Ever since the Social Security Administration announced that there would be no cost-of-living adjustment for benefits in 2016, financial advisers have been clamoring for guidance about how to protect their clients from a steep increase in Medicare premiums next year.
The bottom line: For most clients, it is foolhardy to abandon a strategy to postpone Social Security and earn delayed retirement credits of 8% per year in order to avoid a one-year hike in Medicare premiums.
Or as David Cechanowicz, director of education for Social Security Timing, noted in a recent missive to advisers: "This sort of thinking is like prescribing a lobotomy for a headache."
For example, an individual entitled to Social Security benefits of $2,000 per month at full retirement age of 66 could increase his monthly benefits by 32% or $640 per month by postponing benefits until age 70. If married, that delay could increase the couple's lifetime retirement income by more than $100,000 and also lock in a maximum survivor benefit for the remaining spouse.
In contrast, the base Medicare Part B premium is expected to increase by about $55 per month — $660 for the year — to around $160 per month in 2016. Medicare beneficiaries whose modified adjusted gross income, which includes tax-free interest, exceeded $85,000 for singles or $170,000 for married couples in 2014 will pay even higher premiums in 2016.
First, a little background about how Social Security benefits and Medicare premiums interact.
Most retirees have their Medicare Part B premiums, which pays for a portion of doctor visits and outpatient services, deducted directly from their monthly Social Security checks. Normally, annual Social Security benefits outpace increases in Medicare premiums so net benefits still increase even after the larger Medicare deductions.
Over the past year, general inflation has been too low to trigger an annual cost-of-living adjustment in Social Security benefits for 2016. But health care costs continue to rise. Deducting a higher Medicare premium from a flat Social Security benefit would result in a net decline in monthly benefits.
The "hold harmless" provision of the Social Security Act prevents that from happening to most retirees, protecting 70% of beneficiaries from a decline in benefits from one year to the next due to increased Medicare costs. So no increase in Social Security benefits means no increase in Medicare Part B premiums for the majority of beneficiaries in 2016. They will continue to pay the base premium amount of $104.90 per month for Medicare Part B.
A similar situation occurred in both 2010 and 2011. After two years of no cost-of-living adjustments, Social Security benefits increased 3.6% in 2012 and Medicare premiums, which could then be spread over all beneficiaries, actually declined.
Financial advisers are rightly concerned that many of their clients will not be included in the protected class of retirees and will face steep Medicare premium hikes next year. But taking steps now to avoid next year's Medicare premium increase could be very costly in the long run for most retirees.
About 30% of Medicare beneficiaries will pay more for Part B next year, including those who enroll in Medicare for the first time in 2016 and those who are currently enrolled in Medicare but who are not yet collecting Social Security benefits. The latter group includes those who filed and suspended their benefits in order to collect a larger amount later as well as those who continue to work and who don't want to collect Social Security benefits before full retirement age because they are subject to earnings restrictions. (If you continue to work and have health insurance coverage through your employer or your spouse's employer, you do not need to enroll in Medicare B and will not be affected by next year's premium increase.)
In addition, those whose income is above the $85,000/$170,000 threshold that triggers Medicare premium surcharge will also pay more for Medicare Part B next year.
Medicare is funded through a combination of general revenues, earmarked payroll taxes and premiums. Earlier this year, the Social Security and Medicare Trustees projected a 52% increase in Part B premiums to cover a portion of program costs. But if 70% of retirees are protected from paying the higher premium, the remaining 30% of beneficiaries must shoulder the entire burden.
Medicare beneficiaries whose income falls below the income threshold can find shelter in the hold harmless provision if they immediately claim Social Security benefits and have their Medicare premiums deducted from those benefits. They must receive Social Security benefits for both November (paid in December 2015) and December (paid in January 2016) to avoid the premium hike next year.
But only a small select group would benefit by accelerating their Social Security claim to this year to avoid the Medicare premium hike, said William Reichenstein, head of research for Social Security Solutions.
"This Medicare issue is not a major issue and should not affect decisions about when to collect benefits," Mr. Reichenstein said during a recent webinar on the hold harmless provision. "Not many individuals should change their claiming strategies," he added, noting the best candidate is a single individual who is now 69 and who had planned to wait until 70 to claim. "It may pay to go ahead and lock in a lower Medicare premium," he said.
"Advisers who are asked by clients whether they should file based on the premium difference should remind clients of the reasons you decided on the strategy in the first place and the value it created," said Mr. Chechanowicz. "Then remind the client that this challenge is not new, it's not permanent, and the cure is worse than the disease."
The Centers for Medicare and Medicaid Services has not yet announced the Medicare Part B premiums for 2016, and there is hope that Health and Human Services secretary Sylvia Matthews Burwell could exercise some discretion over those costs. In addition, several bills have been introduced in Congress to prevent the premium hike next year.
But it is unlikely anything will happen in time to affect clients who must decide immediately whether to claim Social Security benefits for November. However, individuals who claim benefits now could suspend their benefits in January and continue to pay the lower Medicare premium for 2016, Social Security spokesperson Dorothy Clark confirmed.
(Questions about Social Security? Find the answers in my ebook.)
Mary Beth Franklin is a certified financial planner.