Confusion about Medicare plagues older workers

A friend contacted me the other day with questions about enrolling in Medicare now that their youngest child has aged out of their employer-based group health insurance plan. She figured she and her husband could save a lot of money on health insurance premiums by switching from family coverage to Medicare, since they are both over 65.

I hated to break the bad news to her, but in their case, enrolling in Medicare now may not generate the savings she had envisioned. There were lots of questions to answer and numbers to crunch.

Consider the facts. Two spouses, both over 65, want to continue seeing their current doctors and enroll in original Medicare, which is accepted anywhere in the country, rather than a private Medicare Advantage plan that can limit coverage to in-network providers.

Medicare Part A hospital insurance in premium-free to anyone who has paid FICA payroll taxes for at least 10 years (or is married to someone who did). Medicare Part B, which pays for doctors’ fees and outpatient services, has a monthly premium, plus additional surcharges for higher-income beneficiaries.

In 2021, the standard monthly Part B premium is $148.50 per month. In addition, individuals with incomes over $88,000 and married couples with joint incomes over $176,000 pay an income-related monthly adjustment amount, or IRMAA, surcharge ranging from an extra $59 per month to an extra $356 per month per person, depending on their income.

Optional Part D prescription drug policies are also subject to high-income surcharges. And the couple would still need to buy two supplemental Medigap policies to cover their out-of-pocket costs.

Suddenly, Medicare wasn't looking like the bargain may friend had hoped for.

But wait, there’s more.

Those high-income surcharges for Medicare Parts B and D are based on the last available tax returns. So if she and her husband enrolled in Medicare to begin next year, their 2022 premiums and surcharges would be based on the 2020 tax returns that they filed in 2021. With both spouses still working, they would definitely be hit with monthly IRMAA surcharges.

IRMAA surcharges can be appealed if the income used to determine the surcharge has declined due to a life-changing event, such as marriage, divorce, widowhood or retirement. But since this couple is still working, there would be no immediate escape from any high-income surcharge imposed in 2022.

Then there’s the issue of health savings accounts. HSAs offer a triple tax break when paired with a high-deductible health insurance plan. Contributions are tax-deductible, savings grow tax-free, and distributions are tax-free when used to pay for qualified medical expenses during your working years and beyond.

Both my friend and her husband make annual contributions to their individual health savings accounts. But once they enroll in Medicare — even if it's just in premium-free Medicare Part A — they can no longer make contributions to an HSA, although they could continue to take tax-free distributions from an HSA to pay for qualified medical expenses.

And here’s the kicker: If you have a health savings account, you and your employer should stop contributing to it six months before you sign up for Medicare Part A to avoid a tax penalty.

 I told my friend that they either needed to withdraw their HSA contributions for the last six months of 2021 if they plan to enroll in Medicare as of January, or they should stop funding their HSAs starting in the new year and delay signing up for Medicare until July, after the six-month look-back period has elapsed.

To make sure my advice was on point, I check in with my favorite Medicare expert, Dr. Katy Votava, author of “Making the Most of Medicare: A Guide for Baby Boomers,” and president of Goodcare.com, a company that assists consumers and financial advisers with health insurance, Medicare and long-term care decisions.

Dr. Katy agreed with my advice but raised some additional points.

“You are on point with the HSA withdrawal and timing issue,” she wrote in an email. “In addition, I suggest they do the math of what the cost difference would be to enroll in Medicare Jan. 1 versus July 1, accounting for not only the cost of the IRMAA but other coverages such as Medigap, Medicare D, or Medicare Advantage.”

If the couple wanted to sign up for Medicare beginning in January, they could withdraw any excess contributions from their HSA penalty-free by using the “mistaken contribution” form, Votava explained.

In the end, my friend decided they would stick with their employer-provided group health insurance until her husband retires and their health insurance ends. That will create a new “special enrollment period” for them when they can sign up for Medicare penalty-free within eight months of losing their employer health insurance. But they’ll only have 63 days to sign up for a Part D prescription drug plan penalty-free.

More rules. More deadlines. It doesn’t get any easier. But ignoring them can be a costly mistake.

[Questions about Social Security rules? Find the answers in Mary Beth Franklin’s ebook at Maximizing Social Security Retirement Benefits]