Wall Street research often dwells on what’s known as “tail risk,” a catchphrase for an dramatic outlier event that upends the best laid plans. So here’s a warning: you may well confront a medical spending tail risk in your 70s and beyond. That’s the strong takeaway from a recent study by five economists and it may persuade you to save more for the possibility of a health-cost gut punch.
Lifetime medical spending of retirees
Almost all Americans are enrolled in Medicare, starting at age 65, of course. Yet they still face the risk of catastrophic health care expenses; Medicare doesn’t cover many long-term chronic health care needs and services. In The Lifetime Medical Spending of Retirees[1] report, the economists determined that people incur an average of $122,000 in medical costs between the time they’re 70 and when they die — mostly paid out-of-pocket, except for low-income people covered by Medicaid.
Some people over 70 face substantially higher costs, however, the study found. Five percent will be hit with out-of-pocket medical bills of more than $300,000; 1% will see theirs total more than $600,000.
The economists say that marital status, personal income and health do play a role in the medical costs after 70. But, they conclude, “much of the dispersion in lifetime spending is due to events realized at older ages.” Translation: luck is the biggest factor in whether you’ll end up with the kind of complex medical needs that add up to out-of-pocket bills north of $300,000.
Two hedges against health care costs in retirement
Many older adults are taking steps to build a financial margin of safety against steep medical expenses late in life. The two most popular hedges: working longer and cautiously spending down retirement savings. Let me take them one at a time.
There are four ways working longer can help avoid dipping into savings to pay for medical expenses:
- A paycheck can make it practical to delay filing for Social Security, boosting the size of your eventual retirement benefit. Your benefit is more than 75% higher if you delay claiming until 70 (the latest age you can) than at 62 (the youngest).
- You can continue contributing to an employer’s retirement savings plan while working, helping it grow larger — if you have access to one.
- The earnings on your investment portfolio will compound longer, also helping your retirement funds grow.
- You need to rely on savings to meet health expenses for fewer years.
Need more proof that working longer can pay off? Consider this calculation from The Power of Working Longer[2], a paper by four other economists who looked at various potential scenarios for people 10 years from retirement. They found that the employees who work just one month longer can get the same increase in their retirement income as if they had added 1 percentage point to their retirement savings rate over that 10-year...