PLEASE NOTE: The purpose of this Update is to provide notification that recent proposed legislation, which was passed by both Houses of Congress, could significantly impact Social Security and Medicare. When the legislation is signed into law, we will offer our assessment and how it may affect your retirement planning.
Usually, legislative changes are a result of a slow, and painful process that require multiple debates and concessions on either side of the aisle. However, the new federal budget, which the President is expected to sign into law this week, passed both Houses of Congress with surprising speed and decisiveness. This should be of great concern to most Americans because the bill includes important changes to both Social Security and Medicare.
The objectives are clear: The legislation reduces spending and extends the life of the Social Security and Medicare trust funds, but could come at a significant cost burden to current and future retirees.
Changes to Social Security Claiming Strategies
First, as was already reported, there will be no Cost Of Living Adjustment (COLA) in 2016 for Social Security recipients. The Trustees’ decision related to COLAs should come as no surprise, since for the third time in the past seven years, because of our low inflation rate, seniors will have to make ends meet with no additional financial assistance from Uncle Sam.
You have heard me speak about the number of attractive claiming options inside Social Security planning, which provide retirees with some control over when to file and how much they can receive. Congress is simplifying the filing process by limiting the “File and Suspend” strategy and phasing out the option known as “File Restricted.”
Unfortunately, this may presumably reduce benefits for millions of retirees. To provide some background so that we understand what’s ahead, let’s briefly review the options:
A person who files and suspends at full retirement age (FRA) can continue to accrue credits for delaying benefits until he/she starts taking payments (up to age 70), while a spouse can file and receive spousal benefits. Someone who files a Restricted Application at FRA earns income based on the spouse’s record, then later files for benefits, with accrued delayed credits.
The elimination of the File Restricted option will not apply to retirees who have already taken advantage of this filing strategy or pre-retirees who reach age 62 in 2015. (Effectively, anyone born as late as 1953 will remain eligible to file a Restricted Application.)
Additionally, retirees who have suspended benefits and those who file to suspend benefits within six months of the date the bill is signed into law will be grandfathered in. After the initial six-month extension period, File and Suspend can only be utilized on a very limited basis.
Future retirees may still suspend benefits, but neither that person, nor his/her spouse, ex-spouse (or dependents) is eligible to receive Social Security income until the person who originally filed reinstates benefits. The suspend option will primarily be used by someone who has been receiving benefits for more than one year, but decides to suspend until a later date (up to age 70).
So going forward, does it make sense for people to try to optimize Social Security benefits? Absolutely.
With more retirees facing a reduction in lifetime benefit, couples need to analyze alternative income streams based on various filing dates and actuarially calculated life expectancy. (Personalized longevity projections become even more critical in determining a break-even point and/or optimization level. We have software to help you with this.) Income earmarked for dependents may also play an important role in determining the right time to claim.
Additionally, retirees need to be aware of their actual income after Medicare Part B premiums and surcharges are deducted from monthly Social Security checks and, if applicable, available survivor benefits. (It is important to note that survivor benefits may have a significant impact on the quality of life of the surviving spouse, as this income stream can also be used to pay for rising health care costs or long-term care services.)
Obviously, when developing an investment strategy to fund retirement, income sources such as Social Security and pensions must be incorporated when determining how much savings will be required in a 401(k), IRA, Roth, as well as, the guarantees provided by various insurance companies.
What About Medicare?
I’d previously heard that there would be a 52% increase in 2016 Part B premiums projected by the Board of Medicare Trustees, but the budget bill reduced it to 14.4%.
According to this provision called “Hold Harmless,” Medicare beneficiaries are not required to pay more than the equivalent of Social Security’s annual Cost of Living Adjustment for Part B increases – as long as the retiree is in Medicare’s first income bracket. Basically, the Hold Harmless provision prevents Social Security income from declining year to year. Since there will not be an increase in benefits in 2016, Medicare recipients in the first bracket who earn $85,000 or less in Modified Adjusted Gross Income (or a couple generating $170,000 or less) will not have to pay this year’s projected increase for Part B. However, individuals earning over $85,000 in MAGI (and couples over $170,000), new enrollees, and those who have delayed filing for Social Security benefits but have also enrolled in Part B of Medicare will be expected to pick up the slack and will see their monthly premiums rise by 14.4%.
The question now becomes: how does the Trust Fund reduce a premium decline of 52% down to 14.4%? To start, in 2016, Medicare beneficiaries in the second to fifth income brackets will pay a $36 annual surcharge for five years; this, of course, comes on top of the 14.4% jump; and additional means testing surcharges ranging from 37% to over 200%.
Starting in 2017, the other 70% of retirees whose income falls in the first bracket will pay the annual $36 surcharge in premiums.
I have heard that the Supplemental (MediGap) insurance companies will probably be restricted from covering Medicare Part B deductibles for retirees enrolling after 2020. The theory is that they want to discourage retirees from frequently accessing the system by forcing them to pay deductibles out-of-pocket.
Currently the Part B deductible is $147, but this amount will likely rise by 2020, making a bigger dent in retirement income for beneficiaries.
In listening to the budget debate, a recurring theme has been the belief that it’s only rich people who are using these strategies. I don’t think that’s true. It’s not the wealthy who need these strategies the most. It’s the middle class who have worked hard, raised their kids, sent them to college, and saved all they could.
What upsets me about this proposed legislation is that it changes the goal posts in mid-game without any regard to the disruption in people’s lives. Not only is that unfair, but it is irresponsible on the part of Congress and the Administration. There are so many more efficient ways to stop government waste and balance the budget.
Most of these people don’t have the luxury of a pension and they are finding out that their retirement dollars don’t provide the retirement cash flow that they hoped for. For many, using these Social Security filing strategies is the difference between having enough income, or spending their “golden” years scraping by.
In summary, I think the most important takeaway from these adjustments to Medicare and Social Security is that they will continue to have an impact on both future and current retirees by limiting Social Security income while increasing health care costs. This means advisors like me need to make sure that our clients are educated and informed about changes in the system; and that we discuss any available strategies that can help maintain your desired retirement lifestyle. As always, you can rely upon us to continue to assess these and future changes; to welcome your questions, and assist you in achieving the retirement you deserve.