Healthcare could be one of your biggest expenses in retirement, but are you actually planning for it? In this episode of Wise Money, we break down how much you should budget for Medicare and healthcare in retirement, including what to consider if you retire before age 65. We also discuss IRMAA, HSAs, long-term care, and how rising healthcare costs could impact your overall retirement plan.
Season 11, Episode 51
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This information is for general financial education and is not intended to provide specific investment advice or recommendations. All investing and investment strategies involve risk, including the potential loss of principal. Asset allocation & diversification do not ensure a profit or prevent a loss in a declining market. Past performance is not a guarantee of future results. This video may discuss estate planning concepts but does not constitute legal advice. Please consult an attorney for advice specific to your situation.
How the Affordable Care Act Can Help Cover Healthcare in Retirement
Retiring before age 65 can create an important financial planning challenge: what will you do for health insurance before you become eligible for Medicare? For many early retirees, the Affordable Care Act (ACA) provides a way to bridge that gap. But the cost of coverage can vary significantly depending on your income, household size, location, and the plan you choose.
Understanding how the ACA fits into your overall plan can be especially important when preparing for healthcare in retirement. Health insurance isn’t simply a separate expense—it can interact with your retirement income, investment withdrawals, and tax strategy.
What Is the Affordable Care Act?
The Affordable Care Act was enacted in 2010 and created health insurance marketplaces where individuals and families can purchase private health insurance coverage. These plans can be particularly useful for people who don’t have access to employer-sponsored health insurance.
That includes someone who retires at 60 but won’t become eligible for Medicare until age 65.
Instead of remaining employed primarily for health insurance or relying on another form of coverage, an early retiree may be able to purchase an ACA plan through the Health Insurance Marketplace or a state-based marketplace.
ACA plans are generally divided into metal categories—Bronze, Silver, Gold, and Platinum—which reflect how costs are shared between the insurance company and the insured. The appropriate plan isn’t necessarily the one with the lowest premium. Deductibles, copays, provider networks, prescriptions, and expected healthcare needs should also factor into the decision.
ACA Subsidies Can Make a Big Difference
One of the most important features of the ACA is the availability of premium tax credits for qualifying households. These credits can reduce the amount you pay for health insurance coverage.
This creates an important connection between retirement income planning and healthcare costs.
ACA premium tax credits are based in part on household income. For retirees, that means decisions about where retirement income comes from can potentially affect the cost of health insurance.
For example, distributions from a traditional IRA generally increase taxable income. Large Roth conversions can also increase income in the year of the conversion. Qualified Roth IRA withdrawals, on the other hand, generally don’t increase adjusted gross income.
That means two retirees with similar portfolios and spending needs could potentially have very different ACA outcomes depending on how their assets are structured and how they generate retirement income.
Why Early Retirement Requires Additional Planning
Medicare eligibility generally begins at age 65. If you retire before then, you need a strategy for the years between your retirement date and Medicare eligibility.
Those years can become a meaningful expense.
When estimating healthcare in retirement, don’t assume today’s employer-sponsored health insurance costs will continue after you leave your job. Your employer may currently be paying a significant portion of your insurance premium, making the true cost of coverage less obvious while you’re working.
A retirement projection should account for health insurance as its own expense, particularly during the pre-Medicare years. Depending on your situation, it can make sense to model different premium and out-of-pocket cost assumptions rather than relying on a single estimate.
Your Tax Strategy and ACA Coverage Are Connected
The ACA is also a good example of why tax planning and retirement planning shouldn’t happen independently.
Imagine retiring several years before Medicare and deciding that those low-income years provide an opportunity to complete Roth conversions. From a long-term tax perspective, that could be beneficial. However, increasing your income through Roth conversions could also affect your eligibility for ACA premium tax credits.
That doesn’t automatically mean you shouldn’t complete the conversion. Instead, you should evaluate the entire financial picture.
How much could you potentially save in future taxes? How would the conversion affect your current tax bill? How could it change your ACA premium tax credit? What could it mean for future required minimum distributions?
The goal should be to coordinate these decisions rather than optimize one area while unintentionally creating a problem somewhere else.
Using an HSA to Prepare for Healthcare Costs
A Health Savings Account (HSA) can also play an important role in preparing for future healthcare expenses.
If you’re eligible to contribute to an HSA during your working years, building that account can give you another pool of money specifically suited for qualified medical expenses. HSAs offer unique tax advantages: eligible contributions can receive favorable tax treatment, funds can potentially grow tax-deferred, and distributions for qualified medical expenses can be tax-free.
Rather than viewing an HSA only as a way to pay this year’s deductible or doctor’s bills, consider how it could fit into your long-term retirement strategy.
Build Healthcare Into Your Retirement Plan
Healthcare shouldn’t be an afterthought when deciding whether you can afford to retire. If you’re planning to leave the workforce before age 65, determining how you’ll obtain coverage—and how you’ll pay for it—should be part of the retirement analysis from the beginning.
The Affordable Care Act can provide an important bridge between employer-sponsored coverage and Medicare, but premiums are only one part of the equation. Taxes, retirement withdrawals, ACA premium tax credits, HSAs, deductibles, and out-of-pocket expenses can all interact.
Planning for healthcare in retirement means looking at those pieces together. Before retiring early, build healthcare costs directly into your retirement projections and consider how your income and tax strategies could affect the cost of coverage. A coordinated plan can help you make retirement decisions based on a more complete picture of what your future expenses may actually look like.
