Young Retirees: Can you use Obamacare before Medicare? (Morningstar)

Obamacare and the Early Retiree

One of the biggest risks for the early retiree has been the rising cost of health care and the pressure on savings when health issues arise.  

Helen Modly and Tommie Monez, 04/17/2014

We've all seen it--clients who are unrealistic about their spending habits, overly optimistic about the strength of their portfolios and the direction of the markets, and who just can't wait to embark on a leisurely retirement in their 50s or early 60s. But all too often, health-care expenses in the period between early retirement and Medicare eligibility have cratered those plans and dreams.

Enter Obamacare. Love it or hate it, the Affordable Care Act (ACA) offers an element of predictability in the health-care marketplace. Premiums based on pre-existing conditions are a thing of the past. The only criteria for setting premiums are age, geography, family size, and whether or not the applicant is a smoker. And, interestingly, not all states consider smoking status when setting premiums.
Levels of Coverage  There are four levels of coverage designated as Bronze, Silver, Gold, or Platinum. Premiums are lowest at the Bronze level and highest at Platinum. The difference is the out-of-pocket costs, which are highest for Bronze and lowest for Platinum. Bronze plans cover approximately 60% of the enrollee's total cost, 70% for Silver, 80% for Gold, and 90% for Platinum.

All plans must cover "essential health benefits" such as preventive care, prescription drugs, lab services, mental health treatment, pediatric care, maternity care, hospitalization, and emergency services (with no pre-authorization required). There are no longer lifetime limits on the amount of coverage.

Health-Care Premiums  Under the old rules, basically there were no rules. The insurance companies could use occupation, age, health history, or more to determine premiums. Under the ACA, rates for older adults cannot exceed three times the rate of a younger person. This is the heart of the concern that not enough young people will participate in ACA plans for the economics to be financially viable. However, this pricing restriction can be very beneficial to the younger retiree.

Premium Subsidies This is where the planning opportunity comes in. Government subsidies in the form of a tax credit will be available to help pay insurance premiums based on income. This assistance is available for people with family income that is between 100% and 400% of the federal poverty level. For 2014 that range is $15,730 to $62,920 for a family of two.

Premium calculations for purposes of the subsidy are based on the second lowest-cost Silver Plan, although the participant is free to choose a higher- or lower-cost plan. The maximum premium for those eligible for the subsidy is between 2% and 9.5%, based on family income. Since health-care premiums are higher for older people but the amount of the subsidy is based on income, the older enrollees derive a greater relative benefit.

Family income is defined as modified adjusted gross income (MAGI) using the IRS definition. MAGI includes wages, salary, foreign income, interest, and dividends. It also includes non-taxable income (i.e., muni bond interest) and non-taxable Social Security income. MAGI does not include income in the form of gifts or inheritance, and it does not take assets into account.

Here's how it works:

•  Sally and Russell are 62-year-old non-smokers earning $40,000 per year. This is 258% of the Federal Poverty Level
• Their maximum premium is 8.28% of income, or $3,312 per year ($276/month)
•  Annual premium for the Silver Plan is $14,500 (varies by state)
•  Government subsidy is $11,188 (77% of the plan cost)
•  Premium cost for Sally &  Russell is $276 per month if they choose the Silver Plan
•  In this Silver Plan, the maximum annual cost for health care is capped at $12,700 over and above the premium. Preventive services are covered without cost sharing.
•  For planning purposes, the worst-case scenario would be health-care costs of $16,012 per year ($3,312 premiums + $12,700 out-of-pocket expenses), or $1,334 per month.
• Cost sharing varies according to the plan type. A Platinum plan would have the highest premiums and lowest cost sharing limits.

How to Enroll An open enrollment period will be scheduled at the end of each year to purchase coverage effective the following year. 2014 open enrollment is Nov. 15, 2014, through Feb. 15, 2015. Coverage begins Jan. 1, 2015, if enrolled by the end of 2014. Enrollment may also be allowed throughout the year if there is a qualifying event such as marriage, birth of a child, or loss of employer coverage.

Is There a Catch? The premium subsidy is only available for participants who sign up using the exchanges, also known as the marketplace. Participants who purchase qualifying plans through health insurance brokers are not eligible for the tax credit. Clients who prefer to use a specific physician may find that the doctor participates in broker-sold plans, but not necessarily in the exchange-offered plan.

Individual health insurance plans in place on or before March 23, 2010, are grandfathered under ACA. They are not required to provide the essential benefits mandated by the ACA and therefore do not qualify for the premium subsidy.

What Happens if the Participant Makes Too Much Money? This is similar to any other underpayment or overpayment of taxes. When applying for health insurance on the exchange, applicants give their best guess as to income for the coming year. They can apply all, part, or none of the subsidy to the premium. At tax time, the account is settled as part of the personal income tax filing. If the income estimate is too high, some or all of the subsidy may need to be returned. If income is lower than expected, or if the taxpayer elected not to apply the subsidy to the insurance premium, the subsidy will come in the form of a refund.

Making the Numbers Work

•  Lower the MAGI--Bronze plan participants may be able to contribute to a Health Savings Account, which reduces the MAGI.
• Contribute to an IRA--If the early retiree has worked part time or retired during the year, he or she may be eligible for a deductible IRA, which will reduce the MAGI--a great last-minute planning opportunity.
• Prepare income and dividend projections for the existing portfolio.
•  Consider dividend and income before making changes to asset allocation.
• Determine whether or not smoothing income or staggering high- and low-income years provides the greater benefit.

The system was designed to make health-care costs comprehensive and affordable at all income levels. Right or wrong, by ignoring assets as a criteria, the system can also provide benefits for those who are relatively affluent. Whether or not the early retiree is eligible for subsidies or prefers to shop outside the exchanges, advisors now have better tools for predicting future health-care costs than in the past. Removing the fear of financial ruin due to unpredictable health-care costs should make for a more carefree retirement.

Social Security - When to Start Taking Your Benefits (NY Times)

Social Security at 62? Let’s Run the Numbers

By JOHN F. WASIKMAY 14, 2014

FOR many retirees, Social Security benefits are seen as hot money on the table, to be devoured as soon as possible. But as with preparing and savoring a fine meal, a careful approach and delayed gratification may yield the highest rewards from the program.

Many financial planners advise that you wait as long as possible before receiving benefits. Despite this, a sizable number of Americans who have reached 62 — 41 percent of men and 46 percent of women — apply for Social Security at 62, the earliest age at which you can take payments. The way Social Security works, this will lock in the lowest possible payment for life.

Individual dollar totals over the course of a retirement are never easy to predict, but unless your current health prognosis is gloomy, the longer you expect to live, the more sense it makes to delay benefits.The “early” approach works if you need the money immediately. A lot of people, especially the millions who haven’t saved much, do need it. But the decision would penalize you over time. You would be passing up a progressively higher benefit available in each of the next eight years. This period includes when you reach what Social Security calls your “full retirement age” — 66 for those born between 1943 and 1954, as old as 67 for later arrivals — and what might be called a bonus period after that, ending at age 70.

By receiving Social Security at 62, you take a haircut on potential future payments of 30 percent compared with a 6.7 percent reduction at 67. For those waiting until age 70, Social Security offers an 8 percent yearly rate of increase in payments (not including cost-of-living adjustments) over taking benefits at 62. That easily beats what you would earn in government bonds these days.

The “wait to take” strategy makes even more sense when you consider longer life spans. On average, women reaching age 65 today can expect to live to age 86 and men to 84, according to the Social Security Administration.About a quarter of this group will live past 90. If you’re relatively healthy and there’s longevity in your genome, you’ll probably need the extra money.

Then there is the cost-of-living adjustment, making Social Security one of the few inflation-adjusted retirement benefits around — at least for now. But keep an eye on Washington: Several proposals have been floated to trim the cost-of-living adjustment, though none have made it through Congress and all are likely to be extremely unpopular among current retirees and near retirees.

Prof. Richard H. Thaler, the University of Chicago behavioral economist and Sunday New York Times columnist, said that with most people claiming Social Security benefits within a year of eligibility, “they are passing up a chance to increase the most cost-effective way to get more inflation-protected annuity income, which is to delay claiming. For those who are strapped for cash, it may be better to start drawing down their 401(k) assets sooner and keep building up their Social Security credits.”

The extra dollars gained add up in a profound way for those who delay benefits until 70. Assuming a “full retirement age” of 66, a $1,000 monthly payment at that age becomes $1,320 at 70 if the recipient waits until that age to begin drawing it.

Uncle Sam’s 30 percent waiting bonus is in addition to any money you contributed to your other retirement plans and savings during those eight years of delayed payments, assuming you didn’t make withdrawals and were working or contributing to your savings. And keep in mind, there’s also the persistent power of compounding, which will multiply your nest egg, depending on how you invested and rate of return.What if you chose to work past 62 and then collect Social Security at 70? In addition to the boost in Social Security benefits, your 401(k) could grow significantly in those eight years, even with conservative assumptions. Let’s say you had a $250,000 balance in your 401(k) at age 62 and decided to stay in the plan by contributing 10 percent annually with a 50 percent employer match (up to 6 percent). At a modest 5 percent rate of return, based on an $80,000 salary and 3 percent annual raises, you’d have nearly $482,000 at age 70. But things get more complicated if you have a spouse and you choose to work longer.

There are some tricky rules regarding how spousal and survivor benefits are paid, so it would be worthwhile to talk to a qualified financial adviser or the Social Security Administration to see how to reap the maximum benefit. The simple math here is that higher-earning spouses should wait as long as they can before taking Social Security. The higher his or her preretirement income, the higher the spousal or survivor’s benefit. Conversely, it’s less of an advantage for the lower-earning spouse to delay since benefits are tied to lifetime earnings.

For same-sex couples, the process would work the same, but with one wrinkle: Couples have to be legally married and live in states that recognize the union. All of the other eligibility rules apply.

Another strategy is that the higher-income spouse can file for benefits, then ask the Social Security Administration to suspend payments. Then, the lower-earning spouse files for a “spousal” benefit — half that of the higher earner. This produces some cash flow until the top earner files for the maximum payment at age 70 and the other spouse can file for his or her regular benefit, which would also be a higher payment. It’s an interim strategy that might work for those who want to work longer or semi-retire.

“Focus on the full lifetime benefit for both spouses and delay until 70,” said Marty Allenbaugh, a certified financial planner for the mutual fund firm T. Rowe Price. “Protecting a survivor’s benefits is really important.”

Howard Hook, a C.P.A. and financial planner in Princeton, N.J., says you need to consider a wide range of health, income and tax issues before making a decision. While it’s tempting to take early benefits because of ill health, many underestimate their longevity.

“It comes down to your needs, not your health,” Mr. Hook advises. “Who’s working? Who has a pension? What kinds of savings do you have? If they don’t need the money now, I’m likely to tell clients to defer taking Social Security.”

Yet another approach — if you don’t mind locking in a lower payment — is to take Social Security at age 62 and let your nest egg grow as long as possible before withdrawing funds. That’s assuming Social Security and other savings, if available, could cover your daily living expenses. To make that determination, you would need to prepare a cash-flow analysis showing how much you and your partner or spouse need to cover your weekly expenses, then run a calculation showing how your savings could grow under certain assumptions like rate of return, additional contributions and employer match. You could work with a financial planner on this or use any number of free calculators on the Internet. Be sure to evaluate tax considerations and the effect on future payments to survivors.

Although Social Security math gets gnarly when two people are involved, there are a number of calculators that can help you reach a decision. TheSocial Security Administration provides simple tools to help you calculate retirement age, longevity estimates and benefits. T. Rowe Price has a free tool that can work with Social Security’s numbers.

Keep in mind that Social Security can be a small but integral part of a complex puzzle of pensions, annuities, savings and other sources of income. A certified financial planner, certified public accountant or chartered financial analyst can review possibilities that take into account all of your assets and your tax situation.

The best decision allows you to maximize income, build your nest egg and not worry about running out of money.

A version of this article appears in print on May 15, 2014, on page F2 of the New York edition with the headline: Social Security at 62? Let’s Run the Numbers