Planning for Retirement? Don’t Forget Health Care Costs

Retirement savings
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Retirement savings

It’s not news that health care costs are increasing. Yet several recent studies show that few people factor those rising costs into their retirement plans.

Consider this example from an annual report from Fidelity Investments: For a 65-year-old couple retiring this year, the cost of health care in retirement will be $240,000, 6 percent more than that same couple retiring in 2011 would pay. The report assumes that the man will live 17 years and the woman 20. (Read More: Retirement Savings Improve, but Not Enough.)

“Most people don’t realize Medicare covers much less than traditional employer plans,” Sunit Patel, senior vice president in Fidelity’s benefits consulting group. “The $240,000 number captures the Part B premium for physician services, Part D for prescription drugs. Then there are deductibles and coinsurance, and benefits that are not covered like vision exams, hearing aids.”

Another study, this one from Nationwide Financial, found that people who were near retirement routinely and wildly overestimated the percentage of health care costs covered by Medicare. It covers only 51 percent of health care services, according to the Employee Benefit Research Institute.

Robert L. Reynolds, president and chief executive of Putnam Investments, which has its own study, bluntly summed up the situation at a recent news briefing. “It makes no sense at all to talk about retirement savings or lifetime replacement income without talking about health care expenses,” he said.

A calculator developed by Putnam, called the Lifetime Income Analysis Tool, shows people not only how much they have saved, but also, starting next year, how much they need to save depending on their health (cigarette smokers with diabetes need to save the least because their life expectancy is the shortest) and where they plan to retire (Louisiana is the cheapest, Alaska the most expensive) so they can live at their same income in retirement. (Read More: 7 Costly Retirement Mistakes to Avoid.)

Moving to cheaper and possibly warmer climates is something many retirees naturally do. But while someone may be willing to move to Florida to reduce state taxes and avoid the ice and snow of the north, most people have so little awareness about the costs of health care in retirement that those costs are probably not a driving factor.

Carol and Richard Bechtel had worked in the San Jose, Calif., area, she for Stanford University and he at various technology companies. When it came time to retire in 2006, they put a lot of thought into where they wanted to live. They picked a community in Fairfield Glade, Tenn.

Cost of living was a factor. They were able to sell their home of 37 years in San Jose, pay cash for a house on a golf course, and still have money left over to put in their retirement account. Quality of life also mattered. By their account, the Bechtels are thoroughly enjoying their new community and friends. Mr. Bechtel found a hangar close to their home for his airplane, and they are closer to their son and three granddaughters in Wisconsin.

But when it came to knowing their health care expenses in retirement, they were pretty typical: they had to check on what the exact costs were. Their premiums, between Medicare, a supplementary policy through Stanford and a dental plan, will cost them $9,058.80 this year. That is a whopping 14 percent increase from the same policies in 2011. And that number does not include any out-of-pocket medical expenses, like co-payments or the costs of over-the-counter medications.

“Health premiums are probably one of our biggest expenses,” Mrs. Bechtel said.

Yet Mrs. Bechtel was not complaining. She said her Stanford-sponsored plan was excellent and it had given them freedom to choose the doctors they wanted, particularly for her husband, who had some health problems recently.

“Our premiums are small compared to what our bills would be,” she said. “It really makes us realize how great my Stanford benefit is. It covers everything. I worry a little bit how Medicare may change.”

While most retirees pay for insurance that supplements what Medicare pays, how comprehensive and open each plan is varies. But the fear that they will not be able to choose the doctors or care they want drives some wealthier people to set up separate accounts for health costs.

Faith Xenos, chief investment officer for Singer Xenos Wealth Management near Miami, said she counseled clients to set aside 5 percent of their annual budget for health-related costs and deductibles. (If they don’t spend it, she tells clients to use the money to do something healthy.)

“Let’s all acknowledge insurance doesn’t cover everything,” she said. “We have this idea from years back that once you get your Medicare or your retirement benefits package that everything is covered.” That is not the case.

She added: “Everyone wants the best drugs, and those might not be the ones your policy covers. They might cover a drug but that might not be the one you want.”

For people wanting to retire before Medicare starts at 65, she advises buying a high-deductible plan and using a health savings account to cover some of the out-of-pocket expenses.

Then there’s the issue of long-term care insurance. Various studies estimate that the percentage of people who reach 65 and will need long-term care is 30 to 50 percent.

A separate study done by Fidelity in 2008 put the cost of one year of care at $76,000 and said that 50 percent of couples retiring in 2008 would need at least one year of long-term care, and 20 percent would need up to five.

“The question is, ‘Are you going to pay for that out of your current assets or are you going to get a long-term care policy?’ ” said John L. Hillis, president of Hillis Financial Services in San Jose, Calif. “These policies can be very expensive, and a lot of companies are getting out of the product because the insurance companies aren’t making any money off of it.”

Mr. Hillis speaks from experience: his stepmother lived to be 99 1/2 and ended her days in a nursing home. He said her health care expenses were about $10,000 a month. But even when he tells clients this story, few are inclined to buy the insurance.

“It’s really what’s important to you,” Mr. Hillis said. “Do you want to protect a portion of that money or is it, ‘I accumulated this money and part of it is to take care of me in my later years.’ ”

In the case of the Bechtels, who are Mr. Hillis’s clients, Mrs. Bechtel said they did not buy long-term care insurance because of the high cost. She plans to take care of her husband, who is 81 years old. She is 68.

“I don’t know how difficult that will be,” she said. “I don’t know what I’ll do about me. I figured I won’t worry about that yet.”

While the cost is certainly a factor in not buying long-term care insurance — Ms. Xenos said she had seen annual premiums for a couple as high as $20,000 — another reason is that many people simply don’t want to think about something unpleasant: ending their days not in control of their own lives.

“The people I see buying long-term care insurance are the children, for their parents,” Ms. Xenos said. “They don’t want to see their inheritance dissipated by long illnesses that are hard to pay for. And they say, ‘I’d rather deal with the annual premium than my parents dissipating their assets.’ ”

With that kind of outlay, the children had better be sure that they are the beneficiaries — and that their parents don’t spend all the money on themselves.