The cost of healthcare is one of the big unknowns that countless soon-to-be retirees have to wrestle with. After all, if you underestimate the cost, you could end up with a big shortfall, particularly if you face an unexpected illness, surgery or injury. Even if you remain healthy for a large portion of your retirement years, you will still have to shell out a lot more than you probably think. (For advice on lowering those bills, see Top Tips for Reducing Healthcare Costs in Retirement.)

Consider this: According to Fidelity Investments, a couple, both age 65 and retiring in 2016, could expect to spend $260,000 on healthcare over the course of their retirement. That’s up 6% from $245,000 in 2015 and doesn’t take into account the cost of nursing or long-term care, which can be pricey. Long-term care insurance provider Genworth estimated an assisted living facility would cost $43,536 a year, while a semi-private room in a nursing home would cost $82,128 a year.

Anyone close to retirement who is thinking of relying on Medicare to cover healthcare needs will be in for a shock, too. Medicare covered 62% of an individual’s medical expenses in 2013, according to a 2017 report from the Employee Benefit Research Institute (EBRI). Of the rest, private insurance covered 13% and out-of-pocket spending, another 13%. Researchers expect that "individuals are likely to have to pay greater shares of their overall costs" in the future, due to "the financial condition of the Medicare program and cutbacks to employment-based retiree health programs." NOLO Press puts the percent of medical services and doctor visits (not hospitalization) covered by Medicare Part B at closer to 50% when you consider uncovered expenses, co-pays and the possibility that a chosen physician may not accept assignment. And Medicare’s share could decrease in the future, according to EBRI, with retirees potentially on tap for more of their healthcare costs down the road.

The upshot: According to EBRI, married couples with high prescription drug costs may need $349,000 to fund healthcare costs in retirement – not counting long-term care. Even with Medicare, retirees are going to pay more for healthcare than many are accustomed to under employer-sponsored health plans or Affordable Care Act plans.

Know the Ins and Outs of Medicare

To more accurately estimate how much you need to save for healthcare costs in retirement, you first have to understand how Medicare works. (Read more at Medicare 101: Do You Need All 4 Parts?) What's called “original Medicare” is basically broken into Parts A and B, which pay for hospitalization and doctor visits, tests, and a long list of treatments. Retirees who go with original Medicare start with a relatively low premium, although higher income retirees will have to pay more (see The High Net Worth Guide to Medicare).

However, as detailed above, Medicare doesn't offer sufficient protection against high healthcare costs. People who rely on original Medicare will likely need to buy supplemental insurance with a Medigap plan to cover bills Medicare won't pay (read How to Choose a Good Medigap Plan).

In addition, prescription drug coverage is offered under Medicare Part D, which retirees need to sign up for and buy within a limited time or they will be charged a penalty. There are various Part D plans and not all medicines are covered under each plan. Retirees need to make sure to choose a plan that covers the drugs they need. How to Pick the Best Medicare Part D Plan for You will take you through the steps.

Another option is Medicare Advantage, also known as Medicare Part C, which generally covers all of Parts A and B as well as Part D prescription drugs. Advantage plans generally cost less than an original Medicare plan – especially when you add in the cost of Medigap and Part D – and cover more. However, they may limit your choices of doctor and hospital (if you've been on an HMO, you will find them similar). They also generally limit the area in which you can receive services (original Medicare is national) so they aren't ideal for snowbirds and other retirees who live in more than one state during the year. Going out of plan could rapidly make Medicare Advantage cost more than the services you buy with original Medicare/Medigap/Part D, if out-of-plan doctors or facilities are even allowed. On the other hand, if an Advantage plan fits your needs, it can provide excellent value. (For more on these plans, see Medigap vs. Medicare Advantage: Which Is Better?)

That’s not all: Long-term care isn’t paid for under Medicare. And, according to the U.S. Department of Health and Human Services, 70% of people age 65 or older can expect to need some form of long-term care in their lifetime. How to Choose the Best Long-term Care Insurance will update you on some of your options.

Estimate Out-of-Pocket Costs

In addition to understanding the ins and outs of Medicare, you need to estimate your out-of-pocket costs will be if you need to visit a doctor or have a chronic illness that requires specialists and maintenance medicine. You also have to plan for vision and dental expenses, which are generally not covered by Medicare (though they are sometimes covered by Part C plans). Even if you are healthy entering retirement, it’s smart to have a “rainy day” fund for healthcare emergencies, such as an unexpected illness or injury.

The Internet is full of calculators that can help you figure out how much money you might need for healthcare in retirement. AARP’s Health Care Costs Calculator, for example, lets you determine the potential costs based on your age and health. Once you have an idea of what it may cost each year for doctor visits, tests and medicines, you can save toward a more realistic goal. Pre-retirees who are enrolled in a high-deductible health plan that is coupled with a health savings account (HSA) can use the account to save money for qualified healthcare expenses in retirement. Tax-advantaged contributions can be rolled over each year, so it’s a good way to accumulate money for health costs. (Read more here: Managing Healthcare Costs in Retirement.)

The Bottom Line

Healthcare is likely to be one of the biggest expenses people face in retirement, which is why it’s important to have a realistic idea of how much it will cost – and plan for it. Before you retire – or right now, if you are already retired – sit down and estimate what your monthly and yearly costs will be. Compare traditional Medicare, plus Medigap and Part D with a Medicare Advantage Plan. Figure in the costs of vision and dental care, and amass an emergency fund. Add in or consider premiums for long-term care insurance.

Understanding how Medicare works, calculating your potential out-of-pocket medical costs in retirement and taking advantage of an HSA are all ways to help ease the burden of medical care when you exit the workforce.

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