Retirees are in for two major financial shocks during their senior years, according to the Center for Retirement Research. These big bumps in the road include the death of a spouse and a spike in medical expenses -- and both can lead to a dramatic decline in living standards if you're not prepared for either.
The good news is that while these are financial "shocks," they aren't entirely unexpected. It is inevitable that one spouse will pass away first, and, unless you're very lucky, it's also inevitable health issues will arise.
To find out how these financial shocks might affect your retirement, and to discover some things you can do to be prepared, read on.
How two big financial shocks impact retirees
As you age, and particularly after age 75, there's a significant increase in the likelihood you'll face an extraordinary medical payment above $400 and greater than 1% of household income during the course of the year. The chart below shows the likelihood of your family incurring such a payment, based on age.
Unfortunately, health declines have proved to be a clear predictor of financial hardship. When self-reporting health status on a five point scale, each one point decline in health was associated with a 1% increase in financial hardship. Financial hardship, in this case, referred to cutting back on essentials such as medication or food.
Becoming a widow or widower has also been shown to increase financial hardship. While most couples enter retirement with two surviving spouses, wives typically outlive husbands -- and whichever spouse lives longer is estimated to need around 79% of the couples' combined income to maintain the same standard of living. Unfortunately, widows typically end up with just 62% of combined income when a husband dies, and one in four women who outlive their husbands are left with 55% of combined income or less.
The Center for Retirement Research warns tomorrow's retirees will be less equipped to cope with these financial shocks than current retirees because Social Security is expected to replace a smaller share of their pre-retirement earnings and because they're less likely to have defined benefit pension. Tomorrow's retirees will be more reliant on savings, and most have too little of it, so health issue and the loss of a spouse will hit harder. Future retirees, in other words will need to do more to be prepared for both a spouse's death and for extraordinary healthcare expenditures.
Preparing for the death of a spouse
While no one likes to think about being widowed, it's important your financial plans address the inevitable fact that one spouse will pass away first. Some options to be prepared for the death of a spouse include:
- Choosing the right Social Security claiming strategy: It often makes sense for married couples to maximize survivors' benefits by having the higher earning spouse delay claiming Social Security for as long as possible. If you can live on the lower earner's Social Security and the higher earner can wait until age 70 to claim benefits, you can earn delayed retirement credits. Whichever spouse lives longer will be able to receive survivor's benefits based on this higher benefit amount.
Consider maintaining life insurance through retirement: While it can become expensive to maintain term life insurance as you age -- and whole life policies are almost never worth it -- being insured as a senior sometimes makes sense. If your spouse will have little income if you pass, maintaining coverage could keep your spouse from falling into poverty.
Look into joint annuities: A joint annuity could be purchased to provide guaranteed income that will last until both spouses have passed away. By choosing a deferred annuity, you can set the payout date in the future, rather than to begin immediately when both spouses are bringing in income. Later in retirement, when it's more likely one spouse will have passed away, the deferred annuity will provide a bigger payout.
If you haven't ensured you'll have enough income when your spouse passes, you may need to consider big lifestyle changes such as downsizing or moving to a lower cost of living area when your spouse dies.
Preparing to cope with healthcare expenditures
Healthcare is inevitably going to cost a lot as a senior. In fact, the Employee Benefit Research Institute estimated a senior couple with high-cost prescription drug needs would need around $370,000 saved just to cover the costs of care. You should make a plan as early as possible in your life to save for this costly care.
One of the best options available to you is to invest in a health savings account throughout your life. If you have a high deductible health plan and are eligible to put money into an HSA, you can invest with pre-tax dollars and withdraw money tax free for healthcare expenses, giving you a tax break on both ends.
If you don't have an HSA and you're already in retirement, shop for a Medigap or Medicare Advantage plan carefully to get the right coverage for your situation. You can also talk with your doctor about your costs concerns, as doctors are often able to provide advice on lowering out-of-pocket expenditures.
Working with an attorney to make a Medicaid plan can also allow you to protect your nest egg in case nursing home care becomes necessary. Medicare and most private insurance won't cover routine nursing home care and long-term care insurance can be prohibitively expensive, but there are ways you can qualify for means-tested Medicaid without first impoverishing yourself.
Being prepared means financial shocks won't cause hardship
When your spouse passes away or you get diagnosed with a serious and costly illness, the last thing you want to do is worry about money. By making plans to provide for a spouse or cover healthcare needs, you won't have financial concerns so you'll be able to focus on what matters -- improving your health or moving forward after your loss. Put your plans in place now so a financial shock won't compound the tragedy of a spouse's death or a major medical issue.