Embracing the new essentials of retirement planning
by Beth Allan and Chris LeoneMs. Allan is Chief Operating Officer at HealthView Services, a software company based in Boston providing healthcare cost projections and funding strategies to financial advisors across the US. Connect with her by e-mail: [email protected]
Mr. Leone is Senior Writer and Editor For HealthView Services. Connect with him by e-mail: [email protected]
There are four essential retirement factors that the financial services industry must put front and center: Medicare, Social Security, long-term care, and working in retirement. The roles that these play in the broad scope of retirement planning are as essential to any plan as a 401k. Unfortunately, advisors are not always as well-versed in these elements as they should be. Clearly, the prospect of becoming an expert in these fields in order to service clients can be a daunting task.
But it’s not always about becoming an expert; it’s about understanding the process. Knowledgeable advisors who integrate these four essential elements into their disciplines can help financially stabilize retirees across the country, through the creation of personalized plans that focus on accurate life expectancy projections, refined inflation rates, delaying retirement options, “shock” preparation (such as sudden illness) and long-term care.
According to the Employee Benefit Research Institute, Medicare covers 51% of expenses associated with healthcare services; individuals are responsible for covering the other 49%. Medicare’s own website reveals, “It’s important to understand that Medicare does not cover everything and it does not pay the total cost for most services or supplies that are covered.”
That 49% needs to be addressed by financial advisors. Does this require sifting through hundreds of pages of regulations on the Medicare.gov website? Not at all. The basic coverage of Medicare Parts A, B, and D can be summarized in a few short pages, and a little more investigation will reveal the details of Medigap policies and Medicare Advantage plans. Advisors are certainly encouraged to become familiar with the fundamentals and educate their clients, but the true objective is to provide accurate and personalized healthcare-cost analyses that will motivate Boomers to invest for the future.
The first step is to use a detailed life expectancy calculator that accounts for the client’s current health conditions to assess how long they are likely to live. Armed with this knowledge, advisors can integrate the current and future costs of Medicare premiums, supplemental coverage (if necessary), out-of-pocket costs, current and future income, and refined inflation rates to determine how much the client will be expected to pay for healthcare throughout retirement. More often than not, this computation can be an eye-opening event. Why? Because most people spend the bulk of their working lives subsidized by employer-sponsored programs and only think about healthcare under two circumstances: when they are sick, or when they lose coverage.
After the dust has settled, advisors can offer stability and piece of mind by creating a personalized healthcare-expense blueprint to offset these costs. This can accomplished through the combination of: optimizing Social Security income; exploring potential income from working in retirement; and off-the shelf investment and insurance products.
Think that healthcare isn’t enough of an impetus to get people to save? Let’s take a look at Modified Adjusted Gross Income (MAGI) and its impact on affluent Americans. Since the passing of the Affordable Care and Modernization of Medicare Acts, Parts B and D are now means-tested. For subscribers, this means that higher incomes equal higher premiums. Medicare defines income as Modified Adjusted Gross Income (MAGI), which includes almost every source of money – including Social Security, required distributions, and capital gains. Once MAGI passes $85,000 for a single person and $170,000 for a couple, premiums increase.
Means testing is, in essence, a tax on those who can “afford to pay more”—and it’s not going away. This is a very real dilemma for millions of Americans who cross MAGI thresholds. However, once again, savvy advisors who understand how to manage earned income can simultaneously save their clients’ money while creating new accounts. How? Income from Roth IRAs and life insurance policies is exempt from earned income. By integrating these investment vehicles into client portfolios, advisors can lower earned income—thus avoiding increased premiums.
Means testing is also impacted by residency, so where one chooses to live can also affect premiums. Once again, educated advisors can assist clients in making prudent lifestyle choices by providing data that reveal the vast cost differentials in retirement destinations.
For years, most assumed that their 62nd birthday would bring a certain level of comfort through the addition of Social Security into their household budgets.
Nothing could be further from the truth. In fact, over 2000 possible claiming strategies exist, and knowing when to sign up can impact a retiree’s lifetime income by tens of thousands of dollars!
Navigating through all of the possible scenarios may seem a daunting challenge; however, utilizing industry standard optimization tools can take the conjecture out of the process and ensure that clients claim at the right time.
In the future, perhaps the greatest benefit of maximizing Social Security will be in leveraging the proceeds against healthcare costs. Financial advisors who understand Medicare, calculate the optimum time for their individual clients to file for Social Security, and utilize this income to offset healthcare costs will be providing piece of mind to the 92% of Americans who lack a retirement plan that factors in healthcare.
WORKING IN RETIREMENT
Though oxymoronic at first glance, the concept of Boomers working in retirement has gained steam over the past few years: some do it out of necessity, others for personal fulfillment. According to the Social Security Administration, 30% of Americans over age 65 are still working; this increases to 45% in the highest income quintile.
Therefore, financial advisors must meet with clients as much a decade before the projected retirement date, take inventory of client assets and expectations and determine whether working in retirement is a viable and/or necessary option. The additional benefit of working longer for many is continued healthcare coverage, which may save a client thousands in Medicare costs.
LONG TERM CARE
Medical advances in the latter half of the Twentieth Century have buoyed American life expectancy, but there is a down side to living longer, and that comes in the form of long-term care (LTC). According to a recent Bloomberg report, as many as 75% of Americans will need LTC—either in the form of nursing homes, assisted living facilities, or home care—and this level of health management does not come cheap. In fact, according to the Department of Health and Human Services, the average expenditure can range from $20,000 to $150,000 per year in out-of-pocket expenses—and that is in today’s dollars. The influx of aging Baby Boomers will ultimately create an overwhelming demand for long-term care services, and simple supply and demand indicates that the cost of quality LTC will increase dramatically over the next two decades.
While planning for the final two years of life may seem excessive to some, there is growing concern that a lifetime of saving and hard work may go to LTC facilities, rather than children or other family members. For many, this will result in the liquidation of assets to pay for a decent facility, a minimal inheritance for surviving family members, and living with the very real possibility that earnings garnered over a lifetime of labor might be pillaged in the final two years of life.
Knowledgeable advisors who understand the system and are furnished with the tools to accurately predict LTC costs can offer clients who desire competent treatment in a comfortable facility the option to purchase products to offset the cost of custodial care. For high-net-worth clients, long-term-care insurance is certainly an option. Clients can also choose to self-fund by investing in various life insurance policies or annuities with riders attached.
And its never too late to begin saving.
PUTTING THE PIECES TOGETHER: A CASE STUDY
Let’s examine a case study of Tom and Mary Anderson to reveal how an advisor can integrate these four elements into their general practice to provide stability in retirement.
Tom and Mary are both 55-years-old, healthy, planning to retire to Florida at age 65, will live to 86 and 89 respectively, and are slated to earn between $170,000 and $214,000 per year. (One contributor to this figure is Tom’s pension.)
A lifetime of healthy vigilance suggests that Tom and Mary will live long into retirement. However, this benefit comes at a price, as the couple can expect to pay $949,522 for healthcare costs throughout retirement.
This staggering figure is indeed very real. In fact, the total will just about wipe out their projected Social Security income.
Time for the advisor to get to work.
REDUCE HEALTHCARE COSTS
Reconsider Retirement Destination
First, an advisor who is familiar with how Medicare means testing is impacted by state of residency may recommend that Tom and Mary consider another retirement destination. Because of its demographic breakdown and pending onslaught of fresh retirees, Florida will be one of the most expensive states to settle down.
Moving to a different state will save the couple almost $75,000.
Manage Earned Income
Understanding how to avoid paying higher Medicare premiums due to means testing requires advisors to find investment vehicles that will offset earned income. Because of their inherent structure, Roths and Indexed Universal Life policies do not count against earned income; therefore, they are viable invest vehicles that can reduce retirement income and keep clients from exceeding MAGI thresholds.
Implementing these two simple strategies can reduce Tom and Mary’s healthcare costs by over $223,000.
OFFSET HEALTHCARE COSTS
Work a little longer
If Tom and Mary stay employed beyond their pre-conceived retirement age, this decision may make all the difference when it comes to reducing their healthcare costs and having enough of a nest egg to last through retirement.
Working longer will allow Tom and Mary to delay Social Security and remain on an employer-sponsored health plan, thus reducing healthcare costs and expanding overall income.
Optimize Social Security
Tom and Mary have reduced their future healthcare costs by almost 28%, but they still need to generate almost $700,000 over the next 30 years. Luckily, they have an advisor who knows that choosing the right claiming strategy can atone for a significant portion of this future debt.
By choosing the optimum claiming strategy, Tom and Mary will gain significant more income over the course of retirement (more than $146,000), and by automatically dedicating additional proceeds toward Medicare Part B premiums, reduce their costs by almost $155,000.
FUND THE UNDUNDED
Tom and Mary’s advisor has done well in reducing their healthcare costs by 45%, simply by having his clients make a few lifestyle changes, delay retirement, claim Social Security at the right time, and allot a bit more of that income toward Medicare Part B premiums. Still, the couple will have to generate more than a half million dollars to ensure that they will be adequately funded.
Since Tom and Mary are only 55, they still have plenty of time to save. Their advisor can now select stable, off-the-shelf products that protect principal while producing an adequate return. As the chart indicates, a relatively small initial investment under $80,000 should leave the couple well in command of their finances.
LONG TERM CARE
One more step
The elephant in the room is always long-term care. It is the last expense that anyone prepares for, and the prevailing attitude of most Americans is “Why bother saving for the last year of your life.” Well, in Tom and Mary’s case, because they are so healthy, there is a 75% chance that they will need some level of long-term care in their lives. If Tom and Mary aren’t careful, all of the legacy money and property that they had planned to bestow to their grandchildren will instead be dissolved to pay for their LTC.
Assisted living falls in this domain, and it is certainly likely that as Tom and Mary enter their 80s, they may need some help getting around. Remember their life expectancy projections? Let’s say they enter a facility at 84. Two years later, Tom passes, and Mary lives until she is 89. That is seven years of assisted living expenses in a respectable facility to account for, and in future dollars, that total will reach almost 1.5 million dollars.
Luckily, the couple’s advisor had steered them to South Carolina to retire, which has much cheaper LTC rates than Florida. Still, that total is nothing to sneeze at, and many who see that figure are likely to shrug and throw up their hands.
Well, for those who are unconcerned with leaving a legacy, these costs may not matter, and a strategy like taking out a reverse mortgage may be a viable option. However, Boomers who do not want to see a lifetime of hard work and careful planning end up in the coffers of some assisted living facility may have other ideas.
And good advisors can provide the solutions
With some foresight, Tom and Mary can take some of their assets and invest another lump sum of $45,000 at 7% for the next 20 years to offset the $200,000 figure that they will need to pay for their care.
And here’s the good news: if they never spend a day in a facility, the money can be enjoyed for generations to come.
The Advisors Role
There it is: the future of retirement. The game has changed, and most Americans must be active in this process in order to have enough money to enjoy the fruits of their labors. Advisors who understand this paradigm shift and are able to provide clients with the guidance necessary to fund a long and stable retirement will be at the forefront of a burgeoning shift in financial planning.
Those who don’t will be left behind.