Health insurance options for the early retiree

Entering retirement can be both thrilling and intimidating at the same time. The thought of “hanging up the cape” and permanently leaving the workforce behind can be viewed as unburdening and relieving to one individual, but completely frightening to another. Regardless of the viewpoint you have on retirement, it will undoubtedly come with new challenges and troubles to overcome. Among the different problems to solve for retirement, one of the biggest challenges is that of health insurance.

For those age 65 and older, or certain younger individuals with disabilities, Medicare has you covered. Medicare is the country’s health insurance program managed by the federal government, and once you enroll initially, there is very little management that you have to do throughout retirement.

But what about those who retire earlier than age 65? An early retirement is certainly achievable, but requires careful planning, especially when it comes to your healthcare. This article will enlighten you on the different healthcare options available for early retirees, with a focus on the Marketplace. If you are not familiar with what the Marketplace is, don’t worry, we will get to the details soon.

Health insurance options for early retirees (pre-age 65)?

If neither you nor your spouse will be covered through an employer plan, fear not! There may be more options than you think. Below is a brief summary of a few options. I highly recommend speaking with your financial advisor about which route makes the most sense for you.

COBRA – A law that allows employees and their dependents to keep their group coverage from their former employer’s health plan. This coverage can last for 18 months after termination from the employer, but beware, this can be very costly.

Medicaid – Though unlikely for some retirees to qualify due to the low-income requirements (i.e., in Utah, coverage is available for those with household incomes up to 138% of the federal poverty level), this may be the cheapest option for those that do qualify. However, many doctors don’t accept Medicaid, so you may have to change your primary providers if you qualify for coverage.

Christian Healthcare Ministries – This is not traditional insurance, but rather a Christian-based method of sharing the costs with others around you. Each member pays a monthly premium, and then those funds are used to help members cover their healthcare costs.

The Marketplace – Finally, we have the Marketplace, which tends to be the route most early retirees take. For this reason, I want to expound upon how the Marketplace insurance really works.

The Marketplace – What is it?

In March of 2010, the Affordable Care Act (sometimes called Obamacare) was passed with the goal of making health insurance more affordable. The law provides individuals and families with government subsidies (otherwise known as premium tax credits) that help lower the costs for households with an income between 100% and 400% of the federal poverty line (as a reference, in 2022, 400% of the federal poverty level for a retired couple is $73,240). The federal government operates the Health Insurance Marketplace, or “the Marketplace” for short, which is an online service that helps you enroll for health insurance. You can access the Marketplace at HealthCare.gov.

How does the Marketplace  work?

First and foremost, I recommend you work with a trusted, licensed health insurance agent to help you navigate the waters of the Marketplace, especially if you’ve only ever received health insurance through your employer. There is no additional cost to you to use an agent – they will be compensated by the insurance company directly. You can then tell the agent any specifics you are looking for with your coverage (such as certain doctors, hospitals, etc.) and they can help narrow the available plans down to your liking.

That being said, let’s look at how this actually works.

You can enroll in health insurance during open enrollment, which generally runs from November 1st – December 15th for coverage starting January 1st of the following year. You also have the option to enroll during a special enrollment period, which is based upon major life events, such as a change in household or residence.

As an early retiree, you’ll be rewarded a special enrollment period, so don’t feel like your retirement date needs to line up with the open enrollment period. During this special enrollment, you’ll have a 60-day window to enroll through the Marketplace.

During enrollment, you will fill out an application with basic personal information. Included with this application, you will give them your best estimate on what your income will be for the coming year (the Marketplace uses your Modified Adjusted Gross Income – MAGI – to define “income”).

Please note that the Marketplace does not use your previous year’s income, but rather your projected income for the next year – an important distinction for retirees. If your projected income falls between 100% – 400% of the federal poverty level, you will qualify for a government subsidy to help cover the premiums associated with your insurance. If your income is above the 400% level, you will not qualify for a subsidy and will have to pay the entire premium yourself. For 2021 and 2022 ONLY, as part of the American Rescue Plan Act (ARPA), the subsidies were extended to those with income beyond the 400% poverty line, but unless more legislation is passed to extend these benefits, starting in 2023, the law will revert back to pre-pandemic rules.

One common question is what happens if your income doesn’t end up being exactly what you projected it would be on the application? The answer is that you will reconcile any differences when you file your taxes.

If your income was less than what you projected, you’ll get a credit as you qualified for more of a subsidy throughout the year. If your income was more than what you projected, you will have to pay some of that subsidy back. Generally, this isn’t that big of an issue unless you projected your income to be less than 400% of the poverty level but it was actually more. In this case, you will be required to pay back the entire subsidy, even if your income was only $1 more than the threshold.

For this reason, I suggest consulting with your financial advisor to pinpoint what your income will be through your early years of retirement.  I also suggest you speak with your advisor on potential planning strategies available to control your Modified Adjusted Gross Income, as there are certain strategies that can help you qualify for a subsidy while enjoying the income you desire throughout retirement. For an example of how this might work, my colleague Mark Whitaker wrote an article in 2020 describing a case study exploring some of these strategies.

As far as the plans that are available, the Marketplace ranks them in four different categories – Bronze, Silver, Gold, and Platinum. The Bronze plans typically tend to have the lowest premiums, but they are also more catastrophic plans, with high deductibles and out-of-pocket maximums. Gold and Platinum plans typically tend to be better plans as far as coverage but have higher premium costs. Again, working with an agent can help you navigate which plan is best for you.

Conclusion

There is much more to the Marketplace as well as to these other healthcare options mentioned than can be discussed in this article, but hopefully, this provides you with a framework of the options you have as an early retiree. An early retirement is certainly achievable for those who are prepared and who understand how their healthcare needs can be met.

Learn more about how we can help you prepare for retirement, or schedule a free consultation.

How Will I Pay for Health Insurance in Retirement?

Bob and Patricia are 60 years old and would love to retire as soon as possible. It’s not uncommon to meet people like Bob and Patricia who have been saving diligently, setting money aside into their 401(k)s, making wise investments, and living below their means with a desire to transition into retirement as early as possible. Unfortunately, health insurance for them to retire before age 65 can now cost as much as $2,000 per month for a high deductible health insurance plan, even for someone who has significant savings, this additional expense can make early retirement unaffordable.

In the past, many people were able to leave the workforce and continue to receive health insurance through a former employer. These retiree health insurance plans would bridge the gap between the time that someone left the workforce and the time they began receiving Medicare benefits at age 65. Unfortunately, most of these benefits, along with other retirement benefits like generous pensions, have gone the way of the Dodo bird. If you are one of the few that still have these benefits available to you, count yourself very fortunate. So, is there a way to retire before age 65, and purchase affordable health insurance? The answer is yes! But it requires special planning.

The Affordable Care Act

The Affordable Care Act, also commonly known as, “Obamacare” contains a provision that provides health insurance subsidies to Americans below certain income levels. To qualify for a health insurance subsidy or discount, your household income cannot be more than four times the federal poverty line. The federal poverty line is based on the number of people in your household. Looking at Table 1., four times the federal poverty line ranges from $49,960 in 2020 for a household of one, all the way up to $138,360 for a household of six. Since Bob and Patricia have a household of two, they would need to have an income below $67,640 in 2020 to qualify for a subsidy, and the subsidies are significant.

Table 1. FEDERAL POVERTY GUIDELINES (YEAR 2020)
# In Household Federal Poverty Line (FPL) 2-Times (FPL) 3-Times (FPL) 4-Times (FPL)
1 $12,490.00 $24,980.00 $37,470.00 $49,960.00
2 $16,910.00 $33,820.00 $50,730.00 $67,640.00
3 $21,330.00 $42,660.00 $63,990.00 $85,320.00
4 $25,750.00 $51,500.00 $77,250.00 $103,000.00
5 $30,170.00 $60,340.00 $90,510.00 $120,680.00
6 $34,590.00 $69,180.00 $103,770.00 $138,360.00
http://www.healthreformbeyondthebasics.org/wp-content/uploads/2019/10/REFERENCE-GUIDE_Yearly-Guideline-and-Thresholds_CoverageYear2020.pdf

For example, Bob and Patricia, Utah residents, would receive $1,345.29 per month if they reported an income of $65,000 for the year. If Bob and Patricia were to choose a high deductible Bronze plan (See Table 2.) that would typically cost about $1,227 a month. Applying their subsidy of $1,345.29, they wouldn’t have to pay a monthly premium. Now let’s say they select a gold plan that costs $2,403 per month; they would only have to pay $1,058 after their subsidy is applied. That’s a savings of over $16,000 a year in healthcare expenses.

Table 2. EXAMPLES OF HEALTH INSURANCE PLANS AND IMPACT OF SUBSIDIES
Plan Bronze Plan Silver Plan Gold Plan
Monthly Premium $1,227.40 $1,856.76 $2,403.36
Subsidy $1,345.29 $1,345.29 $1,345.29
After Subsidy $0.00 $511.47 $1,058.07
Quotes ran August 2020 at www.healthcare.gov. Based on a household of two with an annual modified adjusted gross income of $65,000

You might be thinking, this sounds great, but I’m not sure I’m willing to restrict myself to only living on an amount that’s below the threshold to qualify for these discounts.

Well, here’s where the planning comes in. The discounts are based on your modified adjusted gross income (MAGI). We need to be careful not to confuse this with cash flow coming into the household.

Modified Adjusted Gross Income (MAGI)

Let’s look at how the tax code defines modified adjusted gross income for health insurance – to determine your modified adjusted gross income, the tax code looks at your adjusted gross income (AGI) and adds back in a few income sources that are normally not included. Three of the most common income sources that must be added back into AGI to come to the MAGI calculation are:

  • Excluded foreign income
  • The Non-taxable portion of Social Security
  • Tax-exempt interest

Once MAGI is calculated, there are ways to keep your income below the 400% of the federal poverty line income limit that would allow you to qualify for subsidies and still have the monthly cash flow you would like.

Let’s return to the case of Bob and Patricia and see how this would work. Let’s say that Bob and Patricia have saved $3,000,000 for retirement. These savings include pre-tax accounts like 401(k)s and IRAs, tax-free accounts like Roth IRAs, and after-tax brokerage investment accounts. Bob and Patricia decide that they would like to have $100,000 per year in income. Bob and Patricia can control how much of their $100,000 income are included in their AGI by choosing which accounts they take distributions from.

Example: Bob and Patricia decide to take out $50,000 from Bob’s IRA over the year for income. They then supplement their IRA income by taking out $50,000 from Bob’s after-tax brokerage investment account. Bob is careful not to sell stocks that have embedded capital gains, which would be added to their MAGI. This means that Bob and Patricia will be able to enjoy $100,000 per year of income but only report about $50,000 on their taxes. This would allow them to then qualify for the significant health insurance subsidies.

This example doesn’t consider things like capital gains, interest, or dividend income that would likely be applicable in their case. These items need to be considered, so careful planning is required. However, the point remains that this strategy would allow someone to enjoy the amount of income they prefer, while simultaneously qualifying for significant subsidies for health insurance.

One last note on health insurance subsidies for early retirees. When you apply for health insurance during open enrollment, you will have to estimate your income or MAGI for the following year. For Bob and Patricia, this means that they would state their income on the application as $50,000 using the numbers from the example above. You might ask, what if my income ends up being different from my estimate? Any difference in income between your estimate and actual income will be reconciled when you file your taxes for the following year. If your actual income is higher than the estimate you used on your application, you would be required to pay back a portion of the subsidy you received. If your actual income is lower than your estimate, you may be eligible for a higher subsidy, which would be paid to you as a tax credit.

In my experience, this isn’t much of an issue unless your actual income is so high that you wouldn’t have qualified for a subsidy at all. In this case, you would be required to pay back the entire subsidy you received throughout the year. In Bob and Patricia’s case, this would mean coming out of pocket $16,000 to pay back the subsidies they received based on their income estimates.

Careful planning is the key. If you understand and follow the rules you can receive significant benefits, if you mess up, you’ll go from thinking you’ve saved money to having to pay out large sums at tax time.

There are other aspects of this planning strategy for early retirees that I haven’t mentioned in this article, but this is a good start. I would recommend you consult with a qualified financial professional that is knowledgeable in the detailed tax rules associated with the Affordable Care Act before attempting to implement this strategy. If you’ve prepared well, early retirement is an achievable goal. Health insurance is a significant expense, that can derail your ability to retire early. However, there are powerful planning strategies available to the well informed to help you retire with confidence.

Mark P. Whitaker, MS, CFP®, CRPC® is a financial advisor and partner with Peterson Wealth Advisors, an SEC-registered investment advisor practice located in Utah. Peterson Wealth Advisors specialize in helping successful professionals transition into retirement and helping clients through retirement by providing expert investment and financial planning advice. Peterson Wealth Advisors are the only retirement specialists who offer the Perennial Income Model™, a proprietary investment approach that matches a retiree’s investments with their current and future income needs. Mark holds a bachelor’s degree in Personal Financial Planning from Utah Valley University and a master’s degree in Financial Planning from The College for Financial Planning. Mark is a Certified Financial Planner™ professional and holds various other industry-recognized certifications. Mark loves his country; he served for 11 years in the Utah Army National Guard, including a deployment to Afghanistan. Mark loves his family and lives with his wife and children in Provo, Utah.