Many retirees aren't prepared for how Medicare costs 'can add up'

Most Americans don’t have a clue about what their health care expenses will add up to in retirement. Many may even think once they reach age 65, Medicare will cover most, if not all, of their medical bills.

But a new analysis by the AARP Public Policy Institute puts that myth to rest.

In 2019, half of the 35 million older adults and younger persons with disabilities with traditional Medicare spent at least 16% of their income on out-of-pocket health care costs, according to the report. Overall, for the annual period reviewed, people with traditional Medicare spent an average of $6,663 on insurance premiums and medical services.

The annual out-of-pocket medical expenditures that many older Americans face in retirement underscores the need for workers to double-down either on ways to cut those costs or tap every tool to save up enough to cover future health care bills that may be considerably higher than expected.

“Contrary to a common belief, Medicare does not cover all health care–related expenses,” said Claire Noel-Miller, a senior strategic policy advisor at the AARP Public Policy Institute and writer of the report, who examined data from the 2019 Medicare Current Beneficiary Survey. “And costs can add up.”

THE SEA RANCH, CALIFORNIA - November 12, 2018: Medicare Health Insurance and Social Security card on medical report with stethoscope. Medicare is a national health insurance program provided by the United States for seniors 65 and older.  Social Security is a federal insurance program that gives benefits to retired, unemployed and disabled people.
(Getty Creative) (Bill Oxford via Getty Images)

No maximum limit to traditional Medicare out-of-pocket expenditures

The main culprit for the pricey healthcare tab: no cap on the amount someone might shell out in yearly outlays for expenses not covered by Medicare.

“Even though the program offers fairly comprehensive coverage, traditional Medicare does not have a maximum limit on what people have to spend out-of-pocket every year,” Noel-Miller told Yahoo Finance. “Consequently, some people with traditional Medicare can face high expenses, especially if they become ill and need more medical services.”

That’s backed up by the report.

One in 10 traditional Medicare beneficiaries spent 52% of their income on medical outlays. The same share with traditional Medicare spent at least $11,767 in 2019, and the top quarter of spenders paid an average of $15,449.

Many Medicare beneficiaries purchase Medigap or enroll in Medicare Advantage plans to help offset these costs. They also enroll in Part D prescription drug plans. But the combination of premiums for supplement coverage and out-of-pocket expenses can put a significant financial stress on Medicare beneficiaries.

Shot of a young pharmacist assisting a customer in a chemist
In 2019, half of the 35 million older adults and younger persons with disabilities with traditional Medicare spent at least 16% of their income on out-of-pocket health care costs, according a AARP Public Policy Institute analysis. (Getty Creative) (AlexanderFord via Getty Images)

The report “reflects something that’s been true about Medicare since the beginning, which is that the program provides broad coverage of needed medical services, but the benefits aren’t free and out-of-pocket costs aren’t capped in traditional Medicare,” Juliette Cubanski, deputy director of the program on Medicare policy at the nonprofit Kaiser Family Foundation (KFF), told Yahoo Finance.

“As health care costs, premiums, and Medicare cost-sharing requirements have increased over time, people in traditional Medicare have become more reliant on supplemental coverage to help cover the cost sharing that Medicare requires,” Cubanski said. “And a growing share are signing up for Medicare Advantage plans that are required to have an out-of-pocket cap.”

Last year, nearly half (48%) of eligible Medicare beneficiaries were enrolled in Medicare Advantage plans.

One in five Medicare beneficiaries enrolled in a Medicare Advantage plan pointed to a limit on out-of-pocket spending as the main reason for their choice, according to The Commonwealth Fund’s 2022 Biennial Health Insurance Survey of 1,605 adults enrolled in Medicare.

Noel-Miller’s report does not provide a cost comparison for seniors enrolled in Medicare Advantage plans — which have their own set of hassles — but the savings targets are typically lower, according to a 2023 report by EBRI.

How Medicare costs break down

People with traditional Medicare generally pay a monthly premium for physician coverage, Part B, and for prescription drug coverage, Part D. Those premiums vary by plan. Some people pay a monthly premium for inpatient hospital coverage, Part A.

Each year the Medicare Part B premium, deductible, and coinsurance rates are reset. For 2023, the standard monthly premium for Medicare Part B — which covers physician services, outpatient hospital services, certain home health services, durable medical equipment, among other services not covered by Medicare Part A — is $164.90, according to the Centers for Medicare & Medicaid Services. Part B premiums typically are deducted from monthly Social Security benefits.

The annual deductible for all Medicare Part B beneficiaries is $226 in 2023.

Senior woman being checked by endocrinologist in clinic.
For 2023, the standard monthly premium for Medicare Part B, which covers physician services and certain other medical and health services not covered by Medicare Part A, is $164.90. (Getty Creative) (Halfpoint Images via Getty Images)

The Medicare Part A inpatient hospital deductible that beneficiaries pay if admitted to the hospital is $1,600 in 2023. The estimated average monthly premium for Medicare Part D stand-alone drug plans is projected to be $43 in 2023, according to KFF.

But depending on your income, your costs could be higher.

The income brackets and rates for the Medicare premium surtax for 2023 is an addition to the base Part B premium. There also is an addition to Part D premiums for higher-income beneficiaries. You will only pay extra for Part B or Part D if you earned more than $97,000 in modified adjusted gross income as an individual or more than $194,000 if you’re a joint filer.

Out-of-pocket spending for health care also varies with beneficiaries’ socioeconomic characteristics, such as age, gender, race or ethnicity, and income level, the AARP Public Policy Institute analysis found. Total spending on premiums and health care services rises with age and is generally higher for women, white beneficiaries, and individuals with higher incomes, Noel-Miller said.

As expected, the amount that people with traditional Medicare spend on health care also fluctuates based on how healthy they are.

Out-of-pocket spending in 2019 for people with chronic conditions was notably higher, including congestive heart failure ($3,513), diabetes ($2,779), hypertension ($2,653), and high cholesterol ($2,601), according to the AARP report.

“One thing that might surprise people is that Medicare doesn’t cover the cost of long-term care facility services, such as a long-term stay in a nursing home,” Cubanski said. “The high cost of these services can translate to tens of thousands of dollars in out-of-pocket costs for people who need this care, many of whom end up having to spend down all of their savings to qualify for coverage through Medicaid.”

Long-term care facilities such as skilled nursing homes and assisted living facilities, which Medicare does not cover, are by far the most expensive category of out-of-pocket spending, according to the AARP breakdown. The average traditional Medicare beneficiary who stayed in such a facility in 2019 spent $25,395 out of pocket.

Also adding to out-of-pocket costs was dental care ($938), clinicians’ services ($776), and prescription drugs ($774).

“These costs not only surprise people, they shock and anger retirees,” Mary Johnson, a policy analyst for The Senior Citizens League, told Yahoo Finance. “Medicare is so complicated that the average person can’t be expected to anticipate these types of costs and that leaves retirees under-prepared for this big chunk of their retirement budget.”

The Senior Citizens League’s latest survey results are similar to the AARP report.

Six out of 10 of the 1,055 participants surveyed from mid-January 2023 through April 6, 2023 reported spending at least 16% of their income on Medicare in 2022. However, the findings did not differentiate between traditional Medicare and Medicare Advantage.

“While we don’t have an ‘average’ spending amount, our survey indicates that the median amount reported as health care cost spending for 2022 was about $4,800,” Johnson said. “Our survey also found that 1 in 5 survey participants reported spending more than $12,828 in 2022.”

Options ‘to manage those costs’

For future retirees who haven’t taken the time to absorb the potentially onerous costs that lie ahead, these reports should be eye-opening.

“I’s important for people with Medicare to understand what they may have to spend out of pocket for their health care and what their options are to manage those costs,” Noel-Miller said.

For example, there are programs that help people with limited resources pay for their premiums and cost-sharing, but many people who are eligible are not enrolled, she added. To find out if you’re eligible, start by contacting your state’s Medicaid program or your State Health Insurance Assistance Program (SHIP).

Americans who still have years to retirement might consider contributing to a health savings account (HSA). To be eligible, though, you must be enrolled in a high-deductible health care plan.

An HSA has a triple tax advantage for your retirement savings which is hard to ignore, according to Paul Fronstin, director of health benefits research at the Employee Benefit Research Institute (EBRI). It lets you put money in on a tax-free basis and allows it to build up tax-free, and spend it tax-free for qualified health care expense

One issue: Many workers aren’t using HSAs to their maximum benefit. Of the 13 million HSAs in the EBRI database, only a fraction— 12% of the account holders— invested their HSAs in assets other than cash.

“Even if you aren’t able to save in an HSA, save for health care costs in retirement anyway you can, as soon as you can,” Fronstin said.

(Getty Creative)
(Getty Creative) (Hill Street Studios via Getty Images)

While that’s great advice, it’s not as easy as it sounds.

“Something you often hear is a recommendation that people save more in their working years to provide a greater financial cushion for health care costs they might incur in their older years,” Cubanski said. “But that doesn’t recognize the financial reality that most people simply don’t have the means to save much of anything during their working years to meet their day-to-day needs, let alone needs they might have for health care in retirement.”

As healthcare costs continue to rise, “there is no ready-made solution to the problem of high out-of-pocket costs,” she said.

“A more comprehensive approach might be to fill these coverage gaps in Medicare to improve the financial protection that the program provides," she said, "but doing so would be quite costly and there hasn’t been much appetite for the additional spending that would be required of the federal government.”

Kerry is a Senior Reporter and Columnist at Yahoo Finance. Follow her on Twitter @kerryhannon.

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