For most of us, Social Security benefits are an important part of our retirement planning, but understanding how best to deploy them can be a bit tricky.
Start with what’s known as “Normal Retirement Age,” or NRA. For those of us born between 1943 and 1954, that’s age 66. For those born in 1960 or after, the NRA is 67. For those born between 1954 and 1960, the NRA increases by 0.2 years each year.
While it’s possible to retire “early,” starting at age 62, there are two drawbacks. First, your benefits will be reduced by 25 percent. Second, any earned income you generate will cause some or all of your benefits to be clawed back. For those expecting to continue to work, the decision whether or not to claim Social Security benefits early is simple—don’t.
My focus in this column is whether to claim Social Security at your regular retirement age or to wait. The most important number to keep in mind in making this decision is 8. That’s the percentage rate at which your benefits increase starting at your NRA until you reach age 70.
By way of example, assume you’ve been making somewhere around the maximum earnings on which FICA taxes are paid, currently $110,100. If you’re just turning age 66 (your NRA), you should expect to receive monthly benefits of approximately $2,200. For every month you delay starting to receive Social Security, your monthly benefit will increase by two-thirds of 1 percent over your NRA benefits, or 8 percent divided by 12 months. If you wait one year to start, your monthly benefit would begin at $2,376. If you wait until age 70, the beginning benefit will be $2,904.
Whether it’s better to begin receiving $2,200 per month now or $2,904 starting four years from now is the $64 question.
Joint annuity
For singles, the decision whether or not to delay is significantly influenced by health considerations. If one has a condition likely to lead to an early death, it makes no sense to delay. But for married couples, health is of high importance in the decision process only if both spouses have shortened life expectancies.
That’s because Social Security benefits are, in effect, a joint life annuity. Unlike the typical defined benefit pension, where the retiree must accept a lower monthly benefit to provide for a surviving spouse, a surviving spouse is automatically eligible to continue the deceased spouse’s full Social Security benefit.
Let’s look at our retiring 66-year-old. According to the IRS life expectancy tables found in Publication 590, the average life expectancy of a 66-year-old is 20.2 years, which means living to age 86. For a 66-year-old with a like-age spouse, the joint life expectancy is 25.3 years; if the spouse is five years younger, its 28.5 years. In the latter case, the odds are even that one of the spouses will collect Social Security benefits for almost 30 years.
File and suspend
Perhaps the least well understood Social Security tactic for married people is known as “file and suspend.” Once a spouse reaches NRA, he or she is entitled to receive benefits based on the earnings of the other spouse, provided the other has already filed for Social Security benefits. The normal spousal benefit is one-half that of the other spouse’s benefit. Of course, only one member of the couple can receive benefits based on the Social Security record of one spouse.
That’s where “file and suspend” comes in. Although it doesn’t seem particularly logical, it’s absolutely the case that our 66-year-old can file a claim for Social Security benefits, then suspend his or her benefits to an indefinite time in the future, preserving the 8 percent annual increase in benefits.
Let’s look at another example. George just turned 66. George has been his family’s main breadwinner, while Martha, a year his junior, devoted much of her working years to raising their children. While the children were growing up, Martha supplemented the family finances through her freelance design business. Let’s assume she’s no longer generating income, so she files for benefits at age 62 based on her own earnings record and begins receiving $600 per month.
George likes his work and doesn’t intend to retire for at least several more years, so he doesn’t file for benefits at his NRA. When George is 67 and Martha turns 66, she’s now eligible for half George’s benefit, which turns out to be $1,100 per month. So George files and “suspends,” while Martha elects to give up her $600 a month and take the $1,100 half of George’s benefit.
By suspending receipt of his benefits, the amount of George’s benefit continues to grow at 8 percent per year until he does begin receiving benefits.
Three years down the road, when he reaches age 70, George now starts his benefits, which as we saw above have increased to about $2,900 per month. If George dies before Martha, she can then elect to receive 100 percent of his benefit.
Let’s recap how the system works for George and Martha. Starting when George is 63 and Martha 62, Martha receives $600 per month in Social Security for four years. Then, when George turns 67 and Martha 66, George “files and suspends,” which lets Martha increase her benefit (half of George’s) to $1,100 per month for three years. Finally, when George turns 70 and his benefits reach their maximum, George begins receiving $2,900 per month, while Martha continues at $1,100 per month, for a total of $4,000 per month, which, given their joint life expectancy, would most likely be another 22 years. By filing and suspending, George and Martha not only maximize their joint annuity but also receive $500 per month for a likely 25 years, or $150,000 in additional Social Security benefits.
For many, the spousal benefit is found money.
