Social Security is perhaps the best-known and most popular benefit system provided by our federal government. For most American workers, it is an essential component of their retirement income, especially as traditional company pension benefits are reduced or eliminated. Although the concept of Social Security is quite simple (workers contribute a portion of their earnings to a trust fund, and that trust fund provides retirement benefits once they reach a certain age), the details of the program can be very complex. As a result, many participants either fail to take full advantage of available benefits, or they are caught by surprise when those benefits are lower than expected. Here are a few of those important details that everyone should know.
The longer you wait to claim your Social Security benefit, the higher that benefit will be. Anyone born in 1960 or later can claim their “full” Social Security benefit starting at age 67 (also known as Full Retirement Age, or FRA). Those born before 1960 can claim full benefits sometime between age 65 and age 67, depending on the year they were born. Most people are aware that they can start Social Security benefits as early as age 62, but many of them do not know that starting at age 62 will reduce annual and lifetime benefits by 25% or more. Even fewer people are aware that the benefit amount will continue to increase by 8% per year between FRA and age 70. Of course, deferring the benefit means you are foregoing a payment today in exchange for a higher payment in the future, and it’s important to weigh those tradeoffs, but it often makes sense to wait until age 70 if health is good and other financial resources are available.
Your Social Security contributions can benefit other members of your family. Deciding when to start Social Security benefits doesn’t affect the retiree alone, but also may impact spousal and survivor benefits should those come into play. Take for example a family with a single breadwinner. When that worker retires and starts to take Social Security benefits, the spouse will be eligible for a spousal benefit for as long as the retiree is alive, and for a survivor benefit after the retiree dies. In addition, if the primary breadwinner were to die prematurely, benefits are available to the surviving spouse and to any unmarried children under the age of 18. In certain circumstances, these benefits would extend to a divorced spouse as well. All of these benefits are calculated as a percentage of the primary earner’s benefit, which only adds to the importance of the initial claiming decision discussed above. Of course, if there are two breadwinners in the family, and if there is a meaningful age difference between the two, the benefit options increase significantly, and claiming decisions can become quite complicated.
Part-time work during retirement can reduce your Social Security benefits. It can be very tempting to start taking Social Security benefits at age 62 even if you plan to continue working. It’s important to know that until you reach your Full Retirement Age, your benefits will be reduced once your income exceeds a certain annual limit ($18,960 in 2021). For every $2 earned above the annual limit, benefits will be reduced by $1. Once you reach full retirement age, you can earn as much as you want with no impact on your Social Security benefits. This is an important factor to consider when deciding whether to start your benefit at age 62 or wait at least until Full Retirement Age.
Income from certain pension plans can reduce your Social Security benefits. Many who work in state and local government or in education contribute a portion of their pay to public-sector pension programs rather than Social Security. If they spend their entire careers in these public-sector jobs, they generally will not be eligible for Social Security benefits; however, if they spend a portion of their career in the private sector, they likely will be eligible for both a pension benefit and a Social Security benefit. In either case, they might also be eligible for Social Security’s spousal benefits as discussed previously. Under these circumstances, Social Security benefits will be reduced to take into account the benefits received from the public-sector pension plan. Although most public-sector workers are aware that these offsets exist, the magnitude of the impact can often be an unpleasant surprise.
Social Security benefits are subject to tax. Those who have substantial income in addition to their Social Security benefits will have up to 85% of their Social Security benefits included in taxable income. While such taxation might be unavoidable, it does present another argument for delaying the start of your benefits to age 70 if possible. Not only will you be deferring the taxes on those benefits, but you also will provide more flexibility to take income from other sources, possibly at lower capital gains tax rates, between retirement and age 70.
Bonus Tip: Claim your account on the Social Security website before anyone else does. Like many other agencies, the Social Security Administration has moved as much of their business online as possible, including access to your personal account information. If you haven’t already done so, it’s important to set up your personal account at ssa.gov/myaccount. Doing so will allow you to not only generate your current benefit statements (which are no longer sent by standard mail), but also to secure your online account to prevent others from gaining access to it.
Everyone is familiar with Social Security but, when we cover these issues with clients, we find that it's often an eye-opening experience for them. And when we emphasize that Social Security is a lifetime benefit that adjusts for inflation, the significance of these issues becomes even more clear. The easy answer might be to start benefits as soon as you are eligible, but the best answer is often something entirely different. If you want to take full advantage of this important retirement benefit, talk to a Social Security representative, or to a professional advisor, to make sure you have all the facts.
About the Author: Kevin Fix, CPA / PFS is a fee-only fiduciary Senior Financial Advisor at Fullen Financial Group. He has worked for more than 25 years in accounting and finance, with much of his career spent in public accounting and company financial management. He has extensive experience managing finances and investments for individuals, small business owners and large corporations. Kevin earned his CPA license in 1992 and became an independent Registered Investment Advisor in 2011.
Kevin earned Bachelor’s degrees in Accounting and International Studies from Miami University, and a Master’s degree in Business Administration from the University of Chicago Booth School of Business. He is a member of the American Institute of CPAs and their Personal Financial Planning practice section. Kevin lives in Upper Arlington with his wife, Amy, and their three children, and is an active member of the business community.
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