The Role That HSAs Can Play Meeting Retirees' $361,000 Spending Projection
by your Health Savings Academy | Originally posted here
A recent estimate projects that a retiring couple with high medical expenses will pay more than $360,000 in retirement medical costs. How can they get the greatest bang for their buck?
It doesn't get much more sobering than this: The Employee Benefit Research Institute projects that a couple retiring today with high prescription-drug expenses will need to save $361,000 to meet their projected retirement medical expenses with a high degree of confidence.
That's a challenge for most Americans. Compounding the issue is that many Americans - even those approaching traditional retirement age - don't understand the effect that out-of-pocket medical expenses will have on their retirement budget. Those expenses range from Medicare premiums to out-of-pocket charges for deductibles, coinsurance, and copays. And that figure doesn't include the Medicare Supplement plan that enrollees in traditional Medicare must purchase to avoid the unlimited 20% coinsurance on all outpatient services.
Source of the Figures
EBRI is one of the most respected and accurate research organizations dedicated to the study of various employee benefits. It annually projects how much Americans will spend in retirement for health-related care. Unlike the more widely published annual Fidelity projection, which forecasts how much the average couple retiring at age 65 will spend on these expenses during the remainder of an average lifespan, EBRI breaks down the retiree population based on general health status and calculates confidence levels. In simple terms, it projects costs for healthy and less-healthy retirees separately, then determines the appropriate spending figure with a 50% and 95% confidence level.
The $361,000 figure is up $36,000 from the 2020 projection. That's due in large part to a spike in monthly Medicare Part B premiums from $144.50 to $170.10 (the minimum premium - higher-income enrollees pay more) in 2022.
Paying for Retiree Medical Care
There are two ways that most Americans will pay their retiree medical expenses: from current income or savings.
Current income is easier in one sense because it requires no prior sacrifice of consumption. In other words, it's more fun to spend 100% of your disposable income in the present than it is to commit, say, 15% of your income to savings for a future emergency or time when you no longer wish to, or can, earn income through your labor.
The problem with funding Medicare out-of-pocket expenses with current income is that, by definition, you must continue working for the rest of your life. That's not an appealing prospect to most Americans. And it's hardly a realistic possibility for most at some age - particularly those with high prescription expenses (remember, they're the ones paying $361,000 on average) that usually reflect underlying medical conditions that would prohibit gainful employment.
Yes, Social Security mimics a paycheck. But the average Social Security benefit is about $20,000 annually in 2022, or about $40,000 for a couple. If you divide $361,000 by roughly 40 more years of a couple's lifespan after age 65 (21 or so for women and 19 or so for men), the math comes out to $10,000 per person per year. Of course, this spending may not be linear (for example, it may start out at less than $10,000 annually and increase with age). On average, though, medical and other health-related costs (excluding long-term care) will average about $20,000 annually against an average Social Security benefit of $40,000.
Yes, Social Security is indexed for inflation. But don't expect these increases to help your retirement budget, as medical prices have risen at about twice the rate of inflation since Medicare launched in 1965. And price is only half the equation (units purchased, which usually increases with age in what the study defined as a sicker subpopulation, is the other).
Saving for retiree medical expenses is the alternative to continuing to work and spending current income. Many Americans are saving for retirement - though not enough are, and most are doing so at rates far too low to maintain a semblance of their current lifestyle. But savings is the way that most of us will meet retirement expenses.
Account Options
If you're planning to save for medical expenses that you expect to incur during retirement, you have three options:
Tax-deferred accounts. By far the most popular retirement option is the tax-deferred 401(k) plan (or equivalent) and tax-deferred Individual Retirement Arrangement. These accounts are popular because contributions are made free of federal and state income taxes (although the 7.65% federal payroll taxes apply).
The problem with tax-deferred accounts is that eventually you must pay taxes. After all, they're tax-deferred, not tax-free. And the taxes apply to your accumulated balances, including earnings on the savings. Imagine a $1 contribution that's subject to payroll taxes, but not income levies, so less than 93 cents is deposited. That amount quintuples over time to $4.62 with your shrewd investments. If your combined federal and state income tax rate is 20% when you withdraw the funds, you have $3.70 left to spend on medical care.
Roth accounts. These accounts are funded with after-tax dollars. Withdrawals are then tax-free. The problem is that your $1 contribution is subject to taxes, so perhaps 75 cents goes into the account. When it quintuples over time, it grows to $3.75, which you can then withdraw to reimburse your medical expenses.
Health Savings Account. These accounts are tax-perfect. No taxes are applied to the contribution, so the full $1 goes to work immediately. It grows to $5 over time. When you withdraw the funds to pay for medical care, the distribution isn't taxed, so you have the entire $5 to spend on care.
Hmmm. $3.70. . . $3.75. . . $5.00. For the same sacrifice of current consumption during your working years, which amount would you rather have available to spend in retirement?