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Many people think their health care in retirement will be free or close to it because of Medicare. Here is some bad news for you: Medicare is subsidized, but not free. According to estimates by Fidelity, a single retiree can be expected to pay between $140,000 (men) and $150,000 (women) in health-care related expenses throughout their retirement, starting at age 65. For a couple, the expense is twice as much, close to $300,000. The sooner you learn the basics about Medicare and its likely costs, the more you’ll be able to plan and cover these costs.
The high number may be shocking, but here is how it comes about. The average 65-year-old is expected to live to age 86 or so, and a relatively good fraction (more than a third), will make it to age 90. Over 25 years, the $150K is about $6,000 per year. You add up Medicare premiums and out-of-pocket costs due to deductibles and coinsurance, and you can see that the $6,000 a year becomes a reasonable estimate. The estimate does not mean that a retiree will pay $6,000 year in and year out. The $6,000 is an average a 65-year-old can expect to pay over time. Some years the cost may be much less, while other years much more than $6,000. For planning purposes, however, the $6,000 average is a reasonable starting point.
Given the high cost of health care, it is good to learn about Medicare and plan for these costs well ahead of time. So, here are some of the basics of Medicare, its likely costs, and some considerations to help you decide across different plans. After you read our guide, check out the Medicare and You document, updated every year by Medicare.gov.
Eligibility
To be eligible for Medicare, you must:
- Be 65 or older or disabled;
- Be a US citizen, permanent resident, or legal resident for 5 years or more.
How much you will pay in premiums depends on the number of quarters you have worked and paid Medicare taxes, and whether you submit an application during your initial enrollment window or not. We review some of the costs below.
Initial Enrollment
Before we even learn about the various parts of Medicare, make note of this: Medicare is generally not automatic. You must enroll for medicare A and B during the seven-month period beginning three months before the month of your 65th birthday and ending three months after that. If you don’t sign up during the window, you can use a general enrollment period between Jan 1 and March 31 of every year, and in this case, your coverage starts on July 1 of the year you apply.
The only case in which you do not have to worry about enrollment is if you are collecting Social Security benefits. If you started getting your benefits at least four months before turning 65, you get automatically signed up for Medicare parts A and B.
The penalty for not enrolling in part A and B on time can be steep: a permanent increase in Part A premiums (if any) and Part B premiums of 10% for each 12 month period when the person could have signed up but didn’t. Medicare is an individual plan, spouses enroll separately, and most likely at different times.
Part A: Hospital Insurance
What it Covers: Hospital, skilled nursing facility care, hospice, and home health care.
What is Costs:
- No premium if you worked for more than 40 quarters over your lifetime. A premium applies if you worked for fewer quarters. If you pay a premium, it will also be subject to the late enrollment penalty.
- At the hospital, you are first responsible for a yearly deductible, which is $1,484. Coinsurance is zero for days 1-60; $371 for days 61-90; $742 beyond that, up to “60 lifetime reserve days”; and you bear full cost after that.
- For skilled nursing facility stay, you pay a daily coinsurance of $185.50 for days 21-100; and full cost after day 100.
- For home health care, $0 for services, 20% coinsurance on durable medical equipment.
Part B: Doctor Visits
What it Covers: doctor visits, outpatient surgery, outpatient therapy, ambulance, preventive services, and medical equipment. Medicare covers 100% of preventive services and 80% of the other services.
What is Costs: Most people pay a monthly premium for Part B. The premium depends on your income and when you signed up. The premium is automatically deducted from your Social Security benefit, if you are receiving Social Security. If your income is less than $174,000 (married filing jointly) or $87,000 (single), you pay the standard premium, which is $148.50 a month for 2021. The premium goes up if your income is higher. Every year you first pay until you meet the deductible ($203 for 2021), then you pay the coinsurance amount of 20% for non-preventive services.
The part B late penalty. If you don’t sign up for Part B when you’re first eligible, you may have to pay a late enrollment penalty for as long as you have Part B. Your monthly premium for Part B may go up 10% of the standard premium for each full 12-month period that you could have had Part B, but didn’t sign up for it.
Part C: Medicare Advantage Plans
Medicare Advantage Plans are plans offered by private companies that contract with Medicare to provide Medicare Part A and Medicare Part B benefits to people who enroll in the plan. Most Medicare Advantage Plans also offer prescription drug coverage as part of the plan (see Part D below). The most common plans are HMO and PPO plans. If you’re enrolled in a Medicare Advantage Plan, most health care services are covered through the plan. Some of these plans include vision and dental care as well. However, unlike Original Medicare, which allows you access to any facility that accepts Medicare, these plans limit you to in-network services. Some plans offer out-of-network coverage, but usually at a higher cost.
Use the Medicare.gov tool to compare Medicare Advantage to Original Medicare and shop for plans.
Participants in these plans pay the amount of the Part B premium plus an additional premium and other costs that will vary by plan.
Part D: Prescription Drug Benefits
What it Covers: As the name suggests, Part D helps you cover prescription drug costs. Every plan has a different formulary (prescription list) and how they place different prescriptions into “tiers.” It’s a good idea to shop for a plan that covers your prescriptions at the lowest cost.
What it Costs: The cost may vary depending on how you get the coverage, and when you get it. It’s important to apply when you first become eligible for Medicare Part A to avoid any late penalties. There are two ways to get Part D benefits:
- Buy a Part D plan to add to your Part A and Part B plan. These are plans offered by insurance companies.
- Buy a Part C plan above that has prescription drug benefits. You can evaluate different plans here.
More letters: Medigap Plans
Medigap plans are optional, supplemental plans that can help cover certain gaps in Medicare (hence the name). Medigap policies are standardized and are sold by private insurance companies under different letters, from A for the most basic plan to N (yes, an additional alphabet with a few letters missing because some plans have been discontinued). The most common benefits are reimbursement of the coinsurance under Part A, coinsurance under Part B, and all hospital expenses covered for an additional 365 days. You can compare the different plans on medicare.gov, and shop using the medicare.gov tool. The best time to buy a plan is in the six-month period that starts the month when you turn 65.
HSA and Medicare Planning
One of the best ways to plan for health care expenses in retirement is a health savings account or HSA. You can make pre-tax contributions to the HSA before age 65 and tax-free distributions for health care expenses. When you enroll in Medicare, you can use HSA distributions tax-free to pay for Part B premiums, Medicare Advantage costs (Part C), a prescription drug plan (Part D), long-term care insurance, and Medicare expenses such as copayments and deductibles. HSA distributions cannot be used to pay premiums for Medigap policies.
Making a Decision
There is no one right solution when it comes to choosing a plan for health care in retirement. The best plan for you depends on your particular health condition and overall financial picture. The first step is to review your current use of health care services, including how often you see a doctor and your current prescription drug use. With this information, you can estimate likely costs under different plans, taking into account premiums, deductibles, coinsurance, and out-of-pocket limits. All these may vary by plan. (Check out this survey by the Kaiser Family Foundation to learn more about likely healthcare costs in retirement.)
Original Medicare does not include vision, dental, or hearing care, so you have to factor in potential costs for these services. Many Medicare Advantage plans include these services. Original Medicare gives you more freedom to choose doctors while Medicare Advantage plans restrict you to their network, so make sure your doctor is in the plan before you choose.
You can compare expected costs for original medicare, original medicare and Medigap, and Medicare Advantage plans.
If you need the flexibility to see doctors in different areas, maybe because you travel or you live in different parts of the countries in winter and summer, then original medicare offers that option. Original Medicare has relatively low monthly premiums. However, the low monthly premium comes with coinsurance and copays, and potentially no out of pocket limits, which can mean high costs for extended hospital stays and frequent doctor visits.
If you want more predictable costs with out of pocket limits, and maintain the flexibility of visiting different providers, then you should consider a Medigap plan in addition to Original Medicare. The monthly premiums on Medigap plan varies a lot by plan so you should shop and compare.
On the other hand, if you stay in the same area most of the time and you plan to see providers within your network, you can consider a Medicare Advantage plan. The key advantage of these plans is more predictability in out-of-pocket costs, out-of-pocket limits, and typically lower premiums.
Deciding between more predictable costs and higher premiums vs. lower premiums and higher out-of-pocket costs depends on your health, your financial situation, and your preferences. Do a budget and see what costs make more sense for you. Do you have a good safety net that you can tap into in case of unexpected health expenses? If you are in good health you may decide to go for the lower premium options. It may be wise to keep the money you save with the lower premium in an emergency fund that you keep for unexpected health expenses. Keep in mind that you can make changes over time during open enrollment windows as we describe below.
Open Enrollment Periods
If you are newly eligible for Medicare because you are in the 7-month window around your birthday month, you can apply for Medicare. That’s your initial enrollment period, which we describe above. After that, you can make changes to your plan every year during open enrollment periods.
Medicare Open Enrollment From October 15 – December 7 each year, you can join, switch, or drop a plan. You can go from Original Medicare to a Medicare Advantage Plan and vice versa, or change between Medicare Advantage plans. During this period you can also join a Medicare drug plan (Part D) if you didn’t have one before, or switch from one Part D plan to another. Your new coverage will begin on January 1.
Medicare Advantage Open Enrollment Period This period only applies to participants enrolled in a Medicare Advantage plan. From January 1 – March 31 each year, if you’re enrolled in a Medicare Advantage Plan, you can switch to a different Medicare Advantage Plan or switch to Original Medicare (and join a separate Medicare drug plan) once during this time. During this period you cannot switch from Original Medicare to Medicare Advantage, or join or change a Medicare drug plan.
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Given the importance of health care, it is important to start early and make the costs part of your retirement plan. Here are some suggestions to help you plan.
- Project likely needs and costs. If you are far from retirement, you may start with the average estimates above ($5,000-$6,000 per year after age 65). You may want to adjust upward if your income is higher to account for higher part B and part D premiums. If you are closer to age 65, we recommend starting with likely use of health care services based on your current experience, and compare different plans. Your trusted financial advisor should have tools to help you make a cost determination.
- With the estimate from 1, compute how much you will need to spend over time, then plan to save towards it. The best vehicle for health care expenses in retirement is an HSA account, which, if properly funded, could cover all your needs by the time you turn 65.
- When you get to making a plan selection, you will be able to evaluate costs and benefits for your particular situation, and make the most cost effective decision for you.
Until Next Time!
Massi De Santis is an Austin, TX fee-only financial planner. DESMO Wealth Advisors, LLC provides objective financial planning and investment management to help clients organize, grow, and protect their resources throughout their lives. As a fee-only, fiduciary, and independent financial advisor, Massi De Santis is never paid a commission of any kind, and has a legal obligation to provide unbiased and trustworthy financial advice.
