Show Notes

• (00:45) Can We Afford to Retire? Big Al’s Quick Retirement Calculator – from episode 176
• (09:33) When Should We Claim Social Security? (Larry, Columbus, OH – from episode 296)
• (15:55) How Can We Reduce Taxes in Retirement? Roth IRAs: YMYW vs. Edelman (April, IL – from episode 212)
• (29:31) Are We Prepared for Medical Costs in Retirement? Long Term Care Insurance vs. Self-Insuring (Tom, CO – from episode 213)
• (37:17) How Will We Fill Our Time in Retirement? Why Early Retirement Can Be a Killer (Marketwatch – from episode 163)

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Transcription

Joe and Big Al are all about having a plan for retirement. Today on Your Money, Your Wealth® podcast 381, using examples from past YMYW episodes, we’ll cover five questions you need to answer before you retire, so you can stay retired. Click the link in the description of today’s episode in your favorite podcast app to access free financial resources to help you answer each retirement question, and to send in your own money queries. Click Ask Joe and Big Al On Air in the podcast show notes and send them in as an email or a priority voice message. I’m producer Andi Last, with the hosts of Your Money, Your Wealth®, Joe Anderson, CFP® and Big Al Clopine, CPA. The first question you need to ask is, “Can We Afford to Retire?”

Can We Afford to Retire? Big Al’s Quick Retirement Calculator

Al: I got a surprise for you.

Joe: Yeah I heard, you’ve got a new retirement calculator.

Al: Yeah. This is original content by Alan Clopine. (laughs)

Joe: All right well let’s see it.

Al: So because we’re about to start up our new TV show season, so I’m trying to come up with some new thoughts because this is season 5. And it’s like how many ways can you have a show to say, “here’s how you figure out if you’re on track for retirement.” So I guess the formula – and people have heard us say this before, but I will repeat it. Like, let’s just say you want to spend $75,000 in retirement. And most people don’t even know what they’re spending. So take a look at your net pay and your net paycheck. Maybe it’s whatever, let’s just say it’s $5,000 every two paychecks – $2,500 per pay and you get paid twice a month, so that’s $5,000 per month is your saving, 12 months, that’s $60,000 is what you’re spending. If you’re married maybe you add your spouse’s to that, and then you’ve got to figure out. “am I spending more than that or less?” In other words, I am I charging up my retirement accounts and my home equity loans? So in other words, I’m spending more, or am I actually saving? Maybe I’m spending less. But you got to start with that figure – what you’re currently spending.

Joe: How many people do you think know that number?

Al: Well they don’t. That’s why I’m giving you a shortcut.

Joe: (laughs) How many people do you think will follow the shortcut? That’s the problem though. If they would just spend a little bit of time to figure out exactly what that spending is.

Al: So here’s a 10-minute formula. Take 10 minutes of your life to know whether you’re on track for retirement.

Joe: Right. That’s all you need.

Al: So I’m giving you step one, which is, figure out your spending by looking at your net pay. Now, if you’re a business owner, this is quite much more complicated. So this is for people that are wage earners, they’ve got net pay, and then they get a sense, “Am I spending all of it or am I saving some of it?” And I’m not counting your 401(k) or your 403(b) because that’s already taken from your gross. I’m talking about your net, what’s left over.

Joe: What gets the direct deposit in your checking account.

Al: Exactly. What comes into your checking account, are you spending all of that? Then maybe that’s your average spend. So in our example let’s just say it’s $75,000. Now, when people do that, maybe they’re five years away or 10 years away from retirement, 20 years away. And there’s a problem – that’s inflation. And so I tried to come up with a simple calculator for inflation. You can go online and get all these calculators. So if you’re driving around, stop the car, get your pen out. (laughs) I just used the 3% inflation rate. We use like 3.7% at Pure Financial, just to be more conservative. It’s been closer to 2% the last decade. But anyway, 3% is a pretty good average for the last 100 years. So I’ve used 3%. And here’s how it works: if you’re going to retire in five years from now, your expenses are 16% higher. So let me give you an example. So you take $75,000 times 1.16. That’s 16%. And that gets $87,000. So here’s where you need a pencil is to write down these figures: if it’s five years from now, you’re going to have to at 16% your expenses. If it’s 10 years from now you’ve got to add 34%. If it’s 20 years from now, you have to add 81%. 16, 34, 81.

Joe: So 20 years from now, the dollar, is basically what you’re saying, is going to lose 84% of its value?

Al: 81% is correct. In other words…

Joe: Or I need two dollars or just about $1,84 to buy a dollar’s worth of goods today.

Al: If you think about something that you’re spending a dollar for today, it’s going to cost you $1.81 20 years from now. 16, 34, 81, five year, 10 year, 20 year. So that’s your factor.

Joe: Oh those are going to be household factors soon.  4% rule? We’re going to have Big Al’s Inflation Factors.

Al: Keep repeating it: 16, 34, 81. 5, 10, 20. Anyway. So here’s my example. You figured out that your net pay is $75,000 and that’s about what you’re spending. So you’re going to want to retire five years from now. So you take 75 times 1.16. So you take that 16%, which is .16 for you mathematicians, and you add it to 1. And so you just take 75 times 1.16. If it’s ten years, you take 75 times 1.34 and so on.

Joe: Yes, we’ve been there. Let’s just do 1.16.

Al: A lot of people need refreshment.

Joe: No, all they’re getting now is just numbers. (laughs)

Al: So anyway. So in other words, five years from now, you’re going to be spending $87,000 to have the same lifestyle at a 3% inflation rate.

Joe: Got it. Can we call it 90?

Al: Yeah, we’ll call it $90,000. We’ll round it up.

Joe: So $75,000 today, if you want to retire in five years, assume a 3% inflation rate, you need $90,000.

Al: Yeah that’s right. So if you need that, then you look at your Social Security, figure out what that is. And so let’s just say your Social Security and pension plan is $50,000, for example. So you’d need $90,000, your fixed income is going to be $50,000, so your shortfall is $40,000. And here’s the thing that we don’t often talk about is the inflation factor. So that’s why I wanted to throw that in, because if you retire just a few years from now, it can be fairly different numbers depending upon inflation. But using that figure – if you need $40,000, then you take that times 25 – that’s another factor I want you to memorize – and that would tell you, $40,000 times 25 is a million bucks. That’s how much you would need. And then sometimes people say, “well forget about it. It’s impossible. I’m never going to retire,” or “this is hopeless” or whatever. But the truth is, and I just did a little example of somebody that – in my example, I didn’t round – I had $87,000 minus $50,000. So in other words, the shortfall was $37,000 times 35. That’s $925,000 is what you need. If you’ve got $600,000 today – I know that’s a lot, but let’s just say you did – you’d need to save $22,000 a year at 6% and you’d get to $925,000. Interestingly enough, if you have $691,000, call it $700,000 right now. I know you like to round. Then you don’t need to save a penny. If you can earn 6% per year you get to that $925,000. And a lot of times, people are 10 or 20 years out, and they see they need a million bucks and they’ve only got $250,000. But the power of compounding money… Just the rule of 72 means you take 72 and divide it by a number of years and that’s the rate of return that you need to double. And the easiest one is 7%, which is roughly 10 years. In 10 years your investment doubles. So $250,000 becomes $500,000, $500,000 becomes a million. That’s without saving another dollar at 7% over 20 years. So that’s how this can work. So don’t get too frustrated if you’re way off the mark. It depends upon how much longer you have to work and how this can work.

Joe: 7%, do you think that’s reasonable? 20 years?

Al: I think it’s reasonable if you have probably a 60/40 maybe 70/30% allocation – a little bit more aggressive, maybe.

Joe: Yeah I think you’re right.

Al: However the market, the CAPE ratio is pretty high. So some people would say maybe we’re not going to have as high a return. Nobody knows is the thing. We do know that stocks outperform CDs and bonds over the long term. But we also know that when stocks are high, the future expected return is lower than if stocks are low – then the future expected return is higher. So it’s hard to know exactly. I typically use a 6% in something like this. I think that’s more conservative. Some of you might want to use a 5% and that’s fine. But anyway, this step, if you’ll take this step… I’ll tell you what, if it was just too much, I’m going to write this down. We’re going to put it in our show notes, and so you’ll have the example, you can follow it on our podcast.

Click the link in the description of today’s episode in your favorite podcast app to download that Quick Retirement Calculator from the podcast show notes to find out if you’re on track for retirement. That segment was from YMYW episode 176 in July 2018, by the way – the Your Money, Your Wealth® TV show is now in season 8! Click the link to our YouTube channel in the podcast show notes to subscribe and watch on demand. The next question you need to answer before you retire is “When Should We Claim Social Security?” Joe and Big Al answered that question for Larry in Ohio:

When Should We Claim Social Security? (Larry, Columbus, OH)

Joe: Larry writes in somewhere near Columbus, Ohio. “Hey Andi, Big Al and Joe.” God, that’s annoying. “Love love love the show. Yours is one of the few podcasts in my rotation that I faithfully listened to every week. You are the car talk of personal finance, extremely informative while being incredibly entertaining. I have a question regarding when my wife and I begin to draw Social Security. I’m 58, she is 60. We both retired within the past year. We are considering waiting to age 70 before either of us draw Social Security. We are fortunate to have saved more than significant post and pre-tax savings from which we will draw to pay for living expenses until age 70 and beyond. My expected Social Security payment at 70 will be $3000. My wife’s is going to be $1800. So $4800 combined. We both are in good health and hope to live past a break-even point and maybe into our 90s. My question is, given that we can- given that we can-”

Andi: “- forestall-”

Al: forestall.

Joe: “- forestall-” Forestall.

Andi: Hold off on.

Joe: Forestall and 7 years ago- okay. “- drawing on Social Security until we are eligible for the maximum benefit, should we necessarily do so? Is there any circumstance in which one of us might want to consider drawing earlier or which delaying for a larger benefit is not financially meaningful? Thanks for your opinion and insight.” Okay, so he’s saying hey just because we can afford to forestall our social security benefits, should we?

Al: Yep, that’s what he asked.

Joe: And he’s looking at this as an investment, Alan, not necessarily insurance so we can answer this two ways. I guess the insurance way is- if you think you’re going to live into your 90s then forestall. Because it’s a guaranteed income stream that you’re going to have for the rest of your life.

Al: I would say if you’re both going to live into your 90s, which hopefully you do, then you both delay. If one of you for some reason has impaired life expectancy, I would have Larry at least, then wait till age 70.

Joe: Because he’s got the higher benefit.

Al: He’s got the higher benefit, and then maybe his spouse could then draw earlier. Because if one isn’t gonna make it till let’s say 80, maybe at 75, then you might as well get that other spousal income early and then the- whatever spouse survives the other one gets the higher benefit. So that could be a reason why you wouldn’t do both at age 70.

Joe: Or do you do this. You take it at 62 both of you and then invest it. You don’t need it. You have other assets and then just be more aggressive with it. I mean what’s the goal? Is it like when I die, I’m on my deathbed and I want to add up all the money that I got from Social Security if I took it at 62 and invested it; took it at 67 or 70 and spent it. It depends on what you’re trying to accomplish. If you look at it as an investment you can run any assumption that you want and probably take it early at 62. And then using a fairly high expected rate of return would probably give you the highest amount of money but there are no guarantees there. I guess there are no guarantees in life. We believe that if you push it out as long as you can, it’s a guaranteed income source by the Federal Government promising us that today it has a fairly high probability of paying out vs. getting maybe an 8%, or 10% or 12% rate of return in the overall markets. So you just have to take a look at what risks you’re willing to take.

Al: I think you said it right Joe. The key is we kind of look at this as insurance. It’s backed by the government. And by the way, say what you want about the government, our government also controls the money supply so they’re going to make the payments. So, could they change the rules? Maybe. And so there could be a concern about means-testing. It’s been discussed; there’s nothing in the works right now but means-testing would mean at a certain income level or certain asset level maybe you don’t get all your benefits. It’s possible. There’s nothing being discussed right now and I actually- Joe even if something like that happens it will probably happen for someone probably younger than 50. Wouldn’t you say? It probably won’t happen with the baby boomer generation, which they’re a part of.

Joe: Stranger things have happened because they changed the claiming with the file and suspend and everything else. They grandfathered just a short window of people. Usually, they grandfather a lot larger group of people. But yeah, I don’t know. You look at this. I agree with you. If they got a large pension will they means test it? Probably. It could happen. So, I don’t know. There are all sorts of things that I guess you could look at depending on how you want to look at the system.

Al: But I think the key is that it’s like people look at this as break-even then when you pass away, who cares?

Joe: Who cares? You’re dead. No one’s ever complained and said ‘dammit.’

Al: ‘I should have claimed it earlier.’

Joe: “I should have claimed early. Man.’ They’re on their deathbed. ‘You have any regrets?’ ‘Yes. I should have claimed my Social Security benefits earlier. Dammit.’ Then they croak.

Arm yourself with the information you need to get every Social Security dollar you’re entitled to: download the Social Security Handbook from the podcast show notes at YourMoneyYourWealth.com. The third question to answer before you retire is, “How Can We Reduce Taxes in Retirement?” If you listen to this show at all, you already know Joe and Big Al are likely to say to fully utilize the Roth IRA. Popular financial guru Ric Edelman, however, not so much. In episode 212, the fellas offered their rebuttal to Ric’s anti-Roth stance: 

How Can We Reduce Taxes in Retirement? Roth IRAs: YMYW vs. Edelman (April, IL)

Joe: This is a question that we have received a few times in the past, Alan. And this is from April from Illinois. We used to do a full segment on this, didn’t we usually? What is Ric Edelman saying?

Al: (laughs) Yeah that was a long time ago.

Joe: She’s like, all right well, “what do you think of Ric Edelman’s opinion of Roth IRAs?” So, first disclosure, I’m a big fan of Ric. Al and I know Ric personally.

Al: Yeah we do.

Joe: That’s a name drop.

Al: (laughs) If you’re not in the industry you probably don’t know what we’re talking about. But if you’re in the industry, you go, “oh,  those guys know Ric Edelman. That’s pretty good.” I know him by name. (laughs) How about that? And he knows he knows by me by name when he looks at my name tag at conferences I go to. (laughs)

Joe: (laughs) I think there’s a difference of opinions in some of the planning that we do versus what his firm does.

Al: Yeah I would say there are probably more similarities than differences, but we do have differences.

Joe: I think our investment philosophies are almost right on. Pretty close there. I think when you look at Social Security benefits strategies or claiming strategies, to pension, to life insurance. All of it. But when it comes to taxes, we differ.

Al: Yeah I agree with that.

Joe: And here’s the reason why I believe, is that we are a smaller boutique Registered Investment Advisor with CPAs on staff. We have a very strong financial planning process that monitors all the financial planning that goes through, and we spend a lot of money, basically, on very good talent to make sure that we provide a phenomenal product in regards to planning.

Al: Right, which includes a huge emphasis on income taxes, which most firms don’t really do – including Ric’s firm.

Joe: And I think there’s liability there.

Al: Yes. There is. Right. We’re taking a chance. (laughs)

Joe: (laughs) We’re not taking a chance. It’s like we’re giving value that most firms don’t necessarily want to, because it’s like, well here, they can get tax advice from their CPA. They could get their tax advice from their enrolled agent, or whatever. They can do it on their own. We don’t want to get in that business. We’re in the business of helping them build their wealth via through asset management. 90% of their focus is more or less investment management. You can get a financial plan through Edelman or any of these other fine really fine financial planning firms for maybe a couple hundred bucks. It’s not a financial plan, in my opinion, it’s a cash flow analysis just to see if you’re on track or not. They might run a couple Monte Carlos, and it’ll take them 15 minutes to put together. And it really helps them to identify how many other assets that you have, really to see OK, well what can we do and how much money can we manage. And I think that’s a fact with a lot of firms, and there’s nothing wrong with that because they’re helping them, A, create a network statement, which is key. And then looking at well, what do they need to do with the net worth to help them grow? And if their firm is helping them build wealth, well, God bless them. We take a little bit different stance to say OK, well yes, building wealth is key, but how can you also build wealth from things that you can control. And taxes, in our opinion, are a huge thing that you can control. And so the biggest emphasis that we made since day one with Pure Financial Advisors is that, all right, we want to have the coordination of different professionals, CPAs, attorneys, CERTIFIED FINANCIAL PLANNERS™, money managers, all sitting around the same table looking at things with an objective viewpoint. And I think that’s what made us what, one of the fastest-growing financial planning firms here in the nation.  

April from Illinois, she had sent us a little excerpt from I think Ric Edelman’s… and then did they change his name too, is it now “Edelman Financial Engines?” Is that the official name?

Al: That I don’t know.

Joe: OK. April sent that to us about his opinion on Roth IRAs. if you’ve ever listened to our show before, you probably have gathered that Al and I are pretty large fans of Roth IRAs. And so she wanted to get our opinion. And so let me read this real quick of what Edelman says about Roths, and then we can rebuttal here. From Edelman, he’s like, “First ask yourself what’s the goal of investing? Why put money into an IRA in the first place? Obviously, the goal is to accumulate wealth, as much wealth as you possibly can on an after-tax basis. The question then becomes what type of IRA produces more wealth, the traditional or the Roth? The answer might surprise you,” says Edelman. “If you run the numbers on a spreadsheet, which isn’t hard to do, you’ll quickly discover the answer is neither. It’s a wash. There’s no difference. If you convert to a Roth, you trigger a tax immediately. But converting won’t increase your wealth. So why pay a tax right now that you don’t have to pay?” Let’s stop there, Al. Let’s break this down. What’s he talking about?

Al: All right. So he’s saying, so you pay the tax now and then you’ve got less to invest. Or you don’t pay the tax, you’ve got a higher balance, but then you pay the tax later – a higher tax. But when you do the math, all things being equal, you end up with the same net number.

Joe: So for instance, if I had $100,00 in an IRA, and let’s say I had $25,000 outside of my IRA. So I had $125,000, total.

Al: OK. So that’s your net worth.

Joe: That’s my net worth – $100, 000 in an IRA, $25,000 in a brokerage account. And if I decided to convert that $100,000 into a Roth IRA, the hundred grand of the IRA goes into the Roth. Now I have $100,000 in a Roth. But I have to pay tax to get the $100,000 in and let’s assume I’m the 25% rate. So that cost me $25,000 in tax. Is that fair? Does that make sense?

Al: It does. So you did the Roth, and so now your net worth is only $100,000 because you lost $25,000 to tax.

Joe: Correct.

Al: So you immediately went backwards.

Joe: I went backwards. It’s like why in the hell would you do this?? (laughs) So $125,000 is my net worth. And then if I did the Roth conversion, I had to pay the tax upfront to get that money to grow tax-free. So now I have $100,000 in the Roth. But let’s say you go 10 years out, and the money doubles – it grows at 7%. So now that $100,000 is worth $200,000, but it’s all tax-free. That’s pretty cool.

Al: In the Roth, yeah.

Joe: Ric Edelman’s point is this, he’s like, “let’s say you don’t do anything. You keep the $100,000 in the IRA. You keep the $25,000 in your brokerage account, and you invest them the same. And let’s assume they get a 7% rate of return over the 10 years. And then with that, it will double.

Al: Yes. OK. So that’s $250,000.

Joe: So yeah. That $100,000 is now $200,000 and then the $25,00 is now $50,000.

Al: Yeah. So your total net worth went from $125,000 to $250,000.

Joe: So you’re thinking, “well the $250,000 is a lot more money than the $200,000 in the Roth.” But what are we forgetting?

Al: Yeah. When you take the money out of the IRA you gotta pay tax.

Joe: So if I take the $200,000 out of the IRA, what do I truly net?

Al: Yeah. 25% tax rate, $50,000 tax. So now you end up with $200,000 net, which is the same as what you had in the Roth.

Joe: But how about that $25,000 to $50,000 though? I have to pay tax on that too, right?

Al: Yeah, if there’s gain, you bet.

Joe: Well it did gain, right? It did 25 to 50, so I’ve got to pay a capital gains tax on that. So I think Ric’s math is off a little bit too, here.

Al: Well and plus I mean, that’s like, I don’t know, like a lab textbook case. There are so many other variables that make this so much better. But that’s our starting point.

Joe: So he’s thinking, all right, well it’s a wash. If you pay off your mortgage, do you increase your net worth?

Al: No.

Joe: No.

Al: Because you took one asset and reduced a liability so you’ve got the same net worth.

Joe: When we look at Roth conversions, that’s how we look at it, is that we’re paying off a mortgage. We’re buying our partnership back from the IRS.

Al: Yeah. Because you’ve gotta look at your IRA as though it’s not all yours, because there’s a tax component when you withdraw the funds.

Joe: So there’s a mortgage on the overall IRA. So you’re trying to figure out what’s the best way to get rid of the mortgage or reduce the mortgage as much as you can. So by having money in a Roth IRA, and having money in a traditional IRA, there are many more benefits than just looking at a straight line Excel spreadsheet evaluation.

Al: Sure. Yeah, I agree with that.

Joe: One of the biggest, in my opinion, is that you now have control on your distribution. How much that you pull from an IRA, and then how much that you can pull from the Roth. Maybe you do a 50/50 split. Hey, I’m gonna pull 50% from my IRA, 50% from my Roth IRA. That could keep me in a very low tax bracket, even though I have very high cash flow.

Al: Right. So you’re managing your distributions to keep out of the higher tax brackets.

Joe; That’s one. Two: there is no required minimum distribution on Roth IRAs. So that money can continue to compound for my life, spouse’s life, kids life. Pretty good. Number three: asset location. So if I manage my affairs effectively from an asset location, I will probably have investments in my Roth IRA that have a higher expected rate of return than I would in its standard IRA. Because all of the growth now is going to grow tax-free.

Al: Yeah. So then you have your lower expected return assets in your IRA and you end up with a lot more after-tax money.

Joe: So when I’m considering, now, the tax code itself, of the tax reform, has reduced marginal rates, what, five of the seven marginal rates now are lower? And some of them by a fairly large margin?

Al: Tax rates are cheaper right now.

Joe: So does it make sense for me to pay a cheaper rate today than wait and pay a more expensive rate in the future? That makes sense to me. So that’s another, I think, a win for doing Roth.

Al: Especially right now because very few taxpayers are subject to Alternative Minimum Tax, which substantially increases the tax rate. Plus, we have lower rates. Then, Joe, you combine that with – there are other tax planning strategies that you can do to lower your taxable income that allows you to do Roth conversions in yet a lower tax bracket. You just have to know what they are. And if you put all of these things together, and you do the same mathematics, you come out much better doing the Roth IRA. I will say, if Congress, our government, decides to tax Roth IRAs?

Joe: Well let let let me finish what you wrote here. He goes, “You also asserted that the Roth avoids the requirement to take distributions starting at 70 and a half.” So I’m reading back to Ric’s here. “Can you count on that forever? Be aware that President Obama inserted language in the 2015 budget that would require distributions from Roths at age 70 and a half just as with traditional IRAs.” So Ric is saying, “hey you know what, you like the fact that there is no RMDs? No, they’re going to change it. Barack Obama tried, but he failed. But maybe Trump can do it, or whoever is next.” “So that’s one of my fears about Roths,” says Ric. “The government could change the rules at any time, and do it retroactively. If you won’t reach age 70 for another 20 years, you’ll go through 10 Congresses and maybe five presidents. Are you sure they won’t ever change the rules? Consider that Roths will hold trillions of dollars by then. Money that’s currently tax-free. That’s a pretty tempting target for a legislator trying to generate tax revenue.” All right. So what do you think? Changing the rules on RMDs, Al?

Al: (laughs) I would say changing the rules on a Roth to have RMDs, that could happen. But if it does happen, then that money comes out tax-free. You would have a little bit less control, but still, for all the reasons that we already mentioned, you come up in a much better place. I think the bigger concern is, will they change the whole structure and say, “you know what, Social Security never used to be taxable, and Roths are not taxable. Now, Social Security is taxable. Let’s make Roths taxable.” And I would say that’s highly unlikely for that, just because whenever they made changes in the retirement code before, they’ve always grandfathered the old stuff in.

Joe: You know, last comment on this is that most of the younger generation, the millennials, are putting most of their dollars into Roth IRAs. And so his argument here of saying, “hey, you know, in 10, 20, 30 years from now, there will be trillions of dollars in Roth IRAs, you don’t think they’re going to change it?” But Ric, guess who’s trillions of dollars that is? It’s the people that are going to be in Congress.

Al: And who are they supporting? The people that have all the Roth IRAs that are not gonna stand for that.

Joe: They’re not going to hurt themselves.

Learn as much as you can about the Roth IRA: download the Complete Roth Papers Package from the podcast show notes at YourMoneyYourWealth.com. All these financial resources are free by the way, just click the link in the description of today’s episode in your podcast app and get to downloading. The fourth question to answer before you retire is, “Are We Prepared for Future Medical Costs?” In episode 213, Tom from Colorado called on YMYW to spitball whether he and his wife should buy long term care insurance or self-insure:

Are We Prepared for Medical Costs in Retirement? Long Term Care Insurance vs. Self-Insuring (Tom, CO)

Tom: Hi my name’s Tom. My wife and I are both in our early 60s. I’ve been reviewing long-term health care policies and they don’t really seem to offer a lot of coverage. And I wondered what the analysis is, what kind of financial analysis, in terms of whether I should purchase long-term care insurance or just self-insure that and invest the money to have it there for if and when it’s needed. We have enough assets to self-insure but I’m not sure that’s the wisest thing to do and I’m trying to evaluate this risk. Thank you so much. I appreciate you taking my call.

Joe: All right Tom, thanks so much for giving us a buzz. All right Alan, what do you think? Because Tom is sitting in the same boat that you’re in.

Al: Yeah that’s that’s true. I’m in my early 60s and that’s a decision that you’ve got to look at. So here are a few things I might say, and that is the long-term care insurance, relative let’s say 10 years ago, is a lot more expensive.

Joe: And the benefits have reduced significantly.

Al: And the benefits have reduced. So the actual act, getting those policies, it used to be clearer. Now it’s not as clear to me that there’s a huge benefit. I would say this, honestly, if you can self-insure, there’s nothing wrong with that. It’s just a matter of it’s an insurance – if you want to have the insurance company handle some of that risk, like any insurance policy, if you end up needing it you’ll be very happy you have it. If you don’t need it you’ll be thinking, “why did I do this?”

Joe: But here’s the analysis, Tom, just take a look at what the premium is. So you’re in your early 60s, you’re probably not going to need this benefit for, what, 25 years. Okay? Alan’s going to need a benefit probably a lot sooner than that. (laughs)

Al: (laughs) that’s probably true.

Joe: So let’s say that you buy a policy for $10,000 a year, hypothetically, for $300,000 in benefit. I have no idea. I don’t know what he’s looking at. I don’t know what his elimination period is, I don’t know if he’s getting it with his spouse, to get a spousal discount – there are all sorts of iterations on how you can buy a standalone long-term care insurance policy. And let’s just explain what that is first. A long-term care policy works as – if you have one of your activities of daily living, I guess two out of the four. I think there are four, I’m not an insurance agent but I think there are four.

Al: I think there are four too.

Joe: If two of those go bad, you can’t bathe yourself or clothe yourself, can’t get out of bed, can’t transfer, can’t move… right? And continence?

Andi: Eating, bathing, dressing, toileting, transferring, and maintaining continence.

Joe: OK well  I guess there’s a little bit more than four.

Andi: Six of them.

Joe: Six. So if two of those go bad, then the long-term care insurance would trigger. If you have it. So now you need help – you need someone to help do one of those activities of daily living. And so you can go into a home and have full time care, and that full-time care  – in Colorado, I don’t know, I’m guessing it’s going to cost you 60 to $80,000 a year depending on where you go. You could probably go to a really nice place and it’s going to cost you a couple hundred thousand dollars a year, or you could go somewhere that’s not so nice and it probably cost you $50-60,000 a year. So on average, the average person’s long-term care stay is roughly four years. So if it’s going to cost you $50,000 a year for four years, you know you can do the math somewhat easy. That’s going to be $200,000. So you could say this: all right well $200,000 is what that need is in today’s dollars. So that is also going to increase with the cost of inflation of probably close to, what, 7-8%. So that $200,000 is going to be roughly $400,000. You following my math here folks?

Andi: Just barely.

Al: I got it. I’m with you.

Joe: All right. Thank you. So what Tom needs to do is say, well what’s the need? In future dollars it’s going to cost me X. $400,000 of money that needs to come from somewhere to pay for the care. So he can insure it by buying a long-term care policy and saying, I want to cover that need by either 100%, 50%, 30% whatever he wants to do. So maybe it’s a little bit of self-insure like Al suggested, maybe you fully insure, or maybe you do somewhere in the middle. So you do somewhere in the middle and you say, “I want to cover half of the cost.” So you need $200,000 of benefit, hypothetically. Then you look at what’s the premium going to cost me to get this $200,000 of benefit? And if that cost is $5,000 a year, $10,000 a year, whatever it is, you take that premium dollar that is going to go to the long-term care policy and then you say, let’s say I invest that premium versus buying the policy. What rate of return do you need to generate on that premium dollar to get you to the same pool of money that you would have as the long-term care policy would pay out? Does that all jive?

Al: Right. (laughs) Let me make it simpler.

Joe: That was simple!

Al: I know but I’m going to go back to my answer, which is when you do all this math, what you’re going to find is that by the time you add up all your premiums and put in a rate of return, that sum total is going to be less than your benefit. So in other words, if you need it, you’re going to be glad that you have it. If you don’t need it, it’s wasted money. That’s what you’re going to find after you do all this. And you’re absolutely right. That is the way to do the calculation.

Joe: Yeah. Because I think that’s what he was asking. He’s like, “financially speaking, how do I calculate this, how do I calculate the risk?” Well, the likelihood of you going into a long-term care facility, Tom, is probably pretty high. I mean, it’s higher than other types of risks. And high means, I don’t know, maybe 50%?

Al: Yeah some like that. It doesn’t mean it’s going to be four years, it might be a few days.

Joe: It could, yeah. You break a hip, right? Or you could be like Christopher Reeve and be in there for 20 years. Who knows. Or maybe you die of a massive heart attack or you die peacefully in your sleep.

Al: Yeah. And you don’t need it.

Joe: Yes. But the fact of the matter is that long-term care premiums, or that the benefit, is tax-free. So you got to do a breakeven analysis, but you’re absolutely right, Al. It’s just like I have home insurance and I pray that my house doesn’t burn down. (laughs)

Andi: Actually it’s even more than that – longtermcare.acl.gov says someone turning age 65 today has almost a 70% chance of needing some type of long-term care services.

Al: Yeah but that also could be an in-home service person that comes in once a week and washes your sheets so it doesn’t…

Joe: (laughs) My god I just had the sickest thought in my… oh my god. (laughs)

Al: Of course you would. (laughs)

Joe: Oh boy. Washing Big Al’s sheets, I mean that would – I would want to get paid a hundred grand a washing on that.

Andi: See, and this is why you don’t want to inflict that upon your spouse.

Joe: Oh my goodness gracious. All right.

Long term care is one part of healthcare in retirement, but of course Medicare is a big factor too. Listen to YMYW episode 226, a Medicare Beginners Guide with Everything You Need to Know, courtesy of Danielle Kunkle Roberts from Boomer Benefits. You’ll find it in the podcast show notes at YourMoneyYourWealth.com. Now, the final question you need to answer before you punch the clock is this: “How Will We Fill Our Time in Retirement?”

How Will We Fill Our Time in Retirement? Why Early Retirement Can Be a Killer

Joe: So what, early retirement can cause death?

Al: Well, this caught my attention, Joe. Because now I’m 60, and it says, “why early retirement can be a killer.”

Joe: What do they consider early retirement?

Al: 62.

Joe: That’s early retirement or just early retirement due to Social Security?

Al: Yeah. Now, under the FIRE moment, financial independence, retire early, you could retire at 35 or 40. But no, this is, we’ll call it the baby boomers. And a lot of people pick their retirement age based upon Social Security. And there are three key ages. There’s 62, that’s the earliest you can take Social Security, then there’s your full retirement age which is age 66, where you get your full benefits, and then you can wait till age 70 and get even more benefits. So the sooner you take it, the less income you get for the rest of your life.

Joe: Yeah, but then you look at, you got it at 62, so you had those lower dollars. Let’s say 62 to 70, I can have this income for eight years.

Al: Yeah, that’s right. And it depends, when you look at all kinds of analysis, depending upon when you take it – if you take it later rather than early, the breakeven point is somewhere around 80 years old, give or take, depending upon what assumptions you make.

Joe: Yeah, you can run all sorts of crazy assumptions. “I’m going to take my Social Security at 62 and invest it in a tax-free bond getting 8%.”

Al: Right. We don’t find that happening too often but anyway, so this is the National Bureau of Economic Research. A couple authors did this study, and they found, Joe, that there’s an increase in mortality among men who retire at age 62.

Joe: How many people did the survey?

Al: Doesn’t say. I’m just going to take this at face value.

Joe: Because it’s probably 1000 people. (laughs)

Al: 5000. (laughs) But they’ve got two authors, one from Cornell University and one from University of Melbourne in Australia. They must be smart. But here’s what they found. They found that the increase in death rate is quite large, particularly among males who retire and claim Social Security at age 62. In fact, there’s about a 20% blip. In other words, for the average 62-year-old, and it doesn’t really go into how they measure it, I’m just going to assume that they kind of looked at maybe the next year. But there’s a normal death rate for a 62-year-old. And those men that retired and took Social Security at age 62, there’s 20% more likelihood that they’ll pass away.

Joe: So how do they do that? So at the funeral, they’re asking, “hey, when did he retire?” (laughs)

Al: Yeah. They got all the mortuaries and they just go around these funerals. (laughs)

Joe: They read the obits. (laughs)

Al: And I guess they, I’m not a statistician…

Joe: Or an economist.

Al: Yeah, clearly. (laughs) But this article basically says that this is not a fluke. This is not a statistical fluke. So I’m going to take that at face value for right now. And then they try to figure out, well why is this happening? Because it’s not so much in women, it’s men. And here’s what they say. This is circumstantial evidence, so this isn’t scientific, but this is what they came up with: that that male retirees become sedentary. They often watch more television. They often drink more alcohol. They often smoke more tobacco.

Joe: There you go. That sounds like a great retirement. (laughs)

Al: (laughs) Where do I sign up for that?

Joe: Can I retire tomorrow? (laughs)

Al: Furthermore, unlike women, they appear to have fewer social interactions when they stop working. And I’ve seen that in the men and women that I know. And you and I, Joe, I think most of the people that we know well we work with. And then once we stop working, it’s not that that relationship is severed. But you don’t have that constant contact anymore.

Joe: And I think at any age, let’s say if I go to a house party. I’ll talk to two or three guys. You know what I mean? Like your close-knit friends. And then you see, let’s say if I bring a date, she’s talking to like 30 women. And they’re going crazy!

Al: And they’re exchanging their e-mail addresses, cell phone numbers. “Let’s get coffee together. Glass of wine.”

Joe: I’m like “this guy’s kind of a… get me the hell outta here.” (laughs)

Al: (laughs) Are we too judgmental? Is that the problem?

Joe: I don’t know.  think maybe we get stuck in our ways a little bit differently.

Al: Yeah maybe. So anyway, so I guess I won’t be retiring at 62. Because I don’t necessarily want to sit on the couch and watch television and smoke and drink. (laughs) I’ve never smoked, so that doesn’t really sound very appealing. I do like a beer every now and again.

Joe: Yeah. Because it’s Saturday every day. And so when it’s Saturday it’s like, yeah, I could have a couple cocktails because tomorrow’s SundayThere are no real huge responsibilities. But then all of a sudden if it’s Tuesday yeah you’re sitting at the bar at noon… (laughs)

Al: Something’s wrong. Although I do know when I go on vacation, and Someday when you actually go on vacations, you’ll notice that you did drink more on vacations. (laughs)

Joe: Yeah right. That’s why I don’t go on vacation, Al. (laughs)

Al: (laughs) It would be too tough on your body.

Joe: But I think that’s a good point, that people have to take a look at. The softer side of retirement is that we spend a lot of time on the show on taxes, talking about money. Do you have enough money, how do you create the income, Social Security, everything else. But if you have all the money in the world and you’re sitting on the couch watching reruns of The Family Feud, you know? (laughs)

Al: Yeah, one of our clients I saw about year ago, I was riding up the elevator with them and, “hey, how’s retirement going?” He said, “a lot different than I thought.” He was about a year into it, and I said, “oh, why is that?” He goes, “well, my wife and I love to play bridge. And I thought we’d be playing all the time, but she has these bridge groups, they’re mostly women, so I’m not really invited to them, and I’m just – there’s nothing to do.” So he thought he’d be playing bridge with his wife, and she’s thinking oh no way. I got my own friends. We’ve been doing this for years. (laughs)

Joe: You’re not invited to the club. (laughs) Poor guy. I think it’s just looking at before you retire, of course, you want to make sure that you do have enough capital to maintain the life that you want. But also, start writing things down and what you want to do, what you want to accomplish, what your social circles going to look like and everything else.

Al: And I would say even taking it a step further is start that before you retire. So it’s like let’s say you love to play trumpet. (laughs)

Joe: (laughs) Oh my god we gotta take a break.

Al: So if you want to play trumpet then why don’t you get involved with an orchestra.

Joe: Get in a band, join a marching band. (laughs)

AC: Well I say that because my dad loved to play French horn, and he actually did get in some bands while he was working, which continued when he retired. So Joe, do you play trumpet? I said trumpet because that’s a cool one.

Joe: It’s cool.

Al: I could see you doing that. Or saxophone, ever played a sax?

Joe: Nope, not musically inclined. That’s it for us. We’ll see you again next week. The show is called Your Money, Your Wealth®.

_______

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