Let’s look at the new iShares Defined-Maturity TIPS ETFs

Posted on December 3, 2023 by Tipswatch

These new funds offer simplicity, but with some drawbacks.

By David Enna, Tipswatch.com

Back in late September, financial adviser/author Allan Roth sent me an email pointing out BlackRock’s new offering of 10 defined-maturity TIPS ETFs. Roth, who has been pushing for more useful TIPS ETFs, called this “a step in the right direction.”

I was traveling in Greece at the time and couldn’t take a careful look. But after a quick glance, I decided that yes, these ETFs looked reasonable both in theory and in cost. The expense ratios are only 0.10%.

But I had questions: Who is the target market for an ETF that will be holding only two to six bonds until maturity? Why not just buy and hold the individual TIPS? Would these ETFs provide tax-reporting benefits in a taxable account? Are these ETFs targeted at customers of assets-under-management financial advisers (which would dramatically increase the cost to investors)?

A few weeks later, Roth wrote an article for ETF.com on the BlackRock offerings, with the subhead: “Here is why I bought all 10 of them.” From the article:

I spoke with Karen Veraa, head of U.S. iShares Fixed Income Strategy at BlackRock, about these new ETFs. She confirmed that the purpose of the new ETFs is for the investor to buy and hold until maturity. She noted that buying the individual TIPS directly can be complex with large bid-ask spreads. She also said the tax reporting is simplified with annual 1099s issued. …

I like these ETFs and asked John Rekenthaler at Morningstar to give me his views. He responded: “I highly approve of these new funds.”

By the way, Allan Roth is not an assets-under-management financial adviser. He charges an hourly fee and would not benefit financially if his clients used these iShares ETFs.

A contrary view was offered by financial author and adviser Dr. William Bernstein on a recent “Bogleheads on Investing” podcast. Host Rick Ferri asked him about the new “bullet” iShares TIPS ETFs, and after praising TIPS as an investment, he said:

The bullet shares, unless I misunderstand them, don’t make a bit of sense to me. … Why would you buy one or two bonds that mature in any given year. … when you can buy the bond yourself for zero expense? That doesn’t make any sense.

Bernstein’s reaction (which I think is sound) set off a debate in the Bogleheads forum, with contributors weighing in on both sides.

Let’s take a look

The iShares suite of defined-maturity TIPS funds offers maturities for 2024 to 2033. In other words, you buy the ETF — probably intending to hold to maturity — and then after a defined period, it distributes all proceeds and closes down.

A few things to notice right away: 1) These are extremely small funds with only about $5 million in net assets, versus $19.7 billion for the giant TIP ETF, also from iShares. 2) The number of bonds in each fund is also tiny, ranging from 2 to 6. And 3) The average daily volume is minuscule, which could create bid/ask spread problems. The TIP ETF, by contrast, trades 2.8 million shares a day.

Why do the offerings end in October 2033? Because there are no TIPS maturing from years 2034 to 2039, and then from 2040 to 2053 only a single TIPS per year trades on the secondary market. It’s likely iShares will create a 2034 ETF next year, possibly at first holding only one TIPS (issued in January) and then a second one when a new 10-year TIPS is auctioned in July.

The limited span of maturities means these ETFs aren’t the total solution for building an inflation-protected ladder of investments to cover 20 to 30 years. Roth notes:

Though these new ETFs don’t solve a 30-year safe withdrawal rate, they could be perfect for uses such as bridging the gap while delaying Social Security by building an eight-year ladder at age 62 and waiting to age 70 to begin distributions.

What is the investment objective?

Let’s look at one of these investments, IBIE, which has a target maturity date of Oct. 15, 2028. It holds six TIPS, the most of any of these defined-maturity funds.

This ETF was launched on Sept. 13, 2023, so it has very little performance history. At this point, Morningstar has no performance data on its IBIE page. The ETF launched with a price of $25.22 and now trades at about $25.29.

iShares says the ETF is designed to mature like a bond, trade like a stock. It says: “Combine the defined maturity and regular income distribution characteristics of a bond with the transparency and tradability of a stock.”

As for investment objectives, iShares notes it could be used to achieve multiple objectives. “Use to seek inflation protection with U.S. TIPS, build a bond ladder, and manage interest rate risk.”

Is there a required minimum investment?

No. The minimum investment would be the cost of one share (around $25.29 for IBIE) plus any possible brokerage commission. There are no limits on redemptions. iShares notes there can be a bid/ask spread on purchases and sales. That seems especially likely for an ETF that trades at such a low volume. The iShares prospectus notes:

When the Fund’s size is small, the Fund may experience low trading
volume and wide bid/ask spreads. In addition, the Fund may face the risk of being delisted if the Fund does not meet certain conditions of the listing exchange.

However, even with the small volume for the IBIE ETF, iShares reports that the premium or discount to net asset value has been small, about 6 cents per share. And the median bid/ask spread has been just 0.08%.

Traders in individual TIPS face these same bid-ask issues and at times can have trouble buying or selling TIPS in small numbers. This new ETF resolves the small-lot issue, at least. You can buy as little as one share.

Income and inflation accrual distributions

One of the advantages of owning a TIPS to maturity is that inflation accruals continue to build over time, increasing the amount of principal and also increasing the semi-annual coupon payment as the principal increases. An individual TIPS gets the benefit of compounding, even though the coupon is distributed twice a year.

But one of the disadvantages of a TIPS is that if held in a taxable account, those inflation accruals are subject to “phantom” federal income taxes in the current year, even though they are not paid out. Plus, if your account is at TreasuryDirect, you will face the “dreaded 1099-OID,” the cryptic form reporting your taxable accruals.

In the past, I have written about holding individual TIPS in a taxable account. I am actually OK with that, but after retirement I switched to using a traditional IRA, where money can be raised without tax consequences. See this: “Frightened by a phantom? TIPS are fine in a taxable account, until …“

The ETF plus. These defined-maturity ETFs “fix” the OID issue because inflation accruals will be paid out in the current year, along with the coupon interest. (This is the same way traditional TIPS funds work). That distribution makes these iShares TIPS ETFs more attractive for holding in a taxable account, because it eliminates the phantom income problem.

I assume this also means your broker will provide a single 1099-DIV tax form covering both coupon payments and inflation accruals.

The ETF minus. Distributing the inflation accruals in the current year means that at maturity you will be receiving only the original par value and final coupon payment, since all the inflation accruals would have been distributed.

So to get the full benefits of compounding and true inflation protection you would need to reinvest all inflation-accrual distributions back into these TIPS ETFs or another similar product.

That could be a problem. I am not confident it would be wise to try to create a reinvestment strategy for ETFs with extremely small average daily volumes. I expect that Vanguard, for one, would refuse to do those reinvestments automatically.

For example, Allan Roth ran into a low-volume problem while building his ladder of these defined maturity ETFs:

I thought it would be a piece of cake to buy these, but I was wrong—at least on two of them. Using the Fidelity retail website, all went through except two. For IBIC and IBIF, I got error notifications that the share quantity I entered was greater than the maximum allowed.

How could buying fewer than 25 shares for about $900 be too high? I followed up with Fidelity and eventually found out I was violating Market Access Rules. Fidelity explained that the quantity I was buying was too high relative to the average volume over the past 90 days. They were eventually able to solve it for me, but I couldn’t buy the exact dollar amount I wanted.  

Final thoughts: Simplicity is good

These defined-maturity ETFs look good, maybe not for me, but for other investors looking for a simpler way to invest in TIPS, especially in a taxable account. The iShares pitch is “matures like a bond, trades like a stock” and that is appealing.

In just an hour, an investor could conceivably build a “diversified” exposure to TIPS spanning 10 years, with maturities in each year. This isn’t the solution to building a long-term TIPS ladder to last through retirement, but could be used as a bridge to taking Social Security at age 70 or other specific needs lasting 10 years.

The expense ratio of 0.1% is very good, especially if you can make your trades commission-free. But I do warn against using these ETFs in an assets-under-management account, which could wipe out 1% to 2% of your annual earnings.

One other issue is the fact that these funds don’t offer true inflation protection over the long term, since they pay out the inflation accruals in the current year. That is great for people seeking cash flow. But an investor seeking inflation protection would need to figure out a way to reinvest distributions.

Reinvesting is quite simple for traditional high-volume TIPS funds like TIP, SCHP or VTIP. But the very small volumes of these iShares funds could cause problems. iShares notes: “No dividend reinvestment service is provided by the Trust” and it suggests contacting your broker to see if it can be done on the secondary market.

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Feel free to post comments or questions below. If it is your first-ever comment, it will have to wait for moderation. After that, your comments will automatically appear. Please stay on topic and avoid political tirades.

David Enna is a financial journalist, not a financial adviser. He is not selling or profiting from any investment discussed. I Bonds and TIPS are not “get rich” investments; they are best used for capital preservation and inflation protection. They can be purchased through the Treasury or other providers without fees, commissions or carrying charges. Please do your own research before investing.

Posted in Investing in TIPS, Retirement, TreasuryDirect | 44 Comments

10-year TIPS reopening gets real yield of 2.180% to apparently weak demand

Posted on November 21, 2023 by Tipswatch

By David Enna, Tipswatch.com

The U.S. Treasury’s $15 billion offering of a reopened 10-year TIPS — CUSIP 91282CHP9 — generated a real yield to maturity of 2.180%, a bit higher than traders expected.

This 9-year, 8-month TIPS had been trading on the secondary market all morning with a real yield in the range of 2.13% to 2.15%. The “when-issued” prediction for the auction was 2.145%, well below the result. The bid-to-cover ratio was 2.32, indicating fairly weak demand.

But weak demand adds up to positive news for investors in this TIPS, who got a better yield at a lower price.

Pricing

Definition: A TIPS is an investment that pays a coupon rate well below that of other Treasury investments of the same term. But with a TIPS, the principal balance adjusts each month (usually up, but sometimes down) to match the current U.S. inflation rate. So, the “real yield to maturity” of a TIPS indicates how much an investor will earn above inflation each year until maturity.

The coupon rate of CUSIP 91282CHP9 was set at 1.375% by the originating auction on July 20, 2023. Because the auctioned real yield was much higher at 2.180%, investors got this TIPS at a substantial discount.

The unadjusted price was 93.043033. Here is how that works out for a $10,000 investment:

  • Par value: $10,000
  • Inflation index on settlement date: 1.01335
  • Adjusted principal: $10,133.50
  • Unadjusted price: 0.93043033
  • Investment cost (adjusted principal x unadjusted price): $9,428.52
  • Plus, accrued interest: $52.25 (will be returned at first coupon payment)
  • Total cost: $9,480.77

To summarize, an investor buying $10,000 par actually paid $9,428.52 and will receive $10,133.50 in principal on the settlement date of November 30. After that, the investor will receive inflation accruals and a coupon yield of 1.375% until maturity on July 15, 2033.

We may not see many more reopening auctions with that large a cost below par value, at least for the near future, because new auctions will be much closer to current market yields. Since the spring of 2023, 10-year real yields have increased dramatically, rising more than 100 basis points since April:

Click on image for larger version.

Inflation breakeven rate

With the nominal 10-year Treasury note trading with a yield of 4.41% at the auction’s close, this reopened TIPS got a 10-year inflation breakeven rate of 2.23%, a bit below recent trends. Again, this looks like a positive for investors. The breakeven rate indicates that CUSIP 91282CHP9 will outperform a nominal Treasury if inflation is higher than 2.23% over the next 9 years, 8 months.

Here is the trend in the 10-year inflation breakeven rate over the last 12 months:

Click on image for larger version.

You could look at that zig-zagging chart and say, “The market has no idea where inflation is heading.” And you’d probably be right.

Reaction to the auction

Investors were aided by fairly weak demand and got an attractive result, at least compared to expectations. The TIP ETF, as shown in the chart, dipped in value right after the auction close, another indication demand was weak, resulting in a bump higher in real yields.

But for investors, getting an above-inflation yield of 2.18% is attractive. This was the highest real yield for any 9- to 10-year TIPS auction since January 2009. It came in just a bit higher than the previous reopening auction for this TIPS, on September 21 with a real yield of 2.094%.

From a Barron’s report yesterday posted on MSN:

Tuesday’s sale of 10-year Treasury inflation-protected securities was weak, a sign that traders believe inflation will continue to decelerate. … Buyers likely shunned the 10-year TIPS because data have shown that the pace of inflation continues to slow.

The auction closes out the history of CUSIP 91282CHP9. Next month, on Dec. 21, the Treasury will offer a reopening auction of a 5-year TIPS. Then on Jan. 18, 2024, it will issue a new 10-year TIPS.

• Now is an ideal time to build a TIPS ladder

• Confused by TIPS? Read my Q&A on TIPS

• TIPS in depth: Understand the language

• TIPS on the secondary market: Things to consider

• Upcoming schedule of TIPS auctions

* * *

Feel free to post comments or questions below. If it is your first-ever comment, it will have to wait for moderation. After that, your comments will automatically appear. Please stay on topic and avoid political tirades.

David Enna is a financial journalist, not a financial adviser. He is not selling or profiting from any investment discussed. I Bonds and TIPS are not “get rich” investments; they are best used for capital preservation and inflation protection. They can be purchased through the Treasury or other providers without fees, commissions or carrying charges. Please do your own research before investing.

Posted in Investing in TIPS | 39 Comments

Amid volatility, this week’s 10-year TIPS auction still looks attractive

Posted on November 19, 2023 by Tipswatch

Note: The auction will close Tuesday at 1 p.m. because of the Thanksgiving holiday.

By David Enna, Tipswatch.com

We’ve seen pretty dramatic swings in both real and nominal yields over the last 2 1/2 months, as Federal Reserve officials wavered from hawkish to dovish to “let’s pretend to be hawkish.”

A key event in this volatility came Tuesday with a fairly mild U.S. inflation report, with annual all-items inflation falling from 3.7% in September to 3.2% in October. That sent bond yields plummeting and gave both the stock and bond markets a reason to celebrate. For the week, the S&P 500 was up 2.33%, the total bond market was up 1.39%, and the TIP ETF rose 0.85%.

But, as you can see in the chart of 10-year real yields, the yields remain about 24 basis points higher than they were on September 1. In other words, still attractive.

A Tuesday TIPS auction

All this points toward Tuesday’s $15 billion reopening auction of CUSIP 91282CHP9, creating a 9-year, 8-month Treasury Inflation Protected Security. This is a rare Tuesday TIPS auction (not Thursday as usual) because of the Thanksgiving holiday.

The coupon rate for 91282CHP9 was set at 1.375% by the originating auction on July 20, 2023, which generated a real yield to maturity of 1.495%. That is 67 basis points below the current market, an indication of the huge swings we’ve seen in the last half of 2023.

This TIPS had a reopening auction on September 12, when it got a real yield to maturity of 2.094%, much closer to the current market.

Since this TIPS trades on the secondary market, you can check its current real yield and price in real time on Bloomberg’s Current Yields page. As of Friday’s close it was trading with a real yield of 2.16% and a price of 93.20, a deep discount because of the large spread between the market real yield and the coupon rate.

Is a real yield of 2.16% historically attractive? Yes, it is. Since January 2008, there have been 89 TIPS auctions of this term and only one — the most recent in September 2023 — got a real yield above 2.0%. Here is the 10-year real yield trend going back to 2010, showing the steep climb higher since summer 2023:

Click on image for a larger version.

Pricing

CUSIP 91282CHP9 will have an inflation index of 1.01335 on the settlement date of November 30 and it currently trades at a price of 93.20. With that information, we can get a decent estimate of the cost of this investment at Tuesday’s auction. I am using an example of a purchase of $10,000 par at the auction:

  • Par value: $10,000
  • Adjusted principal = $10,000 x 1.01335 = $10,133.50
  • Cost of investment = $10,133.50 x 0.9320 = $9,444.42
  • Plus, cost of accrued interest, probably about $45.

To boil this down: an investor buying $10,000 par will pay $9,444.42 for $10,133.50 of principal and then will receive inflation accruals and a coupon rate of 1.375% for the next 9 years, 8 months. The accrued interest will be returned at the first coupon payment. (Of course, pricing will change by Tuesday depending on market conditions.)

This auction should appeal to investors who want to pay below par value to ensure deflation protection through maturity for the original par value, in this case $10,000. I don’t think this is a major issue, but some investors do.

Inflation breakeven rate

With the 10-year Treasury note currently offering a nominal yield of 4.44%, this TIPS with a real yield of 2.16% would have an inflation breakeven rate of 2.28%, a bit below recent auctions of this term. That is a plus. If you think inflation will average more than 2.28% over the next 9 years, 8 months, buy the TIPS. If you think it will be lower, buy the nominal Treasury.

Here is the trend in the 10-year inflation breakeven rate over the last 13 years:

Click on image for larger version.

It is fascinating to see how these inflation breakevens have settled into a range of 2.1% to 2.5% for a full year. This seems to show investor confidence that longer-term inflation has been tamed. (I am not so sure.)

Auction thoughts

This is an attractive offering, but of course if you want to avoid the too-typical “auction disappointments” of 2023 you can buy CUSIP 91282CHP9 on the secondary market — either before the auction after after.

Eventually, we are going to get an attractive auction result and I am hoping that will come Jan. 18, 2024, with the auction of a new 10-year TIPS to mature in January 2034. This one is attractive to me because I want to add a TIPS maturing in 2034 to my ladder of investments. And so … I am waiting until January and I won’t be a buyer at Tuesday’s auction.

If you are pondering an investment at Tuesday’s auction, keep an eye on Bloomberg’s Yields Curve page. This updates in real time and should provide a fairly reliable estimate of the potential auction result.

The auction closes at 1 pm ET. Non-competitive bids at TreasuryDirect must be placed by noon Tuesday. If you are putting an order in through a brokerage, make sure to place your order Monday or very early Tuesday, because brokers cut off auction orders before the noon deadline. I hope to post the results soon after the close on Tuesday.

Here is a recent history of 9- to 10-year TIPS auctions. Note that just two years ago, on Nov. 18, 2021, a 10-year TIPS reopening got a real yield of -1.145%, the lowest in history for this term:

• Now is an ideal time to build a TIPS ladder

• Confused by TIPS? Read my Q&A on TIPS

• TIPS in depth: Understand the language

• TIPS on the secondary market: Things to consider

• Upcoming schedule of TIPS auctions

* * *

Feel free to post comments or questions below. If it is your first-ever comment, it will have to wait for moderation. After that, your comments will automatically appear. Please stay on topic and avoid political tirades.

David Enna is a financial journalist, not a financial adviser. He is not selling or profiting from any investment discussed. I Bonds and TIPS are not “get rich” investments; they are best used for capital preservation and inflation protection. They can be purchased through the Treasury or other providers without fees, commissions or carrying charges. Please do your own research before investing.

Posted in Investing in TIPS, TreasuryDirect | 12 Comments

October inflation brings positive news: Flat for the month, sliding lower for the year

Posted on November 14, 2023 by Tipswatch

By David Enna, Tipswatch.com

Here we go: A good news inflation report as we head toward a new year.

The Consumer Price Index for All Urban Consumers (CPI-U) was unchanged in October on a seasonally adjusted basis, the U.S. Bureau of Labor Statistics reported today. The rate of annual inflation dipped to 3.2%, down from September’s 3.7%.

Core inflation, which removes food and energy, is still running hotter: coming in at 0.2% for the month and 4.0% for the year. (That’s the lowest core number since September 2021.) In fact, all these inflation numbers came in lower than expected. We can expect both the Federal Reserve and the stock market to issue large sighs of relief.

Within an instant, Bloomberg posted this headline: “Cooling US Price Pressures Likely Take Fed Hike Off Table.”

Gasoline prices fell 5.0% for the month (which was expected — I paid $2.85 a gallon at Costco this week). But that decline was offset by rising shelter prices, up 0.3% for the month. More from the BLS report:

  • Gasoline prices are now down 5.3% over the last year.
  • Costs of shelter have increased 6.7% over that same time.
  • The costs of food at home rose 0.3% in October, but are up only 2.1% over the last year.
  • Food away from home prices rose 0.4% for the month, and 5.4% for the year. Why higher? Probably higher labor costs.
  • The index for meats, poultry, fish, and eggs rose 0.7% in October.
  • Prices for used cars and trucks fell 0.8% for the month and are down 7.1% for the year.
  • New car costs also fell 0.1% and are up 1.9% for the year.
  • Costs of motor vehicle insurance rose 1.9% for the month.

Here is the 12-month trend for all-items and core inflation, presenting a clear picture of gradually declining U.S. inflation:

What this means for TIPS and I Bonds

Investors in Treasury Inflation Protected Securities and U.S. Series I Savings Bonds are also interested in non-seasonally adjusted inflation, which is used to adjust principal balances on TIPS and set future interest rates for I Bonds. For October, the BLS set the inflation index at 307.671, a decrease of 0.04% compared with the September number.

For TIPS. The October inflation report means that principal balances for all TIPS will decline by 0.04% in December, after rising 0.25% in November. Here are the new December Inflation Indexes for all TIPS.

Essentially, TIPS balances will be flat in the month of December. For example, for CUSIP 912828B25, which will mature Jan. 15, 2024, the inflation index will begin December at 1.31911 and end the month at 1.31862.

For I Bonds. The October report is the first of a 6-month string that will determine the I Bond’s new variable interest rate, to be reset on May 1. So we start off with a factor of -0.04%.

It would not be surprising to see additional deflationary numbers for November and/or December, as is often the case because of the lack of seasonal adjustments. Last October, non-seasonal inflation rose 0.41% in October and then fell 0.10% in November and -0.31% in December.

Here are the numbers for the current cycle:

View historical data on my Inflation and I Bonds page

What this means for future interest rates

After September’s upside inflation surprise, the Federal Reserve needed some positive inflation news, and it got it with this report. Falling gasoline prices and moderating food prices kept inflation relatively under control.

Euphoria, anyone? Stock market futures (at 9:20 am ET) are predicting the potential of an early 1% gain. The 10-year Treasury note is trading at 4.46%, down about 17 basis points from yesterday’s close. The 10-year TIPS is trading at 2.17%, down about 15 basis points from yesterday.

From today’s Wall Street Journal coverage:

The fresh figures help reassure investors that the Fed is likely done raising interest rates. … “The sources of inflation are disappearing quickly,” said Luke Tilley, Wilmington Trust’s chief economist. “A whole bunch of categories are moving in the direction that we need them to.”

Michael Ashton, my inflation guru friend, posted this commentary:

The CPI was a happy surprise today, but not so much that I would throw a party. … We’re still just starting the difficult part, from the standpoint of monetary policy but also from the standpoint of figuring out how quickly inflation can get tamped back down to target. …

What I can say is that the market reaction to all of this is absurd. This just doesn’t move the needle on the Fed. There was no tightening and no easing in the pipeline before this number, and after this number that hasn’t changed an iota.

I have been thinking that the Federal Reserve knows it has reached its peak short-term rate, now set in the range of 5.25% to 5.50%. This has been aided by a recent rise in longer-term yields, which appears to be reversing a bit this morning. Fed officials will probably continue with “cautious” statements, but this cycle of rate hikes appears to be over.

Will rate cuts begin in 2024? That’s a complete mystery.

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Feel free to post comments or questions below. If it is your first-ever comment, it will have to wait for moderation. After that, your comments will automatically appear. Please stay on topic and avoid political tirades.

David Enna is a financial journalist, not a financial adviser. He is not selling or profiting from any investment discussed. I Bonds and TIPS are not “get rich” investments; they are best used for capital preservation and inflation protection. They can be purchased through the Treasury or other providers without fees, commissions or carrying charges. Please do your own research before investing.

Posted in Investing in TIPS | 20 Comments

Medicare costs for 2024 are rising faster than U.S. inflation

Posted on November 9, 2023 by Tipswatch

Part B costs, deductibles and IRMAA surcharges will increase about 6% next year.

By David Enna, Tipswatch.com

Less than a month ago, U.S. retirees collecting Social Security learned their benefits will be increasing 3.2% beginning in January. That was the good news. The bad news is that costs for Medicare copayments and deductibles will be rising at a higher rate, about 6%.

Those costs were revealed in a little-noticed press release on Oct. 12 from the Centers for Medicare & Medicaid Services. It revealed the 2024 premiums, deductibles, and coinsurance amounts for Medicare Part A and Part B programs, and the 2024 income-related monthly adjustment amounts (IRMAA) for Parts B and D.

Any day now, if you are on Medicare, you will get a letter from CMS informing you of these new premium and deductible costs for 2024. If you planned poorly, you may be meeting up with IRMAA, and you really don’t want to meet IRMAA. These surcharges can be lofty, so it’s smart to plan ahead to limit these costs.

Let’s dive into the key Medicare changes for 2024.

Part A: Hospital insurance

Most people who reach age 65 go on Medicare Part A, even if they are still working. Medicare Part A covers inpatient hospital, skilled nursing facility and some home health care services. About 99% of Medicare beneficiaries do not have a Part A premium since they have at least 40 quarters of Medicare-covered employment.

Although coverage is generally free, Part A has some sizable deductibles and coinsurance costs, and those will be rising 2% in 2024:

Keep in mind that most people on Medicare have a Medigap or Medicare Advantage plan that will cover all or most of the Part A deductible and coinsurance amounts. For example, all standardized Medicare Supplement (Medigap) plans, A through N, provide coverage for Part A coinsurance, and most also cover all or most of the Part A deductible costs.

Part B: Medical insurance

Medicare Part B can be described as covering “outpatient services,” things like doctor visits, some lab tests, an annual wellness exam, diabetes screenings, etc. Medicare Part B generally pays 80% of approved costs of covered services, and you pay the other 20%. Some services, like flu shots, Covid vaccines and a wellness visit, may cost you nothing.

Part B costs are going up about 6% for 2024, much higher than the Social Security COLA increase of 3.2% or the current annual rate of U.S. inflation, at 3.7%.

Part B deductible. Before Medicare pays anything, you have to meet your Part B deductible each year. The annual deductible for all Medicare Part B beneficiaries will be $240 in 2024, an increase of $14 from the annual deductible of $226 in 2023. As of January 2020, Medigap plans sold to new enrollees were not allowed to cover the Part B deductible. But once the deductible is met, Medicare and Medigap plans will cover some or all of your Part B costs.

Part B premium. The standard monthly premium for Medicare Part B enrollees will be $174.70 for 2024, an increase of $9.80 from $164.90 in 2023. This Part B premium is paid by all people on original Medicare and is incorporated into Medicare Advantage pricing, which may or may not result in a baseline monthly cost.

So, for most people on original Medicare, Medicare Part B is going to cost $174.70 a month for the premium, plus the cost of the $240 deductible. That’s a total cost of $2,336.40 a year, up about 6% from this year’s costs.

CMS offered this rather cryptic explanation of the increased costs:

The increase in the 2024 Part B standard premium and deductible is mainly due to projected increases in health care spending and, to a lesser degree, the remedy for the 340B-acquired drug payment policy for the 2018-2022 period under the Hospital Outpatient Prospective Payment System.

Curious about the 340B-acquired drug payment policy? Read this.

The IRMAA ‘surprise’

Since 2007, a beneficiary’s Part B monthly premium is based on reported income, known as MAGI, or modified adjusted gross income. According to the Social Security Administration handbook, for Medicare’s purposes MAGI is adjusted gross income (line 11 of your 2022 federal income tax form) plus tax-exempt interest.

Note that I mentioned your 2022 income tax return. That’s the one you filed earlier this year and now, just a month ago, CMS announced the IRMAA surcharge brackets applied to that 2022 return. In other words, you could not know the surcharge levels until after the fact. And this is a rather brutal surcharge, because going just $1 over any limit can trigger thousands of dollars of one-year costs.

Here are the 2024 Part B total premiums and surcharges for high-income beneficiaries, which apply to income reported on your 2022 tax return:

Source: Centers for Medicare & Medicaid Services

I took a quick look at the brackets and surcharges for 2023 versus 2024, and found that the income brackets were adjusted higher by varying percentages, about 4.9% to 6.2% for each bracket. The IRMAA surcharges were also adjusted higher by 6.0%.

These income-related monthly adjustment amounts affect about 7% of people with Medicare Part B. And it’s important to note that people on Medicare Advantage plans continue to pay the Part B premium, and are also subject to the IRMAA surcharges.

Annual income of $206,000+ for a couple may sound like a lot, but the lower IRMAA levels can easily be reached through Roth conversions, stock sales to fund a major purchase, a new pension starting up, etc. Be aware of the potential to trigger the IRMAA surcharges and plan around that possibility.

Part D: Drug coverage

IRMAA surcharges also apply to Medicare’s Part D premiums for drug coverage. There is no “standard” Part D premium — the cost you pay depends on the Part D insurer and plan you choose. The IRMAA cost, if any, is added on top of your base premium. People in Medicare Advantage plans don’t pay a separate Part D premium, since those plans include Medicare Advantage Prescription Drug (MAPD) coverage. But Part D is built into Medicare Advantage, and the IRMAA surcharge still applies.

Here are the Part D IRMAA levels for 2024, based on reported income for 2022:

Wrapping things up

Here is the end result of these IRMAA surcharges for a married couple filing jointly:

Obviously, these surcharges add up to substantially higher costs for both single and married couples. A couple hitting the 3rd tier of the IRMAA surcharges would be paying more than $7,500 a year of extra costs for Medicare coverage. Hitting tier 5 sends the annual costs up more than $12,000.

And I repeat: When you filed your federal tax return in early 2023 you could not know what these IRMAA brackets or surcharges would be. They were just announced on Oct. 12. They are called the “2024 IRMAA levels” but apply to your 2022 tax return.

When you file your 2023 return next year, realize that you won’t know the relevant IRMAA levels until October or November 2024, many months after you have filed. Your only option is to use the 2024 numbers as a guideline. It’s a crazy system.

You can appeal an IRMAA ruling

The Social Security Administration has very specific rules that will allow you to get a waiver of the IRMAA surcharge, if you meet certain criteria for a “life-changing event,” which include:

  • Work stoppage
  • Work reduction
  • Employer settlement payment
  • Death of spouse
  • Divorce
  • Loss of pension income

You’ll need to fill out IRS Form SSA-44 to request the waiver.

A final thought …

One point to remember, in fairness: For people collecting Social Security, payments will increase 3.2% next year, or about $708 for an average recipient. Medicare costs for a single person will increase about $131 without IRMAA surcharges. So although Medicare costs are rising faster than the Social Security COLA, recipients will still come out ahead, if that’s any consolation.

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David Enna is a financial journalist, not a financial adviser. He is not selling or profiting from any investment discussed. I Bonds and TIPS are not “get rich” investments; they are best used for capital preservation and inflation protection. They can be purchased through the Treasury or other providers without fees, commissions or carrying charges. Please do your own research before investing.

Posted in Inflation, Medicare, Retirement, Social Security | 32 Comments