Health care costs claim bigger part of nest egg

FOR FINANCIAL planners, estimating medical costs for retired clients is little more than guesswork. Accurately predicting such costs requires an adviser to know how long the clients will live and what kinds of medical problems they will confront. “There's no way to boil [a cost estimate] down to one number,” said Paul Fronstin, director of the Health Research and Education Program at the Employee Benefit Research Institute. “I've tried to plan on having 6% or 8% of a portfolio dedicated to health, but it doesn't work,” said Evelyn Zohlen, president of Inspired Financial LLC, which manages about $65 million for clients. “I end up with so much variance, I toss any rule of thumb out the window.”

THE BOTTOM LINE

“Assumptions you make can be very close — or pretty far off,” agrees Dave Dryden, managing partner at Insight Wealth Partners LLC, which manages about $200 million. What advisers can count on for sure, though, is that in a client's retirement years, health care costs will be significant. In a December 2010 study, EBRI estimated that an average couple, both 65 and with relatively low prescription drug use, would need $158,000 to have a 50% chance of funding their health costs through retirement. Those costs include premiums for Medigap insurance, Medicare Part B (outpatient) and Medicare Part D (prescriptions), plus out-of-pocket drug costs. At the high end, the EBRI said that for a couple with longer life spans and higher drug costs, $391,000 would be needed to reach a 90% probability of having enough. According to a February 2010 research paper from the Center for Retirement Research at Boston College, the average 65-year-old couple would need $197,000, but the couple would have a 5% risk that uninsured health care costs could exceed $311,000.

COSTS GROWING

These numbers may be underestimated because health care costs are expected to grow. For example, the recently released Republican budget plan would require Medicare participants to share more of the burden. “It's hard to imagine that Medicare [benefits] will be richer in the future,” Mr. Fronstin said, noting that the program has a $33 trillion un-funded liability over the next 75 years. Advisers already have seen costs in-crease. “Twenty years ago, I would budget a few hundred a month” for health care, Mr. Dryden said. “Today, it's easily $1,000 a month or more.” Due in part to the unknowns of health care costs, Ms. Zohlen recommends that her clients replace 90% to 100% of their working income in retirement, not the 70% that many use as a rule of thumb. Mr. Dryden agrees. “I like to be conservative and assume a much larger number, rather than have someone find that their medical costs are going to be significantly higher” than planned, he said. Long-term-care needs are another significant risk. When long-term care is needed, “usually you see one very healthy spouse and one in a very bad predicament, and it wipes out their savings if they don't have long-term-care coverage,” said Jonathan Heller, president of JG Heller Private Wealth Advisors Inc., which has about $50 million under advisement. “If you self-insure [for long-term care], you need to allocate more money to that,” Mr. Dryden said. Advisers recommend that clients acquire LTC insurance in their 50s or earlier to keep premiums affordable. Early retirements also push up health care costs. As clients look to retire before 65, when they become eligible for Medicare, advisers have been helping them think through how to maintain their medical coverage, which is expensive. “The issue is, can you get [coverage] and can you afford it?” Mr. Dryden said. Early retirees can look to spousal coverage or continue employer coverage under the Consolidated Omnibus Budget Reconciliation Act for as long as 18 months, he said. He's seen some people get another job for a few months, get covered again and pick up another year and a half of eligibility on the employer's COBRA plan. This type of “job downsizing” isn't just a desperation move, said Richard Salmen, a senior adviser with GTrust Financial Partners. It can be a “huge win” for clients as they continue bringing in income and maintain medical coverage, but in a job with less stress, he said. E-mail Dan Jamieson at djamieson@investmentnews.com.