How to Plan for Early Retirement Healthcare Expenses

Early retirement may be just around the corner for you, a goal you’re working toward, or something you are forced into. In all of these circumstances, you’ll need a way to pay for healthcare. 

There’s no official age for early retirement, but it is often considered to be anytime before age 65 because that’s when Medicare coverage begins. If you retire before then, by choice or not, you’re likely on your own when it comes to paying medical bills.

Fortunately, you have many options — COBRA, an ACA health insurance plan, short-term medical insurance. We’ll take a closer look at these choices, how a health savings account can be a tremendous asset no matter when you retire, and what happens when you become Medicare-eligible at age 65, but first, we’ll look at some of the numbers and circumstances surrounding health insurance for early retirees in the U.S.

At What Age Do People Retire Early?

A recent Gallup poll reported age 61 to be the average retirement age among current retirees (that’s still before Medicare eligibility). According to one analysis, more than 26% of current, living retirees said they retired between ages 55 and 61. Nearly another quarter of respondents self-reported retiring before age 56.

Those who are not yet retired said they expected to do so at age 66, according to the Gallup poll mentioned above. Another study reported that 48% of workers expected to retire after age 65, but many of them failed to reach their goal.

Unexpected Early Retirement

We often think of early retirement as something to be achieved through good fortune and careful planning, but financial readiness isn’t the sole reason for early retirement. Not everyone retiring before Medicare early plans on doing so. 

Many individuals have to retire before they are ready. The Center for Retirement Research found that 37% of retirees had to stop working earlier than expected due to health, employment, family or financial circumstances.
Even if a planned early retirement doesn’t seem like it’s in the cards, it’s wise to prepare as much as possible in case you must unexpectedly leave the workforce.

Women Retire Earlier

With longer life expectancy and lower earnings than men, women might find it in their best interests to work longer and retire later. However, women have been retiring earlier than men. In her study, “The Return to Work and Women’s Employment Decisions,” Nicole Maestas, a professor of healthcare policy at Harvard Medical School, found that women actually have been retiring earlier than men. 

Dr. Maestas’ research shows that, specifically in heterosexual marriages, husbands and wives tended to retire around the same time. Because women tend to marry older men, under these circumstances, they retire at a younger age than their husbands.

Women who retire at the same time as a Medicare-eligible spouse will need to find their own health insurance if they are not yet Medicare-eligible. 

Health Insurance Options Before Medicare

Regardless of where you fall into the early retirement mix, there are a few ways to enroll in healthcare coverage pre-Medicare. Three of the more common option include COBRA, ACA plans and short-term health insurance. Which option makes the most sense will depend on your individual situation.

1. COBRA

If you have health insurance through your workplace, you may be able to keep it for awhile under the Consolidated Omnibus Reconciliation Act. COBRA requires certain employers to offer continuation coverage following certain qualifying life events, including retirement.

You have a limited amount of time during which you can elect COBRA following your decision to retire early, and coverage typically lasts up to 18 months at most — that may or may not be long enough, depending on how soon before Medicare you retire.

Pros: You keep your current coverage — same network, same benefits. 

Cons: COBRA is typically your least economical option. You will typically have to pay your share of the premium as well as the amount previously paid by your employer, plus an additional 2% for administrative costs. 

2. Individual health insurance (i.e, an ACA plan)

If you qualify for ACA subsidies, including premium tax credits and cost-sharing reductions, then an individual major medical plan purchased through a state or federal exchange will likely be your most affordable option. 

If you have pre-existing conditions or require ongoing medical, you may also find this to be your best option. ACA plans, like employer plans, must adhere to Affordable Care Act requirements for minimum essential coverage. That means plans must include all 10 essential health benefits.

You can enroll in an ACA plan during the annual open enrollment period or a special enrollment period following a qualifying life event such as having a baby, losing employer coverage or moving.

Pros: ACA plans are guaranteed issue, which means you can’t be denied coverage based on your health history. Your coverage will include 10 essential health benefits, as mandated by the ACA.
Cons: You may not consider this coverage economical if you don’t qualify for subsidies.

3. Short-term health insurance

If you opt-out of COBRA and don’t qualify for an ACA subsidy, then you may want to consider short-term medical insurance. 

Short-term plans include a range of benefits for healthcare related to injuries and unexpected illnesses. They don’t include all of the essential health benefits included in employer or ACA plans. It is for this reason — more limited benefits — short-term plans tend to have lower premiums. (An HSA could help you with expenses, such as preventive care, that may not be covered by your short-term plan. More on this below.)

You can enroll in short-term health insurance anytime of year. If your application is approved, you can begin coverage as soon as the next day. Policies can last as few as 30 days and up to 364, depending on your state.

Pros: Available year-round. Premiums tend to be economical. 

Cons: Availability and policy limits vary by state. Coverage is not guaranteed issue, which means your application could be denied based on your health history.   

Investigate and compare these options, considering their costs as well as their benefits. Hold them up against your financial situation (what can you pay in monthly premium as well as out of pocket) as well as your healthcare needs (do you require ongoing medical care or have risk factors for a medical condition that could require it). If you need guidance along the way, consult a licensed health insurance agent.

Health Savings Accounts

One thing everyone can do to prepare for retirement and early retirement (planned or unplanned) is open a health savings account and start setting as much money as possible aside. The earlier in life you can do this, the better. 

HSAs have three key tax benefits: 

• Contributions are not subject to federal income taxes.
• Earnings to an HSA from interest and investments are tax-free.
• Distributions from an HSA to pay for qualified medical expenses are tax-free.

Once you have an HSA, it’s yours forever. Funds roll over from one year to the next. You can use the money you save to pay for qualified medical expenses whenever you need them as well as your health insurance deductible and coinsurance, prescription drugs, dental and vision care, and more. You can use your HSA right now as well as in retirement. 

How an HSA works during early retirement

If you retire early, you can use your HSA funds regardless of what health insurance you have — short-term medical, an ACA plan, COBRA or anything else. (Once you retire, this also applies to Medicare.) However, if you want to continue making deposits into your HSA, you must enroll in an HSA-compatible high-deductible health insurance plan. 

An HSA-compatible high-deductible plan could be an ACA plan or your existing job-based plan via COBRA. If you don’t know if your plan is HSA-eligible, contact your insurer to find out. If it’s not, look for and enroll in one during the next open enrollment period, whether that be ACA open enrollment or your workplace open enrollment.

For the year 2020, the IRS defines a high-deductible health plan as one with: 

• An annual deductible that is not less than $1,400 for self-only coverage or $2,800 for family coverage.
• Annual out-of-pocket expenses that do not exceed $6,900 for self-only coverage or $13,800 for family coverage.

If you opt for short-term health insurance, you won’t be able to make deposits into an HSA. You can still withdraw your existing funds to pay for eligible expenses, including your plan deductible and coinsurance. 

Once you turn 65, you can withdraw HSA funds for expenses unrelated to healthcare,  but you may be required to pay income taxes on those funds. 

Maxing out your HSA deposits

Grow your HSA as much as possible while can. Depending on your HSA, you may even have the option to invest funds and gain interest.

By making the maximum annual contribution, you may be able to accrue a decent nest egg for future medical expenses. Each year, the limits change. The annual cap on deposits include whatever you put into your HSA as well as any employer contributions.

HSA contribution limits for 2020 are:

• $3,550 for self-only plans. 
• $7,100 for family plans.

If you are age 55 or older, you can contribute an extra $1,000 per year; this is known as a catch-up contribution.

What Happens When You Age Onto Medicare?

Once you become Medicare-eligible, you will no longer need whatever health insurance you chose in early retirement. As mentioned above, you can keep your HSA and use the funds.

Medicare will present you with a new set of decisions to make about healthcare coverage. Will you choose Original Medicare or a Medicare Advantage plan? If you opt for Original Medicare, will you also choose Medicare supplement insurance and prescription drug coverage? 

Here’s a quick overview of your Medicare options: 

Part A (hospital insurance) helps cover inpatient care in hospitals, skilled nursing facility care, hospice care and home healthcare. It is part of Original Medicare.

Part B (medical insurance) helps cover services from doctors and other healthcare providers, outpatient care, home healthcare, durable medical equipment, and many preventive services. 

Part C (Medicare Advantage) Is an “all in one” alternative to Original Medicare. It bundles Part A, Part B and, oftentimes, Part D. These plans are offered by private health insurance companies that follow rules set by Medicare.

Part D (prescription drug coverage) helps cover the cost of prescription drugs, including many recommended shots or vaccines. These plans are offered by private health insurance companies that follow rules set by Medicare.

You will receive a “Welcome to Medicare” packet three months before you turn 65. It will provide you with lots of important information, including deadlines and action items as well as details to help you decide which coverage is best for you.

Looking Ahead

Whether or not you intend to retire early, you’ll want to plan for the possibility. Some things you can do now include familiarizing yourself with different health insurance coverage options, setting a budget as well as setting up and contributing to an HSA. 

Setting aside money for healthcare you’ll receive later may seem like a tall order for some. Everyone’s situation is different. A financial planner can help you come up with a retirement strategy that makes sense for your life.