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Scary numbers

Retiring workers will tread across the shaky planks of Medicare and confront rapidly rising costs.

By HELEN HUNTLEY
Published June 26, 2005

Retirement planning always involves a heavy dose of guesswork. Nobody knows what the future will bring, so most of us optimistically assume things will work in our favor.

We're not counting on a ticking time bomb blowing all our projections out of the water. But that's exactly what retirement health care costs are threatening to do.

"Nobody's planning for it and nobody's saving for it," said Dallas Salisbury, president of the Employee Benefit Research Institute, which studies the financial issues surrounding retirement.

That's only a slight exaggeration.

Most workers have never tried to calculate how much money they'll need in retirement, and those who have tried probably are underestimating. Health care costs are rising much faster than inflation, and future retirees are likely to have a smaller percentage of those costs subsidized by former employers or Medicare.

Attempts to quantify the future cost of retiree health care range from mildly alarming to downright frightening:

* The institute's projections are hair-raising: Someone who turns 65 in 2015 will need a lump sum of $230,000 to cover health care costs through age 80. Plan to live to 95? Better have $548,000 on hand at 65. And that's just for one person. Double the number if you and a spouse expect a long life.

Those scary numbers are based on health-insurance premiums that increase 7 percent a year and maximum annual out-of-pocket costs for someone who is covered by Medicare and a supplemental insurance policy that's employer-sponsored but not subsidized.

* Fidelity Investments ran its own calculations and came up with numbers that are lower yet still staggering: A 65-year-old couple retiring today without employer-provided health insurance needs a lump sum of $190,000 just to pay for health care, assuming he makes it to 85 and she lives to 90. Fidelity's number is an 8.6 percent increase over last year's projection; if health care inflation continues at anywhere near that pace, the future numbers will be shocking.

* Hewitt Associates says retirees from large companies should prepare to spend 20 percent of their income on health care if they don't have employer-subsidized insurance. Hoping to retire early? Hewitt says health care will cost an average of $5,000 a year per person until you're Medicare eligible. And that's the 2004 cost; expect the number to increase every year.

What's really scary isn't just how large the projections are; it's that they don't include all the health-related costs retirees might face. Left out: dental services, over-the-counter medications and long-term care. And the numbers assume the continuation of Medicare, which is headed for insolvency at a much faster clip than Social Security.

The cost of Medicare's promised benefits is expected to exceed its revenues by $28-trillion over the next 75 years. That's five times the size of Social Security's projected shortfall.

Without higher taxes or benefit cuts, Medicare, Social Security and the interest on the national debt eventually will consume all federal government revenues with nothing left over for national defense or the rest of the government. Presumably, changes will be made before that happens, but the repair package is likely to involve considerable pain.

"I am so concerned about Social Security and Medicare that my husband and I do not think we will ever be able to fully retire," said Kitty Scott, 43, who lives in Belleair and works in finances for a nonprofit organization.

Yet surveys show most workers aren't planning to pay big retirement health care bills out of their pockets.

"There's this general sense that "Once I reach 65, Medicare becomes my primary insurer and I don't have that much to worry about,' " said Brad Kimler, a senior vice president for Fidelity Human Resources Services Co. "Medicare does provide a lot of value, but there's still this extra component that's not covered."

He said many companies have switched from offering retiree health benefits to encouraging employees to save more to pay their own costs.

Only 20 percent of private employers offer health benefits to Medicare-eligible retirees and even fewer - 13 percent - provide it to early retirees.

Most government workers still have health insurance in retirement, but Salisbury is predicting a huge upheaval in public sector benefits. Changes in government accounting standards that take effect in 2007 will force state and local governments to account for the future costs of promised health benefits.

"They're going to follow private employers in reducing those promises," Salisbury said.

The solution is for workers to lead healthier lifestyles, do more aggressive retirement planning and save more for future health care costs, Kimler said.

"Medical costs are one of the most critical risks to eroding your retirement savings, and the longer your retirement, the greater your risk," he said.

Rising health care costs are cutting into workers' disposable incomes and many have responded by saving less. But even those who are willing and able to save more find themselves troubled by the uncertainty of it all.

"It's so unknown it makes it very difficult to plan for," said Greg Rosica, who does financial and tax planning for clients at Ernst & Young in Tampa. "You have to plan very conservatively and make sure you have a cushion."

He favors retirement plans that can generate enough income to cover projected expenses without invading principal. If expenses turn out to be higher than expected, the principal is there as a cushion.

"Based on recent experience, I deem the cost of adequate health care to be incalculable - and rising," said Robert Watts, 58, who runs a Bradenton business publishing real-estate market data. He said a health condition makes it impossible for him to get insurance and he owes more than $100,000 from a four-day hospital stay last year.

Some financial planners attempt to account for higher health care expenses in retirement in the financial plans they create. Somnath Basu, who directs the financial planning program at California Lutheran University, developed a method called "age banding." It assumes that health care costs will grow at a faster annual rate than most other costs (7 percent versus 3 percent) and that health care consumption will increase with age.

At a recent Financial Planning Association conference in Tarpon Springs, Basu offered the example of a couple whose annual health care expenses at age 65 were $8,418, or 9 percent of their expenses. By age 85, their annual health care expenses would be $56,192, or 44 percent of their expenses, according to the projection.

Even a more detailed calculation relies on assumptions that may not turn out to be correct. And even if you get the cost part of the equation right, you could come up short if you are wrong about the investment return you'll earn or the number of years you'll live in retirement.

The Social Security Administration says that on average today's 65-year-olds will live to to be 81 if they are men or 88 if they are women. That means half the 65-year-olds will live longer.

Workers who want to save more for retirement have multiple options, including the relatively new health saving accounts.

Ebe Bower, 55, a Clearwater Chamber of Commerce executive, says her plan is to pay off her house so the money she uses for mortgage payments can be diverted to health care in retirement.

For others the solution may be to wait longer to retire or work part time in retirement to maintain health insurance or to pay their out-of-pocket medical bills.

Helen Huntley can be reached at huntley@sptimes.com or 727 893-8230.

[Last modified June 23, 2005, 20:09:02]