Most retirees in the US receive medical benefits through Medicare. Part A is free and covers hospitals stays, Part B is subsidized and covers doctor visits as well as outpatient services, and Part D is paid through a separate premium for prescription drug benefits. While Part A is provided at no cost to enrollees, Medicare recipients cover roughly 25% (depending on income) of part B premiums and the government pays the remainder. Part D premiums depend on the plan elected. These benefits provide stability to the unknown costs of health insurance in retirement.

Social security payments typically have Part B premiums taken out before they are paid and can potentially have Part D taken out as well. Each benefit, social security and Medicare, indexes at a different rate. Social Security is indexed with the Consumer Price Index (CPI) and Medicare increases based on medical costs, which typically rise faster than general inflation.

To guard against rising medical costs and protect retiree income, Social Security contains two key features. The first states that negative inflation cannot negatively impact benefit payments. Meaning, if the CPI is negative from one year to the next, social security benefits do not decline. Social security payments may go up, but not down. The second provision, nicknamed the “hold harmless” rule, states that social security payments cannot be reduced by rising Medicare premiums. The second rule affects roughly 70%-75% of Medicare recipients. The most dramatic effect Medicare premiums can have is to remove any potential gain in benefit due to the CPI, keeping social security payments flat year over year. This will be the case for many retirees in 2017.

Importantly, the hold harmless provision does not apply to everyone. In order to qualify a retiree must be receiving social security and must have Medicare premiums deducted from their payments (for the year prior as well)! Retirees that are delaying social security payments but are eligible for and receiving Medicare are not eligible and their premiums will go up regardless of others’ staying flat. Additionally, “high income” individuals and couples are exempted from the hold harmless provision. Single filers making more than $85,000 and couples making more than $170,000 (Modified Adjusted Gross Income) cannot benefit from the rule.

Let’s look at a few examples:

1. The average social security payment in 2016 was $1,328. The CPI dictated a .30% cost of living adjustment in 2016, increasing the average payment to $1,331 in 2017. At the same time, most people pay $104.90 each month for Part B premiums. In 2017, premiums will rise to $134, a 27% increase! However, with the hold harmless provision a retiree’s Medicare Part B premium would only increase to $107.90, keeping social security payments the same.
2. Hypothetically, assume a 2% increase to the CPI and a 10% increase in Medicare premiums. Social security payments would rise from $1,328 to $1,354. Medicare part B premiums would change from $104.90 to $115.39. The $26 increase in social security is enough to cover the burden of the $11 increase to Medicare.

As illustrated, a small increase in the CPI is still enough to render the hold harmless rule ineffective. Because of this disparity, the rule (established in the late 80’s) was never applied until 2010 when the economy was in a recession and inflation was 0%!

So what happens when the rule is applied? In 2010, social security cost of living adjustments were 0%. For the roughly 75% of Medicare enrollees that the rule covered this meant that their Medicare Part B premiums remained at $96.40 going into 2011. The 25% of Medicare recipients not covered by the provision were forced to cover 100% of the increase. If you were receiving Medicare but not social security or you fell into the “high income” category your Medicare premiums went from $96.40 to $110.50 each month. An increase of 14.6%!

Fortunately, when the CPI does increase it will allow for Medicare premiums to be spread out more equally. In 2012 the CPI adjustment to social security was 3.6%. This was enough for Medicare increases to be redistributed among those previously sheltered by the hold harmless rule. Recipients that were paying $96.40 saw an increase to $99.90 and those paying $110.50 had their premiums reduced.

In 2017 we will see an increase similar to what we saw in 2010. For roughly 30% of Medicare recipients part B premiums will rise dramatically. If your modified adjust gross income fell into one of the following groups 2 years ago, here is what to expect:

$187.50 a month, if your income is above $85,000 and no more than $107,000.

$267.90 a month, if your income is above $107,000 and no more than $160,000

$348.30 a month, if your income is above $160,000 and no more than $214,000

$428.60 a month, if your income is above $214,000

If you double the annual income amounts, you can determine the monthly premium for married people filing a joint tax return.

These increases will likely continue and the additional cost to retirees not covered by hold harmless will not abate until we see higher rates of inflation. Contact your local Gainplanner if you have questions about how this will affect you.

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