Paul Ferraresi

(Here is an excerpt from the September 19, 2011 issue of Barron’s Magazine. It is a sobering article written by Frederick G. Marks, co-founder of Cheviot Value Management in Santa Monica, CA. I suggest you go online to read the entire article.)

Medicare provides open-ended, unfunded promises to pay benefits, bank-rolled partly by a dedicated payroll tax and mostly by general-fund taxes and borrowing.

In contrast, insurance companies employ actuaries and underwriters to estimate future expenses and charge appropriate premiums to ensure that money is available to provide the benefits promised.

But in Medicare, the insurers are the taxpayers, with the government administering the program. Medicare has no assets other than future obligations of taxpayers. Medicare’s trustees report that the program faces $38 trillion in unfunded future liabilities ($330,000 per U.S. household).

Medicare’s dire financial condition is due to its design and operation. Medicare payroll taxes are far too low to fund the benefits promised. And fraudulent claims account for 20% to 30% of Medicare expenditures. Medicare’s payment methods allow abuse by way of repeated charges for unnecessary procedures and supplies. Private insurance companies experience far lower losses from fraud and abuse.

Cutting payments to hospitals and physicians is no solution for the financial woes of Medicare. The program already pays less than the costs of hospitals and many physicians — who then try to shift the unreimbursed costs to privately insured patients. That is one of the major causes for the alarming escalation in the price of private insurance, which has been rising 12% a year. Many physicians refuse to accept new patients if they are on Medicare. Cutting payments to physicians will further limit access to their services.

Medicare specifies 467 medical conditions for which it will pay. Unfortunately, Medicare doesn’t allow much payment for a primary-care physician spending quality time with a patient to evaluate his condition, decide on treatment, or make appropriate referrals to specialists.

Insurance companies and Medicaid follow Medicare’s lead. Consequently, primary-care physicians earn about half the average for other physicians, and they work about 80 hours a week. No wonder the number of primary-care physicians is shrinking, as they leave that field in order to retrain in a specialty or to retire early….

According to advice to the U.S. government from the International Monetary Fund, Medicare benefits cannot be paid over the long-term future unless benefits are cut in half or taxes are doubled. Such benefit cuts would greatly damage health care for senior citizens and such a tax increase would thrust an unsupportable burden on younger people.
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Better prepare to pay substantially more healthcare costs out-of-pocket for yourself and your parents.

During my 40 years of practice, I see people under-estimating what they will need in retirement. Aside from the vast text book education I have acquired over the years in this area, I also have had first-hand experience with thousands of my clients who have retired.

I hear people say, “Paul, I feel that we will need only about 75% of our current income to retire.” The actual national average is 91-94% with many spending 103-105% of their final year’s pay. For some reason people leave out a factor for income taxes (which are set to rise in a little over a year) and inflation. That is why they think they only use 75%.

Here is the real item they have left out – health care costs. An average married couple with children pays approximately $300-400 per month for health care. The “street” cost for a Blue Cross/Blue Shield policy is around $1400 per month. That means, your company is making up the difference. (Say Thank You!) Group health insurance has been set up on a socialistic system. That is, the young and healthy workers are paying for the older, less healthy individuals in your company.

If you want “good” health care when you retire, you probably will not go with Medicare. By the way, watch for the bankrupt Medicare system to raise rates and cut benefits shortly in order to survive. (Ah yes, another government program that does not work.) At age 65, a married couple with a private health plan can expect to pay $2000 to $2500 per month with a $2500 deductible. That is $24,000-30,000 per year for the insurance plus the deductible and out-of-pocket costs for medications. Did you add that into your budget for retirement? I think not! So, a couple now earning $100k per year, guesses they will only need $75k. Gross up to pay for taxes and they are up to $95k to $100k. Then add in the new health care costs, more travel and gifts for grandchildren. It is not unreasonable for them to need over $100k.

Most people probably will take Medicare. You know – where the government says it will take care of you. (One of my favorite quotes is: Be careful of those who want to take care of you…for your caretaker will soon become your jailer!) The quality and quantity of service is lacking, to say the least.

Another thing to add to your retirement budget will be long-term care coverage. If you have not started the purchase of this coverage, well, it gets real expensive starting at age 55-60. Oh, you say, you will pay for it on your own instead of buying the insurance. Costs today for care in a nursing home or at-home care averages $6,000-10,000 per month ($72,000-120,000 per year). Remember, a married couple can expect one of the two people to need nursing home services for at least five years. (That is $360,000 to $600,000.) Today’s costs can wipe out your finances. Where will it come from as people are living longer? These costs are going up at a rate of 15-20% per year.

Stop putting your head in the sand and develop a plan for you and maybe your parents, also. Unfortunately, most Americans have been brainwashed to not take responsibility for themselves. Sit down with a professional advisor, face the truth, and get to work on providing a comfortable future for yourselves.

Discipline or regret.

The Fed stopped the QE2 program on June 30, 2011. The whole purpose was to provide liquidity to the Treasury market and to appease the Chinese who hold the greatest amount of Treasury debt. The Chinese were concerned that no one would buy their holdings.

The Treasury wants to widen the pool of potential purchasers of Treasury debt. This will include impossible mandates (where they can do such things) and huge offering incentives (where they cannot get what they want). The rumblings do NOT look good for common folks like you and me.

One proposal is to require 401(k)s to hold a certain percentage of their assets in Treasuries at a risk of losing their tax free status. Another is encouraging pension plans to increase their portfolios with more Treasuries. Here is another… allowing companies with overseas cash to bring it home under a “tax holiday” as long as the majority goes into Treasury debt.

Under such plans (1) your 401(k) returns would be less over the long term, and (2) pension plans would need to increase their holdings from the present 6% to 16%, which would force companies to contribute more, costing companies more and forcing them to cut other costs (jobs).

Thus, Uncle Sam is trying to create demand for Treasury debt via the carrot and the stick. The good part… (hmmm) the U.S. is borrowing money from its citizens to stimulate the economy, so these same citizens will pay themselves back with higher taxes. This becomes an Abbott and Costello routine or a chicken and egg game.

As stated in this blog countless times, get out of your 401(k)s, or, stop contributing at least. Get into a non-qualified program that will grow tax free (not deferred); you take it out tax free and, when you die, it transfers income tax free.

I came across two excellent sites to help you learn about yourself and your finances. Both of them are sponsored by “NEFE”, an organization that I belong to. It is dedicated to improving the financial literacy of all Americans. I think you will find them interesting:

1. My Retirement Paycheck

Regardless of how much consumers have saved for retirement, My Retirement Paycheck helps them figure out how to pay themselves through retirement with the assets they have. This holistically-focused site covers eight interrelated issues that affect users’ retirement assets and decisions, and provides resources for common retirement questions.
Visit www.myretirementpaycheck.org.

2. Smart About Money LifeValues Quiz

Talking about money with loved ones –and facing your financial influences—no longer has to be taboo. The Smart About Money LifeValues Quiz helps individuals discover how their attitudes and behaviors affect how they manage their finances and how to start the conversation with important people in their lives. Learn more about this tool for individuals and educators at www.smartaboutmoney.org/lifevaluesquiz.

Try the quiz in smartaboutmoney. You will find your results interesting if you are honest.

The stock market meltdown forced people to start thinking more seriously about retirement, but many still have misconceptions about it.

(1) For instance, a research paper from the pre-crash era found that 59% of workers expected to get a traditional pension when they retired. Unfortunately, 41% reported that they or their spouse were currently in a pension plan! This shows how a person’s expectations for retirement do not match with reality (no, the solution is NOT to watch more Reality TV).

(2) Many people that came into my office approaching retirement with $500,000 in an IRA or 401K felt they are “set for life”. Assuming present tax rates stay the same and using a 33% tax bracket, then, that account today, after taxes, is only worth $335,000. Using their current income needs, after tax, say, of $80,000 and a simple 3% Government Bond rate of return, that
money will be gone in less than 5 years after retirement. Hello Wal-Mart greeter!

(3) People counted on their homes, prior to the housing bubble burst, as their retirement nest egg. Unfortunately, if they sold the home at 65, took all the cash to live on, they never thought about where would they reside…under a bridge? Many had said to me, well, our house has doubled over the past 10 years. We can take that money and downsize to a smaller home. They forgot to add in that the smaller home they plan to move into, over the past 10 years, also doubled, so, they will not have as much as they imagined for retirement. Ah, yes, another money Myth-conception! (The housing boom gave many Americans a daily reminder of their investing savvy, of which they had nothing to do with the bubble, and created widespread overconfidence).

(4) Finally, I never tell people how to live or how to spend their money. I only ask them to analyze each “want” item (want versus need). How many “Starbucks a day” do you need versus want. How much vacation or shoes do you “need”. No, I am not a killjoy – rather – pause and think.

If you bought one Starbucks instead of two a day, at a $4 savings:

• $4/day for 6 days is $24/week.
• Over 1 year is $1248/year
• Over a 30 year period (age 35-65) at a 7.2% rate of return (tax free) would be a total of $121,845 lost, which equates to about $8800/year in lost income during retirement.

Oh yes, what do you have to show for that extra “Starbucks” you had at, say, age 42? It does not have to be “Starbucks”. You get my point.

Discipline or regret!