care costs in retirement is essential. To help you plan how you will pay for health care in retirement, consider work with a financial advisor.
How the costs will change
With retirement planning, when it comes to health care costs, time is and is not on your side.
The good news is that health care costs tend to rise later in life. For most retirees, this means the bulk of their expenses will come later in retirement, giving you extra years to save. Absent individual circumstances, you can usually plan on an extra decade to build your medical savings before the costs really start to ramp up. That means you don’t necessarily need all of that $362,000 at age 65, although you should be on the right track by then.
The bad news is that health care costs are rising rapidly overall, sometimes up to 5% per year. This is especially bad news if you are young. For people in their 20s, 30s, and even 40s currently saving for retirement, your numbers are almost certain to be much higher when you hit your 60s and 60s. Be prepared for this, because if you’re planning to fund a retirement in 2062 based on 2022 numbers, you’re in for a nasty surprise.
Basics of health insurance
For most retirees, their greatest asset will be the Medicare program. It is therefore important to understand how this program works and how it can benefit you.
Specifically, as retirement approaches, it is important to understand what Health Insurance covers and does not cover. For example, Medicare Part B covers much of what we consider standard medicine, such as outpatient doctor visits, medical devices, and similar care. As premiums and associated costs have increased for all Medicare services, Part B has become notably more expensive. As you expect to spend more time at the doctor’s office, you should budget for it in your expenses.
Or consider long-term care needs. Medicare rarely covers long-term care such as assisted living facilities. If you or your doctor think you might need this type of service in the future, it’s important to start saving now. You’ll have to cover these expenses yourself, so it’s wise to have some savings well committed.
Basics of individual insurance
As a corollary to understanding Medicare, it is important to know if you will need private insurance to supplement the government plan. Many, if not most, retirees rely on Medicare as their only form of health insurance. However, if your needs significantly exceed what Medicare provides, you may need a private health insurance plan to supplement this coverage. This is something to start studying early, because the sooner you sign up, the better.
As you begin your retirement, start talking to your doctor about your likely long-term needs. Often, your doctor can see warning signs of conditions that won’t show up until later in life, so you can start planning for those needs today. If you need additional insurance, it’s a good idea to start looking for it early.
Benefits of HSAs
An HSA, or “Health savings account,” is a form savings account focused on health expenses.
It works a bit like a 401(k) merged with a Roth IRA. Your HSA is an investment portfolio. You can make contributions to this portfolio tax-free up to an annual limit set by the IRS. You can then make withdrawals from that account which are also tax-free as long as you spend that money on health care and medical expenses.
A health savings account can be a fantastic savings vehicle for healthcare expenses. The problem is that their access is extremely limited. To qualify for an HSA, you must be enrolled in a qualifying high-deductible health insurance plan. This puts HSA accounts out of reach for current retirees, who are eligible for Medicare. It also creates a catch-22 for most other savers. Although an HSA is a great way to save money for medical expenses, a high-deductible plan is generally a bad idea for all but particularly young and healthy people.
If you’re 25 and have the ability, sign up for a high-deductible plan and save money for the future. For everyone else, if you have the option of signing up for a better insurance plan, you should. Then save money for healthcare costs in a standard full-tax wallet.
Create a dedicated account
Whether or not you can access an HSA, you can still create a dedicated healthcare portfolio.
The IRS offers several different options for investing in retirement, from IRAs and 401(k)s to even the relatively rarely known Roth 401(k). The accounts you are entitled to vary depending on your employment status. But whether you open a tax-efficient retirement account or just a dedicated portfolio, you can always build a dedicated pool of healthcare funds.
By separating your income portfolios from your medical portfolios, you can avoid the overlap of the two funds. You can review a section of your finances and plan specifically what day-to-day life will cost. This is the portfolio you will draw from each month to replace your income once you stop working. Then you can look at another section of your finances and specifically plan for the cost of health care. By separating the two, you can track each specific pool of savings and avoid the risk of overestimating your own funds.
Plan to adjust your expenses
Unfortunately, this is the reverse of health expenditure planning in retirement. It’s always wise to set aside lifestyle expenses that you can cut back on if needed. Health is a unique form of expense in that you ultimately have very little flexibility to set your own budget. Biology does not negotiate so, at some point, these costs will become necessary. Although you can avoid some quality of life treatments, you will eventually need certain procedures and medications, which means you will have to spend that money.
Ideally, you will have more than enough cash on hand for health care expenses. But just in case your savings are insufficient or you incur an unexpected expense, it’s worth planning how you can make cuts elsewhere. If all goes well, it will be a bit of unnecessary planning. If not, at least you won’t have to struggle with a hefty bill.
The essential
Health care is the largest expense item for many retirees. It’s wise to start planning this part of your budget early, before you retire. Once you’ve started your retirement, it’s a good idea to continue monitoring this part of your savings.
Health Tips
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Let’s continue talking about health insurance. It is one of the most popular, but also the most complicated, programs offered by the government. But if you want to plan for your healthcare expenses in retirement, it is essential to understand Medicare inside out.
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A financial advisor can help you plan how you will pay for health care in retirement. Finding a qualified financial advisor doesn’t have to be difficult. Smart Assets free tool connects you with up to three financial advisors who serve your area, and you can interview your advisors at no cost to decide which one is best for you. If you’re ready to find an advisor who can help you achieve your financial goals, start now.
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