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Health care is an even bigger part of retirement planning

  • Longer lifespans and rising prescription costs are two big reasons retiree health-care costs are expected to skyrocket.
  • Health savings accounts for people with high-deductible insurance plans are becoming an important component of retirement savings plans.
  • Long-term care insurance can help retirees avoid dependence on relatives.

Martin Barraud | OJO+ | Getty Images

Surging projections of what retirees can expect to spend for health care are focusing attention on retirement health costs. A 2016 Fidelity study said a typical retired couple will have $260,000 in out of pocket health-care outlays, up from $220,000 in 2014. Long-term care could add another $130,000.

As anticipated costs for retiree health care have risen, the topic has increasingly become a focus of retirement planning. "If we don't help them plan for health care, we're missing a big piece of retirement," said Barbara Delaney, founder of StoneStreet Advisor Group.

Longer lifespans and rising prescription costs are two of the biggest reasons for the higher projections. And factor key factor is the age at which the average retiree leaves the workforce, which is too young to qualify for Medicare.

"Gaps are certainly of special concern to those considering early retirement, since they are eligible for Social Security benefits at 62, but must wait until age 65 to receive Medicare," said Kimberley Foss, a certified financial planner and founder of Empyrion Wealth Management.

Retirees of any age may incur out-of-pocket costs due to the "donut hole" in Medicare Part D prescription drug coverage. This coverage gap currently affects people who have out-of-pocket costs of more than $3,700 on covered prescriptions. It requires individuals to pay up to 51 percent of drug costs over that amount, which can be costly for people on long-term prescriptions.

Foss says effectively planning potential retiree health costs requires starting early to investigate the ins and outs of Medicare Parts A, B and D, as well as supplemental or Medigap insurance. "The coverage structures can be very complicated, and the more informed consumers can be about the various options, the better decision they'll make when the time comes," she said.

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About 12 million Medicare-eligible retirees also have Medicare Supplemental coverage or Medigap, according to a 2016 report by consulting firm Gorman Health Group. That number has risen from nearly 10 million in 2011. This coverage, which is available from private insurers, helps pay for the up to 50 percent of medical costs not covered by Medicare Parts A and B in exchange for premiums of around $150 a month.

Health savings accounts are assuming greater prominence in retirement planning as anticipated retiree health costs rise. The accounts, which are available to working people enrolled in high-deductible health insurance plans, can be used to sock away funds pre-tax and use them before or after retirement to pay for covered medical expenses.

Unlike many retirement plans, HSA funds are portable and can travel with workers as they move between jobs. Also unlike retirement plans, HSA funds avoid current taxes and can also be spent tax-free for eligible medical expenses. Funds in HSAs can be invested like individual retirement account or 401(k) plan funds.

Because of their flexibility, portability and tax advantages — and rising projections for retiree health costs — StoneStreet's Delaney says she's focusing more on HSAs as a retirement planning tool.

"If your company has an HSA, considering funding your HSA plan instead of a 401(k) plan," she said. "That's something you would have never heard me say five years ago."

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Long-term care costs are another issue. This may be addressed by acquiring long-term care insurance.

"Long-term care insurance can address one of the biggest worries retirees have: being able to manage a long-term illness or disability without becoming dependent on their children," said Foss at Empyrion.

Long-term care is not inexpensive. Fidelity's estimate for $130,000 in retirement long-term care costs is for a healthy 65-year-old couple who purchase a policy paying up to $8,000 monthly, adjusted for inflation, for up to three years of nursing home or other long-term care.

Delaney at StoneStreet says that insurers are backing away from offering long-term insurance, so it may be wise to buy now. "If you don't have it, you need to get it before they stop underwriting it," she advised.

Because the average retirement age is 62, three years before most people are Medicare-eligible, timing retirement is part of managing retirement health costs. Retirees under age 65 are responsible for acquiring their own insurance. Many will have been covered by employer-sponsored health plans. COBRA allows an ex-employee to keep an employer-sponsored plan after leaving employment, but premiums can be expensive. So if someone plans to retire before becoming Medicare-eligible, those added costs will need to be considered.

"Long-term care insurance can address one of the biggest worries retirees have: being able to manage a long-term illness or disability without becoming dependent on their children." -Kimberly Foss, founder of Empyrion Wealth Management

Because of the rapidly rising cost of retiree health care, financial advisors are also recommending people take action to improve their actual health as well as their financial health. "The better your general health, the less you're going to have to spend for medical care, both now and later," said Foss at Empyrion.

While the degree of future retiree health cost increases is unclear, it's likely that recent trends will continue and those costs will continue to rise. Foss says questions about the ultimate fate of the Affordable Care Act, or Obamacare, make it difficult to forecast even the near term.

Delaney says one potential positive can be found in proposals to increase the amount that most families can contribute to tax-advantages HSAs from $6,750 a year currently to $14,000.

For the moment, retirees interested in knowing more about their projected costs in today's circumstances can run their age, planned retirement age and general health through an online Fidelity calculator. That will generate an estimate of their retirement health-care costs for use in planning.

— By Mark Henricks, special to CNBC.com

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