Understanding and Maximizing Social Security Benefits
This week, we are back with a continuation of information based upon last week's episode. Last week's episode was on the Social Security Trust Fund's significant drop and their projected date of running out of money. For those that haven't checked it out yet, please give it a listen. For many individuals, Socal Security is the highest source of retirement income. With the trust fund anticipated to run out of money in thirteen years, it is crucial that we best prepare ourselves for that day and better understand whether our retirement outlook needs to change.
For those who listened and provided feedback, I just wanted to thank you for sharing your thoughts, concerns, and questions with me.
Individuals' emotions over this topic ranged vastly from disgust to fear to anger and general uncertainty. And I get it; people should be disgusted at how poorly designed the system was and how we, as a country, have not forced our politicians to sit down and work on a resolution.
As I mentioned in my last episode, we should be fearful of reducing benefits because 40% of retired Americans rely solely on Social Security benefits. 40% of sixty-five million Americans is a heck of a large number, and what happens when they cannot afford to live a basic lifestyle? I have talked to many people in my career, and I can tell you that those who live solely on Social Security are not living a luxurious lifestyle. Many were never allowed to save and did not have a fallback retirement account to draw from. How will that affect our communities? How will that affect our debt ceiling if our country pushes to scramble for a last-minute fix?
I understand the anger and uncertainty because so many individuals out there have spent a significant part of their lives pursuing the American dream. And I think the American dream varies from generation to generation, so I won't pretend to imply your American dream is the same to the person next to you; no, I won't do that. However, the American dream of pursuing equal opportunity from one American to another regardless of gender, color, or social standing is my reference frame. And I think some people are feeling left out.
I hear it; I have been listening to it from 401k plan participants and the individual clients I work with. Many have shared with me their frustration that they have spent the more significant part of their work-life just trying to make ends meet. So many put their kids through greater education at their own retirement expense and just pushing through 40-50-60 hour work weeks week after week trying to get to age 67 for retirement benefits and wondering if it'll be enough. There are so many in their fifties and sixties facing retirement in the coming decade, and they're wondering if they'll be fine.
But on top of all that you have shared, many more have shared their questions on Social Security. I don't find it surprising as Social Security is not easily understood because the information is not always readily available. Well, I take that back. The data is readily available but not easily digestible.
I mean that the Social Security Administration has done a fabulous job of putting the information on the website and providing all of the tools to understand it. Still, unless you have a certain level of comfortability regarding financial literacy, it can be easy to misinterpret or misunderstand what it means. But knowing just the easy stuff, which is the earliest eligibility is age 62, can be very dangerous because far too many automatically assume they should file when they are at the earliest age.
So with that said, this continuation on Social Security is designed to give you a deeper dive into the benefits structure, what to anticipate, and why you should properly evaluate your Social Security strategy.
By the end of this episode, you should be able to answer the following questions for yourself and your family:
Should I collect Social Security benefits at age 62?
Should I delay my Social Security benefits past FRA?
What is my Social Security break-even age of collecting earlier versus postponing it?
How are spousal benefits calculated?
When should a non-working spouse file?
I am in a committed relationship but not married; should I get married?
Do spousal benefits apply to same-sex couples?
What are Social Security benefits available for widows?
While Social Security is available at the earliest age of 62, individuals do not receive full retirement benefits until age 66 through age 67. If FRA, full retirement age, is the age upon which you receive 100% of Social Security benefits, then age 62 would be considered reduced benefits. How much is that reduction in benefits? 25-30% if you are the wage earner and a 30-35% reduction if you are the spouse claiming spousal benefits.
Your FRA is age 67 if you are born in 1960 or later. For those born before 1960, your FRA is age 66 and some months. For instance:
If you're born in:
1955, your FRA is 66 and 2 months,
1956, your FRA is 66 and 4 months,
1957, your FRA 66 and 6 months,
1958, your FRA is 66 and 8 months,
1959, your FRA is 66 and 10 months.
To properly understand this, I'm going to give some hypothetical numbers. Let's say John's FRA is age 67, and his Social Security benefit at age 67 is $1,000. If John decides to turn on Social Security at age 62, he would only receive $700 a month. That $700 a month is locked in for the rest of his life. John will continue to collect $700 a month at age 63, age 64; he'll stay at $700 at age 67 and up until he passes. I'm omitting any cost of living adjustment here, of course, but you understand the scenario. That number does not increase at John's FRA of 67; it stays at the lower number that he locked himself into. The only way to adjust this is if John files a one-time request to stop Social Security and back pay all of the money he received. If he does this, he has an opportunity to reset the Social Security benefit clock.
The benefit of delaying Social Security pass 62 is, of course, the dramatic increase in benefits. A thirty percent increase over five years is nothing to sneeze at. Additionally, if John decides to delay his Social Security further, he can continue to wait for Social Security until age 70, which at that point, the benefit is automatically turned on. Why would John want to delay turning on Social Security past age 67? For starters, every year you wait nets you an 8% increase in benefits, which stacks until age 70.
For example, let's say John's age 67 FRA is $2000 a month; if John delays it by a year, his monthly benefit will increase to $2160 a month instead. If he delays it by another year, that monthly benefit will increase to $2332, and if he delays it to age 70, he'll maximize his Social Security benefit to $2519 a month.
The hidden benefit to delaying to age 70 is that the higher benefit of $2519 in our example passes to John's spouse when John passes away. So, for instance, let's decide to take out John at age 80; his spouse Jane will now start collecting his benefit of $2519. If John had taken benefits earlier, Jane would also have been locked into that lower amount.
So delaying Social Security not only provides you with a higher guaranteed monthly amount but also has the added benefit of providing for your spouse upon your passing. If you are concerned about how your spouse will be able to financially take care of themselves after you are gone, delaying your own Social Security ensures they are locked into the highest eligible benefit.
Most of you know, Social Security provides a spousal benefit. Spouses are eligible for 50% of benefits depending on when their spouse turns on Social Security and individually claims spousal benefits.
Let's use John and Jane as an example. Let's say John is age 67 and is at FRA. Let's say Jane is also age 67, at this age, she is eligible for 50% of John's benefit, so if John has a benefit of $2,000 monthly, Jane is eligible for spousal benefits of $1,000 a month regardless of how much she has worked in her career.
For example, if Jane is younger, let's say she is 62 instead, she is still eligible for spousal benefits, but spousal benefits drop to 30% instead of 50% at age 62. If Jane turns on spousal benefits at age 62, she would only receive $600 a month. Ouch!
Additionally, there are rules around how much earned income you can have at age 62 if you collect Social Security. Let's jump into that right now.
If you are age 62 and have filed for Social Security benefits, Social Security will look at whether you are still earning an income. If you are only working part-time and have an earned income of $18,960 or less, you will be fine and continue receiving your expected Social Security. However, if you are making more money than that, Social Security will reduce your benefits.
Social Security will withhold $1 for every $2 that you make above that $18,960 threshold. For instance, let's say you're age 63 and are making $35,000 while collecting Social Security. Social Security will reduce your benefits by over $8000, which is close to a loss benefit of $600 a month just because you're making more than the threshold. It would be best to keep in mind that this reduction is on top of the reduction of benefits because you turned on Social Security before FRA. Talk about a double whammy!
At FRA, Social Security will not reduce your benefits, and at that point, you can earn as much as you want without the threat of having benefits withheld.
Another implication is the taxation of Social Security while working. If you are married and file jointly with a spouse and make over $44,000, up to 85% of your Social Security benefits may be taxable. That also applies to individuals who are single and earn above $34,000.
So as you can see, turning on Social Security at the earliest age of 62 comes with many disadvantages. It is especially harmful to those that are also still working and earning above the threshold.
If you are a non-married couple, I suggest you have a conversation regarding Social Security benefits. From a retirement income planning perspective, I often ask non-married couples if they intend to get married or not. This isn't about me being nosey, but your relationship status can make a difference.
For instance, if you are in a committed relationship and have been for many years but just never went to tie the knot, know that spousal privileges do not apply to domestic partnerships. If you stayed home to take care of the kids your entire career but never married, you would miss out on spousal Social Security benefits.
Social Security also amended the law back in 2015 so that same-sex married couples receive the full spousal benefits as heterosexual married couples. This change is significant because I know of many same-sex couples who never knew about this change in Social Security benefits and have not elected to get married for years. After all, they were just used to not having a marriage title.
Divorcees are also eligible for ex-spousal benefits provided that they were married for at least ten years and had not re-married. For example, let's say John and Jane got married when they were both twenty years old and divorced when they were both thirty years old. If John is never re-married, he could file for ex-spouse benefits based on Jane's Social Security benefit.
Social Security doesn't care about the marital status of the former spouse; they only care about yours. If Jane goes on to re-marry another individual, let's call him Joe, and that marriage lasts for ten years before a divorce, both Joe and John can collect on Jane's earned benefit as long as neither of them ever re-married. Adding to that, John and Joe receive full spousal benefits; it doesn't get split between another person. Ask why I bring this up? I get asked this a lot, especially from couples in their second marriages. And we wonder why our Social Security system is all jammed up...
To sum up divorcees, you can collect as long as the marriage lasted ten years, you have not remarried, you're age 62 or older, and your ex-spouse is eligible for Social Security benefits. If your ex-spouse has passed, you are eligible at age 60 or 50 if you are disabled, and the marriage lasted ten years or longer.
When it comes to widows, you can collect widows' benefits at age 60 or older and age 50 and above if you are disabled. Your amount will vary depending on your age and the benefit that your spouse was entitled to while alive. If your spouse were taking reduced benefits, your number would also be based on the reduced benefits. If your spouse had delayed Social Security to the maximum amount possible, you would be bumped up to that number as well.
If a widow re-marries before age 50, they would no longer be eligible for the widower's benefit so long as that second marriage is intact. However, if the widow remarries after age 60, the widow (or should I say newlywed? haha) can maintain receiving benefits on the deceased spouse's Social Security record. If the new spouse has a higher Social Security benefit, you can reapply for benefit based on the second spouse, but you can't have both.
So when exactly should a person take Social Security? The answer is that it all depends on the individual. For some, taking Social Security at age 62 makes a lot of sense, and for some, it certainly makes no sense taking it before age 70. Each individual's situation and the situation of a couple is unique, and this is where I implore you to speak with a trusted financial planner to go through the options and understand what makes the most sense.
I worked with an individual diagnosed with cancer at age 65, and for him, it made no sense to delay the benefits, especially not knowing what was around the corner. For those with the financial means to carry their retirement lifestyle without Social Security, it could make a lot of sense to delay the benefits for a couple of years past FRA to obtain the maximum benefits.
A lot of that question is based on whether or not you think you'll live long enough to see the more significant benefit. The numbers are not just about delaying Social Security and getting a higher monthly payout, it is also about the lost potential of the years of uncollected Social Security.
For instance, let's go back to John, who is eligible for $2,000 a month at age 67. Yes, it's true that if he delays turning on Social Security until age 70, he will, in turn, start receiving $2519 a month, which is an additional $6228 a year, but he would have also missed out on $72,000 worth of benefits. That $72,000 could be the difference between having your home paid off going into retirement if you know what I mean.
So that begs the question, what is the break-even point? While the break-even age should not determine when to turn on Social Security, it is a helpful guide to help you understand the potential of the benefits by delaying.
In the above example of John delaying until age 70, the break-even age is calculated by dividing the $72,000 by the increased benefit, which gives us a break-even number of 11.5 years. So the question that remains is, does John expect to live past age 81-1/2 because if he does, every year after that, he will be making much more money than if he had turned on Social Security at age 67.
That is made even more apparent when we calculate the break-even age for someone deciding whether they want to turn on Social Security at age 62 rather than waiting until FRA. This is a pervasive question; most people want to know if waiting makes sense. The answer is the break-even is approximately 140 months which is 11 years and six months, so the question then becomes, do you anticipate living past age 78?
Here's a fun fact: delaying Social Security by one year past your FRA would provide an additional monthly amount equivalent to having your Medicare Part B coverage paid for the rest of your life.
Social Security benefits are all about timing and your situation. If you have the financial means to retire and delay taking Social Security, it could dramatically increase your benefits down the road. Additionally, it would also leave a higher benefit base for your spouse upon your passing.
Strategies for Maximizing Benefits
Every married couple has to figure out their method for maximizing Social Security benefits, but these three strategies are the starting point for optimizing the benefit amounts.
Strategy for One Primary Income and Late Claimers
If your household has one individual who has a significantly higher earning than the other, then this strategy is for you. This is the most recommended option for those with a stay-at-home parent.
For this, it is recommended for the primary income driver to delay taking their Social Security benefits until age 70. Even though the difference between FRA and age 70 does not impact spousal benefits, it guarantees the maximum allowable amount between individuals.
If both spouses have a similar income or have hit the maximum allowable, then, of course, it makes sense for each individual to claim their own at age 70.
Strategy for Divorcees
Divorcees are eligible for benefits of their ex-spouse as long as they have been married for ten years and the divorce has been in effect for at least two.
Easy enough, if the marriage has lasted for ten and you've been divorced for at least two years and have not re-married, then as a divorcee, you are eligible for ex-spouse benefits at age 62 but keep in mind that is a reduced benefit.
When claiming Social Security as a divorcee, the Social Security Administration will need to know your ex-spouses' information to finalize numbers, so you should know your ex-spouses' Social Security number and DOB.
Also, keep in mind that the divorce must have been in effect for at least two years, so if you are near retirement age and contemplating a divorce, then it might be in your best interest to file as a spouse first before your divorce finalizes so that you do not have to wait the two years. Not saying but just saying.
Strategy for Widows
As a widow, you can claim full widows' benefits at FRA or reduced benefits as early as age 60. A strategy for working widows is to claim survivors' benefits during the early years of retirement while delaying their own Social Security benefits until age 70 to maximize the amount.
Don't forget that if you delay your retirement benefit past FRA, the benefit base increases by 8% each year until the maximum benefit is at age 70. You can then switch from the lower survivors benefit amount to your full benefit amount at age seventy.
A lot has changed in the past five to seven years regarding Social Security benefits. The decrease in the trust fund assets over this past decade meant that Social Security had to strip away many previously available benefits. Options that your older friends or family members had in the past are no longer available. Things like file and suspend or taking spousal benefits while delaying your retirement benefits until age seventy is generally not available for those born after 1954.
When it comes to maximizing Social Security benefits, most will find, especially in a dual-income household, that each individual's benefit is generally more in comparison to a spousal benefit. Furthermore, trying to figure out whether delaying to age seventy while not necessarily waiting until age seventy to retire could make you question whether you have saved enough in retirement to make retirement possible at age sixty-five or the age you desire.
In short, you should consider planning out Social Security with your retirement nest egg in mind. An experienced financial advisor can help you determine whether your nest egg can withstand retiring before having turned on Social Security benefits.
And that's all I've got for you today, my friends. I hope you enjoyed this extended feature on Social Security, and I want to thank those of you who have reached out with comments and questions and, more importantly, sharing with me what you would like to learn about. Until next time, I wish you and your family the very best.