For years, the warnings about medicare's inadequate funding and rising costs have been dire. Congress knows it needs to do something, but politics and the complexity of the task keep even partial fixes in stalemate. "The financial health of Medicare is terrible," says Robert Moffit, a senior fellow in domestic policy studies specializing in health care and entitlement programs at the Heritage Foundation, a conservative think tank. Medicare costs almost a trillion dollars each year, he says. "The trustees have been warning Congress and the president that it's a problem that can't be ignored."
By 2026, Medicare's trust fund for Part A is expected to be depleted. Part A, which covers inpatient care at hospitals and skilled nursing facilities, is funded mostly through a 2.9% payroll tax, with employers and workers each contributing 1.45% (high earners contribute even more). The Congressional Budget Office predicts that an additional $517 billion is needed, and that's just to cover the program's shortfall from 2026 to 2031. Otherwise, Medicare has enough revenue to pay for about 91% of Part A expenses starting in 2026.
Medicare Parts B and D, which pay for doctor visits and prescription drugs, respectively, are funded by beneficiary premiums and general tax revenue. Technically, these programs are adequately funded because their spending is tied to expected expenses each year. But that doesn't mean Parts B and D are fiscally sound. The costs of Part B are growing faster than those for Part A and even outpacing the economy.
Eventually, policymakers will be forced to do something. Here are five potential ways that experts have proposed to shore up Medicare. On their own, none of these solutions are enough to fix Medicare, and Congress will need to consider more than one to fund the program long term.
Raise the Eligibility Age
Some Democrats are currently pushing to lower the Medicare eligibility age from 65 to 60, but from a financial perspective, it's the opposite that needs to happen. Because of changing demographics, the eligibility age will need to be raised for Medicare to remain viable long term, says Geoffrey Joyce, director of health policy at the USC Schaeffer Center.
When Medicare was created in 1965, a 65-year-old man was expected to live 13 more years and a 65-year-old woman another 16 years, on average. Now those figures have climbed to about 18 years for men and more than 20 years for women. Simultaneously, there are fewer workers paying taxes to support beneficiaries. In 1966, 4.6 workers supported each enrollee; by 2030, that number is expected to be 2.3.
Pros. Making Americans wait longer for Medicare may be palatable to voters because there's already a precedent. In 1983 Congress raised the full retirement age for Social Security from 65 to 67 over 22 years starting in 2000. The CBO estimates that raising the Medicare eligibility age would cut billions from the federal budget deficit. "You can make a really good argument for raising the age to 67," Joyce says. "It's almost like these union contracts where older workers are grandfathered in. You are telling younger generations they won't get this until a bit later."
Even politicians could save face. "It's politically viable to say, 'We didn't anticipate that people were going to live so long,'" Joyce says.
Cons. Employers and younger seniors will have to pay for health care instead, costs that are likely to be in the billions each year and could exceed any Medicare savings. Raising the eligibility age could also increase the out-of-pocket costs for those already on Medicare. "Younger people coming onto Medicare are often considered healthier," says Mary Johnson, Social Security and Medicare policy analyst at the Senior Citizens League. "When you raise the eligibility age, the tradeoff is that Medicare would be getting older and perhaps sicker people."
It could also leave an older population uninsured, says Max Richtman, president and CEO of the National Committee to Preserve Social Security and Medicare. If this solution had been implemented starting in 2020, the CBO estimated in a 2016 analysis that about 5% of the 3.7 million people affected in 2026 would have become uninsured. "So many seniors are holding off on getting help from their doctors until they reach age 65," Richtman says. "To push that back would be a huge burden on those individuals."
Earmark Revenue From an Existing Tax
Policymakers could take an existing tax, the unearned income Medicare contribution tax, also known as the net investment income tax, and use it to fund Medicare directly. The Health Care and Education Reconciliation Act established the tax in 2010 to help pay for the Affordable Care Act, but the money currently goes into a general revenue fund.
Pros. Using an existing tax to fund Medicare may be easier for Congress to stomach. Currently, the net investment income tax hits high earners ($200,000 for single filers; $250,000 for those filing jointly). The 3.8% tax is levied on investment income, such as dividends. The CBO estimates this tax could bring in $350 billion from 2021 to 2030.
Those estimates may be low because the law has "tons of loopholes" that could be closed to generate more revenue, Joyce says. The version of the Build Back Better Act that only the House passed last year would expand the net investment income tax to include all income of owners of S corporations and other pass-through entities for single filers with earnings over $400,000 or $500,000 for joint filers.
Cons. Critics contend this solution only shuffles money around and doesn't make Medicare more sustainable. Plus, unless the costs of health care are reined in, beneficiary premiums will only rise. "Open-ended entitlement spending is not great either for the taxpayer or the Medicare beneficiaries who must pay higher and higher premiums, nor for the federal budget," Moffit says. "The open-ended entitlement spending in Medicare, and other federal entitlements, has been the main force driving higher deficits and debt."
Modify Advantage Payments
One way to cut Medicare spending is to lower what the program pays to private Medicare Advantage insurers and medical providers. Medicare Advantage, or Part C, is not separately funded and instead is supported by money from Parts A, B and D. Medicare pays Advantage plans a set amount for each enrollee, says Juliette Cubanski, deputy director of the Program on Medicare Policy at the Kaiser Family Foundation. That amount is determined each year based on insurers' estimates, or bids, for how much their plan will cost to provide Part A and B benefits for the average enrollee. Each plan's bid is compared with a benchmark, which is based on a set percentage of the estimated average spending for enrollees on original Medicare in that same county, Cubanski adds.
Some experts point out that under the current system the government overpays for Medicare Advantage. "It was created to save Medicare money, but it's not working that way," says Richtman. Medicare, he says, overpays for Advantage plans by about $6 billion a year.
Pros. One proposal would set Medicare Advantage payments to the bid with the second-lowest costs, similar to the Affordable Care Act exchanges. This might spur more price competition among private insurers and save Medicare an estimated $44 billion over a decade, the CBO says. Meanwhile, according to a panel of experts that the Urban Institute assembled last year, decreasing payments to Medicare Advantage plans would have little direct impact on beneficiaries.
For additional savings, provider payments for original Medicare could also be curbed. Under original Medicare, doctors and other providers are paid on a fee-for-service basis and receive a predetermined amount for the service. For instance, if a beneficiary has a heart attack and spends a few days in the hospital, Medicare pays a set rate for that diagnosis and treatment. These services are subject to a percentage base increase every year. To save money, Medicare could "pay providers a smaller percentage increase in the prospective payments," Cubanski says.
Cons. Insurers are likely to fight this proposal tooth and nail, and politicians may cave under the pressure. As for smaller increases for Medicare payments to providers, that would likely cut into some doctors' bottom lines, Cubanski says. These providers might make up for the lost revenue by passing on higher costs to other payers, such as patients with employer-sponsored health insurance. "It's a delicate line to walk," she says.
Negotiate Drug Prices
Under current law, Medicare is prohibited from negotiating drug prices, but this might change if Democrats are able to pass the Build Back Better Act. In the version that the House passed, a provision was included for Medicare to negotiate prices for a small number of high-cost drugs, starting in 2025 for Part D and in 2027 for Part B. The Senate has yet to vote on the legislation.
Pros. Although the proposed legislation subjects only 10 drugs to negotiation initially, that number would increase to 20 in 2028 and beyond. The drugs would be selected from the 50 treatments with the highest total spending for each program, resulting in $78.8 billion in savings for Medicare over 10 years, the CBO says. This could also lower Part B and Part D premiums for beneficiaries, though the CBO hasn't released any estimates for this.
Cons. Negotiating drug prices doesn't help Part A because providers of inpatient care are reimbursed for an entire medical procedure, such as the total cost of an operation and hospital stay, rather than each individual service, Cubanski says. This also wouldn't cut costs for some of the most expensive treatments, which are typically recently approved drugs, she adds. For instance, Medicare would not be able to negotiate the $28,200-per-patient annual price of Aduhelm, the physician-administered Alzheimer's treatment that the Federal Drug Administration only approved last year. Under the proposed legislation, new treatments are exempt from the negotiation process for nine to 13 years, depending on the type of medication.
Shift to a Defined Contribution Program
One of the more controversial fixes calls for transforming Medicare into a defined contribution program, similar to the one for federal employee health benefits. The new Medicare program would be a premium support plan with the federal government contributing a set amount for each beneficiary to spend on health insurance, either a private plan or original Medicare.
Pros. Insurance companies would compete to sign up enrollees, potentially driving down costs and offering more benefits. Original Medicare could also be reimagined to include a modernized governing structure with a new government board of directors. This board would compete with private insurers to attract beneficiaries, Moffit says.
The defined contributions would be based on a formula, and there are different ideas about how that would work. Moffit suggests the payment could be based on the average cost of delivering the standard Medicare benefits to a beneficiary. Using the plan with the second-lowest costs is another option. In 2017, the CBO estimated that basing the formula on the average cost of delivering benefits would eventually cut spending for Parts A and B by 8%. If the formula uses the second-lowest costs, spending would decline 15%, according to CBO estimates. "You would have very intense competition amongst health plans and that would slow the growth of spending," Moffit says.
Cons. Depending on which formula is used, beneficiaries could end up paying more for health care. The 2017 CBO analysis estimated that premiums would be 35% higher in 2024 than the projected Part B premiums for that year if payments were tied to the second-lowest costs for delivering benefits. But premiums would be about 7% lower if payments were based on the average cost. Shifting to a defined contribution program wouldn't help the geographical disparity for health care. Rural beneficiaries already tend to have more restrictive provider networks under Advantage plans. The same could be true under a premium support system.
Jackie Stewart is the senior retirement editor for Kiplinger.com and the senior editor for Kiplinger's Retirement Report.
Should I Trade Stocks or Options?
Answering the question "should I trade stocks or options" will depend on your own risk tolerance, investing objectives and understanding of market dynamics.
By Jared Hoffmann Published
This Is How You Can Be a Snowbird in Retirement
There’s a lot to consider, and warm weather shouldn’t be the only deciding factor. For instance, will you rent or buy? What’s the tax and health care situation?
By Tony Drake, CFP®, Investment Advisor Representative Published
Retirees, It's Not Too Late to Buy Life Insurance
life insurance Improvements in underwriting have made it easier to qualify for life insurance, which can be a useful estate-planning tool.
By David Rodeck Published
Best Banks for Retirees
banking Kiplinger's 2023 list of the best banks for retirees.
By Lisa Gerstner Published
Biden Calls for Doubling of Capital Gains Tax Rate
President Biden wants to increase the capital gains tax rate and the Medicare tax rate to have wealthy people pay a “fairer” share of taxes.
By Kelley R. Taylor Last updated
The Downside of Delaying RMDs
Thanks to the SECURE 2.0 Act, the age for required minimum distributions is going up. However, don't automatically assume you'll benefit from this change.
By Jackie Stewart Published
Retirement Saver's Tax Credit Converted to "Saver's Match"
President Biden has signed legislation that turns the Saver's Credit into a government match to your retirement plan contributions.
By Rocky Mengle Published
New RMD Rules: Starting Age, Penalties, Roth 401(k)s, and More
Making Your Money Last The SECURE 2.0 Act makes major changes to the required minimum distribution rules.
By Rocky Mengle Published
How to Get Retirement Income You Can Count On – for Life
Sponsored Content from Athene
By Staff Published
As the Market Falls, New Retirees Need a Plan
retirement If you’re in the early stages of your retirement, you’re likely in a rough spot watching your portfolio shrink. We have some strategies to make the best of things.
By David Rodeck Published