This is the harsh reality about health care costs in retirement

Wall Street research often dwells on what’s known as “tail risk,” a catchphrase for an dramatic outlier event that upends the best laid plans. So here’s a warning: you may well confront a medical spending tail risk in your 70s and beyond. That’s the strong takeaway from a recent study by five economists and it may persuade you to save more for the possibility of a health-cost gut punch.

Almost all Americans are enrolled in Medicare, starting at age 65, of course. Yet they still face the risk of catastrophic health care expenses; Medicare doesn’t cover many long-term chronic health care needs and services. In The Lifetime Medical Spending of Retirees report, the economists determined that people incur an average of $122,000 in medical costs between the time they’re 70 and when they die — mostly paid out-of-pocket, except for low-income people covered by Medicaid.

Some people over 70 face substantially higher costs, however, the study found. Five percent will be hit with out-of-pocket medical bills of more than $300,000; 1% will see theirs total more than $600,000.

The economists say that marital status, personal income and health do play a role in the medical costs after 70. But, they conclude, “much of the dispersion in lifetime spending is due to events realized at older ages.” Translation: luck is the biggest factor in whether you’ll end up with the kind of complex medical needs that add up to out-of-pocket bills north of $300,000.

Many older adults are taking steps to build a financial margin of safety against steep medical expenses late in life. The two most popular hedges: working longer and cautiously spending down retirement savings. Let me take them one at a time.

There are four ways working longer can help avoid dipping into savings to pay for medical expenses:

Need more proof that working longer can pay off? Consider this calculation from The Power of Working Longer, a paper by four other economists who looked at various potential scenarios for people 10 years from retirement. They found that the employees who work just one month longer can get the same increase in their retirement income as if they had added 1 percentage point to their retirement savings rate over that 10-year time frame.

“Primary earners of ages 62 to 69 can substantially increase their retirement standard of living by working longer,” the authors wrote. “The longer the work can be sustained, the higher the retirement standard of living.”

Put another way: They’ll have more resources to meet non-catastrophic levels of out-of-pocket medical bills.

And how about that other hedge against steep health bills in retirement, cautiously spending down retirement savings? Some retirees are apparently really skimping, partly due to health-cost worries.

“One of the greatest fears for people in retirement can be the cost of long-term care associated with a major medical procedure, sharply declining health or treatment for cognitive disorders — particularly in the last year or two of life,” wrote the authors of the BlackRock Retirement Institute research report, Spending retirement assets…or not?, which I learned about while attending the Columbia University Age Boom Academy program for journalists recently.

For example, the BlackRock study found, after 17 to 18 years in retirement, median retirement assets for the wealthiest group (those with $500,000 and above) had shrunk only 17%. Medium-wealth households — those with $200,000 to $500,000 — showed a similar pattern; their retirement assets were down only 23% during that time. And the lowest wealth households, with less than $200,000 — the ones most likely to need to tap their savings? Down 20%.

That said, you can only do so much to hedge against a risk with a price tag in the several hundred thousand range.

A recent law, however, may help. Medicare now looks poised to pay for more complex care needs, the kind that not only come with high out-of-pocket costs but are also expensive to the federal health program.

Earlier this year, Congress passed the Creating High-Quality Results and Outcomes Necessary to Improve Chronic Care Act (known by its acronym, The CHRONIC Act). Among its initiatives: Medicare Advantage plans — the system’s managed care option — will be permitted to provide care and devices that prevent or treat illness or injuries, compensate for physical impairments, address the psychological effects of illness or injuries or reduce emergency medical care as well as nonmedical services such as home-delivered meals. The plans will likely start offering such benefits in 2019.

One goal of new benefit-plan flexibility is to “allow patients and family to have a say and identify the services they need,” says Katherine Hayes, health policy director at the Bipartisan Policy Center in Washington, D.C. Another, she says, is to “figure out how to manage costs better,” say, by reducing time spent in expensive hospitals and emergency rooms.

The devil is always in the details. The federal government’s Centers for Medicare and Medicaid Services is now drafting regulations to flesh out the law and Medicare Advantage providers are figuring out which services to offer. Still, the shift in focus is a welcome step.

If Washington takes a few bolder initiatives, odds are that the medical spending tail risk Americans over 70 confront will shrink. And that will be a relief to them and to their families.

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