Fast-rising health care costs are a growing concern for retirees. As noted in this space on June 10, a report from HealthView Services, a producer of health care cost projection software, pegged health care costs for a 65-year-old couple retiring today at $288,000 — no small chunk of change.
HealthView Services Founder and CEO Ron Mastrogiovanni turns in this installment to two other factors that advisors must incorporate into their retirement planning for clients: (1) the disproportionate impact of long-term care costs on a surviving spouse; and (2) the Department of Labor’s new fiduciary rule.
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If advisors are to meet the DOL rule’s best interest standard, asserts Mastrogiovanni, then estimates of health care and long-term care costs in retirement — as well as tax-advantaged insurance products needed to minimize those costs and taxable income — will need to become part and parcel of a retirement income plan. The following are interview excerpts.
LHP: Based on your research, what are the implications of rising health care costs for women? How does this impact compare with that for men?
Mastrogiovanni: I put together a case study involving a couple: a 60-year-old man expected to live to age 87; and a 58-year-old women with a life expectancy of age 89. Their health care costs thus must account for a two-year difference in age, and an additional two years of longevity.
For the wife, that means she will be responsible for $104,000 more in health care expenses than her husband over the 4 years.
Additionally, the couple will require long-term care, which varies in cost by state. Assuming an industry average of 1.5 years of care, he will be responsible for an additional $181,000 in LTC expenses in New York State or $71,000 in Texas.
His wife will need on average 2.5 years of long-term care, yielding a price tag of $302,000 or an additional $121,000 in New York compared to her husband; in Texas the difference in cost between husband and wife would be $47,000. These figures are a big shock that people need to address in retirement.
LHP: Another potential shock in retirement for a surviving spouse, I understand, is the tax bill. Can you talk about that?
Mastrogiovanni: Yes. Assuming the wife receives income from three sources — her husband’s pension, Social Security and required minimum distributions from an IRA — she could be pushed into a higher income tax bracket at her husband’s passing. Using industry averages, our case study pegs the additional cost at $50,000 in Medicare tax surcharges for the wife. So a surviving spouse ends up with additional expenses and financial pressures that, typically, a husband who predeceases her doesn’t have to address.
LHP: In respect to long-term care, could the cost of the couple in your case study be lowered by, say, using a home attendant in lieu of a nursing home?
Mastrogiovanni (pictured at right): Perhaps at the outset. Initially, someone may need a visiting nurse to stop by weekly and an aid twice weekly to handle basic chores, such as buying groceries or washing clothes. As time goes on, however, the need for these services increases; at a certain point, the retiree may decide a home attendant is necessary 3 days per week, 8 hours a day.
But if someone needs help for that length of time then, I’m sorry to say, he or she really need 24×7 care; 3×8 care is not realistic. And, in most cases, 24×7 home care is more expensive than a nursing home.
Also to factor in is the cost of administering drugs. If my parents were in a nursing home, Medicare would cover certain medications. That’s not the case if the drugs were administered at home. So there are disadvantages for people receiving home care.
Retirees might favor, alternatively, an assisted living facility, such as a condo, an option generally only available to more affluent people who don’t require 24×7 care. But these people still have to maintain their home, have the grass cut and pay property taxes. You have to add in these additional expenses when comparing assisted living facilities to other end-of-life options.
LHP: Understood. Let’s turn to the Department of Labor’s new fiduciary rule. What are the rule’s implications for agents and advisors endeavoring to develop a retirement income plan as it relates health care and long-term care costs?
Mastrogiovanni: Health care, housing, transportation, food and discretionary expenses are not mentioned in the 1,000-plus pages of the DOL’s conflict-of-interest regulations. The rule is very general.
What’s clear is this: To act in the best interests of the client — a key requirement of the rule — you have to go through a thorough planning process. Historically, retirement planning hasn’t focused much on health care costs.
I believe that must change for advisors held to a best interest standard. It will no longer be enough to bundle all fixed expenses and use, say, an 80 percent income replacement ratio when calculating how much an individual needs to save for retirement. Advisors will have to segregate assets and savings to cover specific expenses, particularly fixed expenses.
And health care is one of the largest, if not the largest expense, we’ll all face in retirement. So as the rule is phased in, we think the planning process will change.
Advisors will develop specific plans and product portfolios to address different needs in retirement, among them health care and long-term care costs.
LHP: Is this planning analogous to using “buckets” for different phases of retirement, where each bucket funds a particular period and fixed or discretionary expenses?
Mastrogiovanni: Yes; the long-term care component will typically take place in the last two years of one’s life. But advisors will need to plan more accurately, based on the client’s life expectancy. If, using our hypothetical couple again, the husband will live to age 87, then he’ll need to fund LTC expenses from ages 86 to 87.
To that end, an advisor can add to the distribution plan a retirement income bucket specifically focused on long-term care, the bucket funded with an LTC rider on a linked-benefit life insurance policy or annuity. The client could also opt to self-insure part of the LTC expenses.
Also to factor in are health care costs, which are rising at a rate faster than general inflation. These expenses become a second bucket — potentially funded with mutual funds, a health savings account or Roth IRA — in the product mix.
Because of income and surcharge tax implications — a 3.8 percent Medicare surtax is levied on the lesser of net investment income or the excess of modified adjusted gross income (MAGI) above $200,000 for individuals, $250,000 for couples filing jointly — the investment vehicle is critically important. It could increase or decrease the client’s retirement assets by tens or even hundreds of thousands of dollars.
LHP: As the DOL rule is phased in, do you foresee greater use of LTC riders on linked-benefit life insurance products or annuities?
Mastrogiovanni: Many advisors believe they’ll be selling fewer annuities under the DOL rule. But when you’re looking at health care specifically, there’s a good reason to purchase a non-qualified annuity. For example: as part of a qualified plan rollover.
Because of its tax-advantaged status — the investment can grow on a tax-deferred basis; and only the portion of distributions representing earnings are taxed — the client’s MAGI can be minimized. And a lower MAGI means less paid in income and Medicare surtaxes.
Tax-advantaged life insurance also has a role to play here. Advisors can explore with clients not only permanent life products’ estate tax benefits, but also how the cash value can be used to pay for health care and long-term costs. Because a policyholder can make tax-free withdrawals against the product’s cash value — up to cost basis and, above this threshold, in the form of loan —distributions don’t fall under MAGI.
The ability to optimize discretionary income in retirement should be a big motivator for more affluent investors to look at life insurance.
LHP: What about longevity insurance: annuities that typically guarantee a lifetime income stream starting at 85? How do these products fit into a retirement income portfolio?
Mastrogiovanni: This is another interesting option for retirees. As the products are not subject to RMD rules applicable to IRAs — required minimum distributions that, again, can increase MAGI and therefore the Medicare surtax — it should be considered as part of a retirement income plan. At the time of payout, the product may be used to cover general living expenses, health care costs or other discretionary expenses.
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