One of the most confusing aspects of retirement planning is understanding Social Security. Regardless of whether you have a $500,000 or $5 million retirement nest egg, social security benefits could end up being a decent portion of your monthly income so it’s important to get the basics down.
While seeking guidance from a fee-only fiduciary advisor is a good idea to truly understand how your Social Security benefits will fit into your specific retirement plan, we recommend arming yourself with a basic knowledge of how the benefits actually work. Below are four key Social Security concepts to know:
1. When should you file for your benefits? The longer you wait, the more you get!
The earliest you can file for your benefits is age 62 (or age 60 if you are a widow/er). Be aware that if you decide to claim benefits at 62, your benefit will be permanently reduced, although any on-going cost of living adjustment (COLA) would still apply. To calculate what your reduced benefit would be, go to https://www.ssa.gov/planners/retire/applying2.html.
If you wait to file at your ‘full retirement age’ (FRA), you will receive 100% of your benefit. Your FRA is based on your year of birth. For people who were born in 1954 or earlier, the FRA is age 66. For those who were born in 1960 or later, FRA is age 67. For individuals born somewhere in between (1955-1959), FRA ranges from age 66 and 2, 4, 6, 8 or 10 months for each year beginning in 1955. (For example, if you were born in 1956, you can file at age 66 and 4 months to receive 100% of your benefit.)
Finally, if you wait to file for benefits after your FRA, you will receive an additional 8% on top of your existing benefit for every year that you don’t file between FRA and age 70. So if your FRA is 66 and you file at age 70, you will receive 132% of your benefit (8% x 4 years), a significant increase in benefits.
2. How much will you get? Working later may increase your benefit
Your Social Security benefit is based on the highest 35 years of work earnings and then assessed according to today’s wage growth. The 35 years of earnings are then averaged and calculated to determine the Average Indexed Monthly Earnings (AIME). A Social Security benefits formula is then applied against the AIME and this determines your Primary Insurance Amount (PIA), which is the monthly benefit amount you would be entitled to receive at your FRA. For more information on calculating your benefit, go to https://www.ssa.gov/pubs/EN-05-10070.pdf
Since most people earn more later in life and Social Security benefits are based on the highest 35 years of income over a career, it often pays to work longer.
3. Spousal benefits; benefits for all
Even if you have never worked a day in your life, you may be eligible to receive spousal benefits based on your spouse’s work record (as long as your spouse/claimant is entitled to receive Social Security benefits). Spouses may be entitled to receive 50% of a claimant’s full benefit. For example, if Fred and Wilma are married and Fred was a stay-at-home dad and Wilma worked at the quarry, Fred could receive half of Wilma’s benefit. If Wilma’s benefit is $1000 per month, Fred would receive his spousal benefit, $500 a month, making the total household benefit $1500 a month. This also applies if you were married to your ex-spouse for 10 years or longer, you are at least age 62 and are unmarried. Note that your spousal benefit may be reduced if you file prior to your FRA, and if you are eligible to receive your own benefit AND a spousal benefit, you will receive the higher of the two benefits and not both.
4. Will Social Security be there when you retire? Very likely but different
The big question is whether Social Security will still be available when you retire. While we don’t know how Social Security may change, changes to shore up the program in the near future are very likely.
As it stands now, Social Security is expected to be funded through to the early 2030s. Thereafter, the program turns into a ‘pay-go’ system as more individuals will be claiming benefits vs. paying into the system. An 18-20% benefits shortfall for all claimants is expected at that time through 2080, so claimants would receive about 78% of their benefit (source: 2018 OASDI Report).
There are many potential solutions to the Social Security shortfall, such as increasing the retirement age, increasing the income floor subject to Social Security tax, means-testing the benefit, or a combination of several solutions. It’s important to stay on top of potential changes and work with an advisor who can make adjustments and stress-test your plan along the way.
This is for informational purposes only and is not intended to be tax, legal or financial advice. Individuals should consult with a financial professional to better understand Social Security, how to calculate their benefit, strategies, and how Social Security will impact their particular retirement plan.