Health care costs are
one of the most important variables in any retiree’s financial plan.
The scary part is, for
a long time now, medical expenses have far outpaced inflation. The
cost of medical care has increased at a rate of 4.5% annually, over
the last 30 years whereas broad inflation as tracked by the U.S.
Consumer Price Index, has grown at an average of 2.6% per year.
Many advisors build
ballooning medical costs into their plans for clients. These plans generally
predict that health care, for most retirees, will be clients’ single largest
expense outside of discretionary living expenses. Or will they?
A recent study has
shown that this might not be the case.
self-report the amount of money they spend on health care services (after
Medicare premiums), the median lifetime cost for a retiree from age 70 to death
(95 or later) is slightly above $27,000, according to a new
study by the Employee Benefit Research Institute.
Over the span of 25
years, this averages out to be just over $1,000 per year. While there are
obvious outliers to these results — study participants who lived longer and
went into nursing homes had far higher cumulative costs, for example, than
those who died at earlier ages — with the median cost being roughly $27,000,
there were many participants who had costs far lower than $27,000.
In broadening the study
results and accounting for total medical expenses (all out-of-pocket expenses
after premiums), the median amount was still just $2,000 per year.
What makes this study
more interesting than many others, is that it uses self-reported data and not
hypothetical forecasts. Fidelity, for example, predicts much higher costs,
estimating men retiring in 2018 will need $133,000 to cover health care costs
in retirement, whereas females will need $147,000.
The real-life data
found in EBRI’s report shows Fidelity’s numbers will not be experienced by most
people. So how should we as advisors be interpreting these studies as we work
For most of my career, I have been telling clients that health care costs will
make up a significant line item in their retirement budget.
Even when I calculate
budget projections for clients who are still working, I have been including it
as a separate goal in our planning software to ensure medical costs are broken
out from discretionary spending. Only then, do people see the impact this has
on their plan.
But if these costs were
inflated to begin with, then perhaps I’m being too cautious with my clients.
What I should be showing them is a continuum of health care costs.
EBRI’s survey showed
that at the most extreme, those who die at age 95 or later and experience the
most expensive costs (at the 95th percentile), incur $269,000 of cumulative
Perhaps I should show
clients a range of projections from $27,000 to $269,000, and let them know that
there will be a wide range of costs as they encounter medical events in
For those who are healthy but meet a swift, inexpensive death, these costs will
For those who have a
prolonged, expensive illness, their costs will be on the high side. While we
can project what might happen, projecting over a quarter of a million dollars
for this line item might be too cautious for some clients.
In some client
financial plans, I have taken the opposite approach. Instead of breaking out
health care costs, I have given clients an annual spending target that
incorporates all expenses. In using this approach, we have discussed that in
some years, some of this discretionary pot will be spent on health care
expenses and there won’t be much left over.
In other years, when
health care is not an issue, there will be some fun money left over to spend on
other things. In approaching retirement from a “total annual cost” approach, it
allows clients to see that they have competing goals and as each year goes by,
they will have to spend on a health care goal in order to enjoy a larger
discretionary spending goal in the next year.
I explain that the
health care expense is always to be expected and never ignored, which
reinforces the respect that retirees need to have for health care expenses if
they wish to enjoy a long, fun-filled retirement.
Insurers need to get
For those looking to purchase insurance to cover care in their advanced years,
I have become an advocate for hybrid life insurance and long-term care
insurance products. Traditional long term care insurance products have not kept
up with the marketplace and are continually becoming too expensive to justify
One of my clients
recently went through this life Insurance and long term care insurance review
process, and I was impressed with what the life insurance broker was able to
come up with. It involved both my client and his spouse having separate
universal life policies with inflation-protected long term care insurance and
return of premium riders.
This enabled both of
them to create custom policies based on their goals and needs, and also
provided life insurance benefits for the other in case care wasn’t needed. I’m
looking forward to seeing how this marketplace continues to innovate and come
up with solutions to insure against the tail end of the curve in health care
However you decide to
portray medical costs in financial plans, it’s important to keep reviewing
these numbers and keep them anchored in reality. While health care expenses
will go up over time, many of your clients will not need the large amounts of
money we are projecting.
Explaining to clients
the wide range of costs they could incur throughout retirement will be
important so they can be prepared to sacrifice some goals if needed.
Alternatively, it may be an unexpected surprise should these expenses not
materialize and they can fulfill end-of-life wishes otherwise seemed out of
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