The importance of Social Security cannot be overstated. The program provides approximately 60% of America’s seniors with half of their monthly retirement income, and for a third of recipients it comprises over 90% of their income. Despite this heavy reliance, less than 5% of seniors avail themselves to strategies designed to maximize their lifetime income and relieve the burden of poverty in old age.
And despite well publicized concerns about the future solvency of the program, Social Security is by no means broke. The program is expected to remain fully solvent until 2034 and, even assuming that no corrective legislative action is taken, will maintain sufficient funding to honor approximately 80% of more distant benefits. Given the importance of the program to America’s seniors, it will continue to play an important role in retirement income planning.
How benefits are calculated
Social Security retirement benefits are calculated using your highest 35 years of earnings- limited to the maximum earnings subject to Social Security tax in that year ($127,200 for 2017). An adjustment is made to reflect changes in average wages, so older wages are effectively increased for inflation. For those with more than 35 years of wages the lowest wage years are removed, while zeros are used in the calculation for those with a work history spanning less than 35 years.
The resulting calculation determines your primary insurance amount (PIA), or the amount you will receive in retirement benefits upon attaining your full retirement age.
Patience really is a virtue
Seniors can begin taking their Social Security retirement benefits as early as age 62, or may defer collection until as late as age 70. The benefits of deferring are compelling, yet close to two-thirds of seniors begin their benefits before reaching their full retirement age. A mere 10% begin their benefits after.
Folks with a full retirement age (FRA) of 66 that begin collecting benefits at age 62 receive 75% of their FRA. Benefits are reduced by 5/9 of 1% per month for the first 36 months and 5/12 of 1% for each additional month, so a similar 64-year old that begins collecting benefits would receive 86.7% of their FRA. This reduction is permanent and is applied to benefits paid to a surviving spouse.
An additional disincentive to early collection comes in the form of an income-based benefit reduction. Individuals that have filed for benefits prior to their FRA will see a $1 deduction in Social Security benefits for each $2 of income in excess of $16,920 (2017). For those attaining FRA in 2017, this total declines to $1 for each $3 earned in excess of $44,880 until the month you reach your FRA, at which point these offsets no longer apply.
In contrast, those with an FRA of 66 that commence benefits at age 70 receive 132% of their FRA benefit. These folks receive a delayed retirement credit of 2/3 of 1% per month, which equates to 8% per year. Like the reduction, this increase is permanent and is applied to benefits paid to a surviving spouse. Social Security cost of living increases are also based on this higher amount.
To defer or not to defer
Deferring benefits is not right for everyone, and several factors including health, wealth and marital status may impact your decision. For example, a single individual in poor health may not live long enough to reap the rewards of deferred collection and, very importantly, taking their benefits early will not affect a surviving spouse. For those that are extremely wealthy, where Social Security comprises a mere sliver of their retirement income, the claiming age decision may seem relatively unimportant.
Perhaps the most common scenario favoring collection at or before one’s FRA is that of a married couple where one spouse has a much smaller benefit and a longer life expectancy than their partner. In this scenario the lower earning spouse will receive the amount due their higher earning spouse when their spouse eventually dies. A bit of number crunching is recommended, and don’t ignore the role that filing for benefits prior to your FRA has on other benefits that you may be eligible for.
Life expectancy clearly plays an important role: the longer lived will benefit most from deferring benefits, while unmarried individuals with a short life expectancy may be wise to begin their benefits early. It is important, however, to remember that a key benefit of delaying Social Security benefits is to provide higher income during the later years of retirement. For many, this may make it possible to live out their final years in dignity, rather than in penury.
The role of spousal benefits
Retirement benefits may be paid to your spouse, even if they did not attain the 40 quarters of work required to qualify for their own retirement benefits. A spouse can begin benefits as early as age 62, at a reduction, or at their full retirement age. It’s important to note that spousal benefits are not eligible for delayed retirement credits, so there is no incentive to defer these benefits beyond your FRA. The rub, however, is that your spouse must be receiving retirement or disability benefits in order for you to apply.
Spousal benefits may also be paid to a qualifying ex-spouse, if the marriage lasted 10 years, you are currently unmarried, and your ex-spouse is entitled to Social Security retirement benefits. If you remarry you will no longer be eligible for these benefits until your marriage ends. Finally, unlike spousal benefits for currently married couples, there is no requirement that your ex-spouse be claiming benefits for you to qualify.
Restricted Applications: get it while it lasts
Much has been made of the elimination of the “file and suspend” strategy, which allowed both spouses to simultaneously defer their retirement benefits while one spouse could collect a spousal benefit based on the earnings record of the other. The Bipartisan Budget Act of 2015 eliminated this strategy, but temporarily left in place the ability for those born on or before January 1, 1954 to file a restricted application for spousal benefits.
Qualifying individuals that are currently married, or are divorced and eligible for a benefit based on their ex-spouse’s earnings record, and having attained their full retirement age, can file a restricted application for spousal benefits. Their own retirement benefits will continue to earn delayed retirement credits until they attain age 70. It’s important to note that if you are currently married your spouse must file for their retirement benefits for you to be eligible to apply for spousal benefits. In the case of an ex-spouse, their former spouse must have attained age 62, but there is no requirement that they file for their retirement benefits.
When filing a restricted application for benefits it is absolutely critical for the individual filing to have achieved full retirement age. Early filing will run afoul of the “deemed filing rule,” which says you are filing for all benefits that you are deemed eligible to receive, thus an early application for spousal benefits would also be an early application for your own retirement benefits.
If your spouse has passed away, you may be eligible to collect a Social Security surviving spouse benefits. This benefit may commence as early as age 60 (earlier if disabled), and may be filed for separately from your retirement benefit.
Surviving spouses are thus eligible to file a restricted application for a surviving spouse benefit and delay filing for their retirement benefits. The ability to do this was not impacted by the Bipartisan Budget Act of 2015. Those that file prior to their FRA are subject to a reduction in benefits (though the formula used is different) and any income earned in excess of the prevailing limits will cause a reduction in benefits.
In the case of someone whose own retirement benefit will be larger than their surviving spouse benefit, they may collect the survivor’s benefit (early or at their FRA) and defer their own retirement benefit and earn delayed retirement credits.
Social Security filing strategies can become quite complex, and understanding how to properly file for multiple benefits will help avoid unintended consequences.
In our next blog post we’ll present several strategies that can help retirees achieve a higher level of lifetime income, and avoid running out of money in old age.
John Male, CFP®, RICP®
The Gassman Financial Group
The Retirement Maven™
9 East 40th Street
New York, NY 10016