How To Keep Health Insurance Cost Down in Your Retirement Prior to Medicare
Troy Sharpe: If you’re thinking about retiring before age 65, which is when Medicare kicks in, this may be one of the most important videos you watch all year, because I’m going to tell you how to keep your health insurance premiums down, which if you don’t plan, could cost you 1500 to 2000, even though per month for private insurance.
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Hi, I’m Troy Sharpe, CEO of Oak Harvest Financial Group, CERTIFIED FINANCIAL PLANNER™ Professional (CFP®), host of the Retirement Income show, and also a certified tax specialist. One of the biggest mistakes that I often see when people come to see us either a week before they retire, or they just retired this week, last week, a month ago, six months ago, is there wasn’t enough proper planning leading up to that retirement date. If you’re going to retire before 65, your health insurance premiums could range from $1,500 a month to maybe up to $2,500 per month. This is one area of the economy that is experiencing big cost increases for many years, is the cost of health insurance and cost of healthcare in general.
When we look at how much you’re expected to spend in retirement on health care expense, it’s counterintuitive. The healthier you are over time, actually the more money you’ll spend on healthcare. When we get to retirement and you’re 62 or you’re 64 or you’re 60 or 58, however old you are when you retire, if it’s before age 65, one of your biggest expenses is health insurance premiums. I’m going to talk to you about how we can keep those expenses down. First, we have to understand a little bit about Obamacare and how the subsidies work from the Federal government.
The American Rescue Act, which was recently passed as a result of the Coronavirus pandemic, has given us an opportunity for the next two years, so this is 2021 and 2022. What I’m going to tell you about is in effect. Now, things could change in 2023. They are actually expected to, but who knows what will happen at that time? We’re focusing on 2021 and 2022.
Okay. The first thing we have to understand is how is the premium subsidy. For those of you who don’t know, the government will give you money essentially to help pay for your health insurance premiums.
We have to understand how is that calculated and how do we receive that money, because it can be the difference between you paying three or $400 a month and $2,000 per month for your health insurance or anywhere in between. There’s three primary components to determining if you qualify for a subsidy, but the rules have changed. This is very important to understand. Then we’re going to tie it all into planning, the financial and retirement planning. First off, the amount of income. You have to tell the government in advance, how much income you plan on making for this subsequent year.
If you are wrong and you make more, you will get a bill at the end of the year for the health insurance subsidy that you received but you didn’t qualify for. Long story short, your income is the primary component. The percent you are required to pay towards your health insurance premium, it’s a function of your income. We’re going to look at a chart in a minute. But depending on what your income is, that determines what percent you are required to pay of your health insurance. The American Rescue Act caps this at 8.5% of your income. There is no limitation based on previous year’s Obamacare rules, where if you made more than 400% of the federal poverty limit, you weren’t eligible for a subsidy.
That has gone away. Now, you still may not qualify for a subsidy, but through proper planning and what we’re talking about here, we’re trying to get you more prepared if you are a year away or six months away or wherever you are in your journey to retirement, to be prepared for this potentially large expense. The third one here is the cost of a benchmark plan. What is a benchmark plan? A benchmark plan is the second-lowest silver plan in your area. This varies by your state. I did a quick Google search before recording this video and apparently, the average cost of a benchmark plan, which is the second-lowest silver plan on the marketplace and the exchange, is about $380 per month.
The actual subsidy that you qualify for is the difference between what you’re expected to pay and the cost of the second-lowest silver plan in your area. Again, this varies by state.
Once we understand that, the next thing we need to understand is what is the federal poverty limit. If you’re a single filer and you make 12,880 or below, you are considered, according to the federal government, in poverty. If you’re a married family, $26,500 is the federal poverty limit. Okay. Here is the chart. This is going back to what we just talked about, your income and the percentage you are expected to pay.
If you are a family of four and you make 300% of the federal poverty limit, if you’re married, filing jointly, and you make 300% of the federal poverty limit, which is 26,500 is the limit. Okay. Three times that, you’re expected to pay 6% of your income towards your health insurance. The difference between what that number calculates to and the cost of the benchmark plan in your area, that is the amount of subsidy you are to receive. Once we understand how the subsidy that we could receive is calculated, and you’re thinking about retiring, of course, you have to figure out how much you need for retirement. This is income planning. This is retirement planning. Once we have an idea, let’s say it’s $70,000 a year.
Well, we need to have properly prepared leading up to that retirement date, to where we have choices of where we can take our income from. What we want to do is we want to manage what’s known as our Modified Adjusted Gross Income. Essentially, it’s all of your income with tax-free income from possibly municipal bonds added back in. This is before your standard deduction. This is before your itemized deductions. It is not before what we call above-the-line deductions. Okay? Retirement account contributions can reduce your Modified Adjusted Gross Income.
There’s not many things else. Your charitable contributions don’t reduce it. Your interest deduction does not reduce your Modified Adjusted Gross Income. Look up AMGI, Modified Adjusted Gross Income, this is a very, very important number in retirement, not just to calculate what your income is to qualify for a subsidy, but also later on in retirement, it’s a very important number to determine several other retirement income planning numbers. Okay. Once we get to retirement, this is really where the magic takes place. This is what income planning is and tax planning. Now, it’s not just about investments.
If you follow this channel, you understand this. Retirement planning is about so much more. The first decision we have to make, let’s say you’re 63, 64 is, do you turn on social security? If you’re married, do you turn it on for your spouse as well? Well, your social security income impacts your Modified Adjusted Gross Income. Should you turn it on? Should you defer it? Which choice not only gives you the most security today but gives you and your family the most security over long period of time? Then, what we like to see is three different buckets, essentially, of money that has different tax characteristics. NQ, this stands for non-qualified.
This is money you’ve saved over the course of your life outside of your retirement account, outside of any retirement account. Could be in the bank, could be a brokerage account, could be any type of money that is outside of a retirement account. Then we have the IRA. This is where the 401k goes. Once you retire, you roll it over to individual retirement account. The 401k is simply your workplace plan. The IRA is an individual personal plan. There’s no tax, there’s no transfer fees, there’s no cost to roll your 401k into that IRA. Now, this is your individual retirement account.
Then you have the Roth IRA. This is the tax-free account. I hope you have a Roth IRA. If not, this is a big part of your retirement because the Roth IRA is 100% guaranteed to be tax-free forever. I know some of you were thinking, well, the government may come back and change those rules. There’s no precedent whatsoever for the government to ever come back and change a rule like that. You’ve paid the taxes on that money. You’ve entered into an agreement with the government as far as this account and how it will be tax-free forever. All of those gains forever will be tax-free.
Now, in retirement, we have to decide essentially, where are we going to take our money from and how much. If you need $70,000, how much are you going to take from here?
How much are you going to take from here? Should you take from the Roth, the tax-free account? Also, we need to be considering doing Roth conversions. That’s where we take money from this tax-infested account and transfer it over to this tax-free account. When you do conversions, there’s no limitation on how much income you make and you can do an unlimited number of conversions or an unlimited amount of a conversion, but the tax planning is identifying what makes the most sense for you and your family this year, but also over time.
Okay. Getting back here to health insurance premiums, depending on the calculations, the cost of the benchmark plan in your area, your income, and also the percent you are required to pay, that can help us manage your Modified Adjusted Gross Income helps us determine with that information, should we turn on Social Security. Social Security has its own set of taxation rules, depending on how much modified adjusted gross income you have, Social Security is either 100% tax-free, 50% of it is subject to income tax, where 85% of it is subject to income tax.
We could turn Social Security on maybe and take non-qualified money and all of this is 100% tax-free, then we could do a big conversion over here to the Roth and still qualify for the subsidy. That was a lot, I know you probably did not follow that but my point here is that there are a lot of options when we properly prepare. We don’t want to retire and have all of our money inside this retirement account, we want to have choices, choices give us flexibility, it allows us to pivot our spending strategy, our income strategy, our tax strategy, whenever we retire. Laws will change laws are consistently changing.
We have a big tax change coming up at some point this year, more than likely. This law right here was just passed a couple of months ago, or a few months ago when we’re talking about the American Rescue Act, and how that has changed how it’s calculated if you qualify for a subsidy, which can help reduce your health insurance. Maybe we don’t take Social Security and we take $40,000 from here because we’ve already paid tax on this money. Then maybe we take 30,000 from here, okay, that’s going to give us a modified adjusted gross income of approximately 30,000, the amount we distributed from the IRA.
Will we go back and do that calculation, we see well, we could also have another $30,000 of income, which would increase our MAGI, Modified Adjusted Gross Income up to 60, we still qualify for the subsidy, maybe your health insurance is $300, $400 a month but then other 30 we’re going to do a Roth conversion with because that’s going to improve your retirement over the long-term. As you can see, there’s any number of combinations of when to take Social Security, because you have two spouses here in this example. You may take one Social Security, let the other one deffer. Take a certain amount of money from here, take a little bit from here, maybe none from here, do the Roth conversion.
This is what retirement income planning and tax planning is about. It’s not just identifying what makes the most sense for this year, it’s about being able to look at this and model various decisions that you make today out over a number of years so you can see the impact that the decisions you make today have on the grand picture. That’s what retirement income and tax planning is about. It’s not just about I’m retired, let me go buy an S&P index fund, a bond fund and figure the rest out accidentally. That’s how you make mistakes. That’s how you don’t optimize retirement.
Income planning, controlling, managing your Modified Adjusted Gross Income, you do that by strategically taking money from the various tax buckets, taking social security at a certain time but we don’t just want to do that for today, we want to understand about tomorrow, the next 5, 10, 15, 20 years, how do all these decisions that you’re making now, how do they impact today, but then also, how do they impact the next 10, 20, 30 years of your retirement? I wrote this little note here about required minimum distributions.
These are forced distributions from your retirement account, you must start taking a percentage out each year, and that percentage increases as time goes on and it creates a fully taxable situation. If you’re forced to take out 50,000, or 70,000, or 100,000, it’s based on how much money you have in your retirement account and how old you are. The older you are, the more you have to take out percentage-wise.
So Modified Adjusted Gross Income becomes very important tomorrow, because require minimum distributions if we leave too much money inside our retirement account, and that balloons to a big number because we’re following what’s known as the conventional wisdom advice, which tells us to defer those IRAs as long as possible. Meanwhile, we’re telling you, you need to get money out of those. If we follow that conventional wisdom and we don’t do any planning, no income planning, no tax planning, we don’t model out over the future and look at the interaction of all these decisions and how they impact one another, we could be stuck with very large required minimum distributions.
On top of our Social Security income, on top of maybe a dividend income, or interest income, or our pension or whatever other sources of income we have in retirement, which could significantly bump up our Modified Adjusted Gross Income. Now your Medicare premiums are being impacted post 65. Right now you can go from paying $155 per month per spouse for Medicare Part B to over $500 per month per spouse, depending on your income threshold there. I believe it’s about six thresholds, income thresholds, that once you get over a certain level of income in retirement, then you’re on Medicare your premiums increase. Net investment income tax, it’s a 3.8% surcharge on your net investment income.
If RMDs on top of your Social Security and other income bump, you’ll cross the separate threshold income threshold based on MAGI, all of a sudden, now you’re paying a 3.8% surcharge on your investment income. We have a new tax law coming into effect this year, I can almost guarantee you that there will be an additional income threshold for something related to Modified Adjusted Gross Income if you cross over a certain threshold that you will have to kick into either Social Security fund or Medicare fund because those programs obviously are in a little bit of financial trouble. Something like that will be a part of this huge bill that they’re going to pass.
Managing MAGI, not just today for your health insurance premiums before 65 is important, you want to have the flexibility to take your income from various places. Understanding the impact of your decisions today, how they affect everything down the road can help create a retirement plan that gives you more security, that gives you more income, gives you more wealth, helps you keep more in your pocket but most importantly, our clients want to optimize their retirement, they don’t just want to wing it and just see what happens. Optimization is the name at this stage of the game. We’re going to have a link down below if you’d like to schedule a conversation if you’d like to look at your personal situation.
Now we don’t sell health insurance. I can’t help you with the cost of health insurance plans in your area, but the financial planning, the retirement planning, the income planning, the tax planning if you get us that information, we can build an analysis to look at your today, to look at your tomorrow. There’s always a link down below to schedule that phone consultation to see if you’re a good fit for what we do.
If you like this video, hit the thumbs up if you don’t like the video, hit the thumbs down, subscribe to the channel, hit that little bell icon, and also share this video with a friend or family member, help them understand how important of a concept this is. This could save them tens of thousands of dollars, not just this year, but over a series of years depending on how long they need to buy private health insurance before Medicare age.
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