Certified Financial Planner and Author
Are You Saving Enough Money Now to Pay for Healthcare in Retirement?

Are You Saving Enough Money Now to Pay for Healthcare in Retirement?

Unexpected expenses can cause a lot of stress in retirement. These unforeseen costs can run the gamut from home repairs to taxes that were overlooked. A particularly significant cause of stress for many retired Americans is healthcare.

What you Don't Know About Retirement Will Hurt You!

A recent study by Fidelity suggests that Americans often underestimate the cost of healthcare during retirement. Their survey found that nearly 40 percent of respondents estimated healthcare expenses in retirement to be between $50,000 and $100,000 for a couple. In reality, the average 65-year-old couple who retired last year will face $295,000 in out-of-pocket medical expenses—and this number will only increase in the future.  I co-authored a book back in 2013 (What You Don’t Know About Retirement Will Hurt You!) that looked at this very issue—the fact that most Americans were underestimating the cost of healthcare in their retirement-even without a long term care event ever occurring!

Assumptions and misunderstandings about Medicare can lead people astray when it comes to accounting for healthcare costs. Many people believe Medicare or a Medicare Supplement policy will cover much more in retirement than it does. The other issue is that many people don’t anticipate needing as much healthcare as they do.

Underestimating your healthcare expenses in retirement can cause your nest egg to be depleted much more quickly. In fact, the leading cause of bankruptcies for retirees is high healthcare costs. To avoid this, it’s important to be realistic about your healthcare needs when you retire. Make sure you understand exactly what Medicare, and Med Supp plans cover.

You may need to boost your retirement savings to have enough money for your healthcare costs. Fortunately, there are a couple ways to do this.  

Strategies to Save More for Retirement Healthcare Costs

One of the best tools for healthcare savings is a health savings account (HSA), although not all people are eligible for one. An HSA provides several tax breaks. Most retirement accounts that have clear tax advantages allow you to grow your savings without paying any taxes. However, these accounts require you to either pay taxes on your contributions or your withdrawals in retirement.

An HSA has different rules. You are not taxed on contributions to the account, which then grows without any tax liability. When you retire, you can also withdraw from the account without paying taxes, if you use the funds for qualifying medical expenses. Furthermore, if you do not need the money for healthcare, you can still make withdrawals and use the money for other purposes, although you’ll pay taxes at the same rate as a 401(k) or individual retirement account (IRA).

If you do not qualify for an HSA, your best option might be to increase your contributions to a 401(k), if you have one. If you’ve already maxed out your 401(k) contributions, another alternative is to open a special IRA that is earmarked specifically for healthcare. The benefit of such an account is that you’ll know you have a dedicated healthcare fund.

How to Calculate How Much You Need to Save

Estimating healthcare costs in retirement can be difficult because you need to account for so many factors. As already stated, the average expenses for a couple age 65 in 2020 was $295,000 after taxes. But your actual expenses could be much higher or lower depending on your health, as well as where you retire and how long you live.

Besides estimating your total healthcare costs, you also must estimate how much you’ll need for healthcare at different points during retirement. For example, perhaps you’ve estimated that you and your spouse will need $320,000 to cover all your healthcare, but how much of that do you need when you first retire, and how much do you need 10 years later? Fidelity estimates that the average 65-year-old couple will spend about $11,400 on healthcare the first year they retire. An article by MarketWatch similarly estimated that each retiree will spend an average of about $5,700 per year on healthcare in retirement, based on academic research and other estimates. You can also adjust your estimates based on the general fact that most people need more healthcare as they age.

As you approach retirement, it’s important to take stock of your health and especially your chronic conditions, which strongly correlate with your healthcare expenses. You should also think about the health of your parents or grandparents as they aged, since some conditions are genetic, although certainly not all.

Another strategy is to plan for the most significant expenses as much as possible. For example, long-term care usually ends up being the most expensive facet of healthcare for retirees who need it, but this cost can be curbed by purchasing insurance. Premiums will be cheaper if you purchase the plans earlier.

The good news is that increasing your savings even quite late in the game can help you pay for healthcare costs. If you’re eligible for catch-up contributions to retirement accounts, taking full advantage of them can help curb future healthcare costs, since these contributions may still have decades to grow.

Because planning for healthcare expenses is so complex, it can be helpful to meet with an experienced financial planner well before you retire. With help from a professional, you can create a more confident estimate of your own healthcare costs and come up with a plan for addressing any savings deficiencies.