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Healthcare Expenses in Retirement – More Predictable than You Think

Retirees fear that healthcare expenses will eat up a significant portion of their nest egg, but for many these are only a small piece of their spending and more predictable than they thought.

By Dylan Huang

Retirement looks different today than it did 30 years ago. In most cases, people don’t have defined-benefit pensions through their employer(s), and the average length of life is much longer, enabling many to be in retirement nearly as long as they were employed. As a result, transitioning from employment to retirement can bring a few financial concerns to light.

Dylan Huang

Dylan Huang

One concern that we often see rising to the top of the list is navigating healthcare costs without a regular paycheck. In fact, the American Psychological Association found that more than half of adults (55 percent) worry they will not be able to pay for their necessary healthcare services in the future. People are concerned about healthcare inflation and uncertainty about what type of healthcare-related services they will need as they age, in addition to what extent Medicare and other insurance will cover those services. But: should Americans be so worried about these potential expenses?

We recently published a white paper where we analyzed healthcare expenses (both total spending and the variability of out-of-pocket costs) across various demographics of retirees. While many retirees fear that healthcare expenses will eat up a significant portion of their nest eggs, we found that, in practice, healthcare expenses for many retirees are only a small piece of their spending pie and are more predictable than people generally think.

In fact, our research found that average annual healthcare expenses for all retirees, excluding LTC costs, are roughly $4,500, or 15 percent of total retirement spending. This amount is not materially different than what retirees will spend, on average, for food and transportation, and significantly less than what they will pay for housing (42 percent of budget). While these amounts account for a much larger percentage of retirement spending, our research found that these expenses are often less of a concern for retirees.

Huang 3-1-2021

Elements Increase Healthcare Spending

While basic healthcare expenses can be predicted with a relatively high degree of certainty (i.e., the variability of expenditures are low), the research identified two healthcare-related risks that do significantly increase healthcare spending in retirement and are much more difficult to predict: long-term care (LTC) events and longevity. LTC events, such as stroke or joint replacement (e.g. hip or knees), for example, can derail personal finances because of a potentially high cost of care, while living meaningfully past life expectancy will increase costs in terms of funding additional years, exacerbating investment and inflation risks. We also found that living meaningfully past life expectancy increases the probability of experiencing an LTC-related health event.

How Retirees Are Coping

Our research found that retirees are trying to alleviate stress and potential loss of savings by ‘self-insuring’ – limiting spending and continuing to build assets when they may not be touching the principal in their nest egg to begin with. We also found that taking the ‘self-insurance’ route and living below your means to fund unknown healthcare expenses in retirement isn’t as necessary as many seem to believe. The relative predictability of healthcare expenses can ultimately make it easier to plan for how to fund them should the need arise.

Here’s What Retirees Can Do Instead

Establish an appropriate strategy for managing healthcare expenses in retirement. The key here is to plan for known or diversifiable risks and insure the unknown or undiversifiable risks. Basic healthcare expenses can be budgeted and planned for effectively because the variability of spending is manageable, particularly for retirees with supplementary healthcare coverages.

Work with your financial partners to ensure you have the best coverage for any specific healthcare needs. Given that most healthcare costs will consist of premium payments, retirees can put a strategy in place to ensure they can sustainably afford these predictable costs as they increase with inflation, while also maintaining reserves to cover out of pocket expenses. Potential investments and solutions include tax-advantaged vehicles like HSAs, guaranteed* income annuities with an annual increase feature, and effectively managing modified adjusted gross income to reduce Medicare premiums.

Evaluate solutions like long-term care insurance and income annuities to reduce – if not eliminate – undiversifiable risks. Our research shows that retirees who have identified and funded known healthcare expenses and implemented such a strategy for the unknown are generally happier, more confident, and have an overall higher quality of life.

Connecting with a trusted financial partner to develop a strategy that enables you to manage known healthcare-related expenses in a sustainable way, with the ability to cover potential out-of-pocket costs, can help you avoid orienting your retirement spending around a question mark. Understanding what the variables are – and are not – when it comes to funding healthcare in retirement can help you structure a budget and strategy that both protects your hard-earned assets and provides a sense of comfort knowing such risks and expenses have been accounted for.

About the author: Dylan Huang

Dylan Huang is Senior Vice President and Head of Retail Annuities, Investment Solutions and Wealth Planning at New York Life. In this role, he is focused on the development and distribution of New York Life’s retirement income and investment solutions as well as enhancing New York Life agents’ ability to deliver financial outcomes rooted in protection for clients.

Dylan began his career at New York Life as an actuary in 2001 and advanced to leadership roles of increasing scope in the company's Life Insurance, Annuity, and Corporate Finance divisions. He is recognized as a thought leader in the retirement industry for his product development, patents, award-winning research, and service as a board member for the Insured Retirement Institute and the New York Life Center for Retirement Income at The American College. He is frequently sought by members of the media for insights on retirement topics. Dylan holds a Master’s degree from the University of Connecticut and a Bachelor’s degree from the University of British Columbia.

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