Social Security is available from the time we turn 62 years old. But there is a penalty for taking it before our full retirement age–the payment is lowered. And there is a benefit for taking it later than our full retirement age–the payment increases for every year we defer until age 70. There is no reason to defer past 70.
For most of my readers, your full retirement age is 67. For those born between 1938 and 1959, your full retirement age is between 65 and 67. For those born before 1938, your full retirement age is 65.
Conventional wisdom says if you are in good health, you should wait until age 70 to claim Social Security because that maximizes your payment. The payment grows 8% per year from your full retirement age until 70. 8% sounds like an amazing increase until you realize you are trading twelve months of payments for that increase.
And conventional wisdom assumes you are living paycheck to paycheck. You get your Social Security and you spend your Social Security.
If that’s your situation, then you’ll claim it when you need it to pay your bills and put food on your table.
But I suspect many of my readers are in our situation: We will have other resources available to pay our bills. We will claim Social Security so we optimize our long-term finances.
When we take Social Security, we will have more money available to invest. We will essentially be investing our social security payments.
For this exercise, I went to SSA.gov and selected Retirement Estimator, I verified my identity with personal information including last year’s earnings. I then created estimates of my payments for age 62 (early retirement), 67 (full retirement) and 70 (late retirement) based upon $0 earnings between now and then. My estimates are below. You should do the same exercise as your numbers will differ from mine. The benefits are based upon your highest 35 years of earnings.
You can see, there’s a huge payment decrease (57%) if I claim at 62 rather than 70. But keep in mind, I’m giving up $167,520 of payments not including Cost of Living Adjustments (COLA) by claiming at 70 ($1,745 x 12 months x 8 years).
I then created a spreadsheet–Y’all know how much I love my spreadsheets! This one took these different payment amounts and increased them by a 1.8% COLA each year from now on. 1.8% is the average COLA over the last ten years and should approximate inflation.
If I’m living paycheck to paycheck, spending my Social Security as soon as it is received, claiming at 62 is best unless I live past 76, Claiming at 67 is best unless I live past 79. I’m planning to live well into my 80’s so for me, claiming at 70 would maximize my lifetime payments. (Average life expectancy of someone who reaches age 65 is 84.3 years for men and 86.6 years for women)
There are great arguments for just stopping here. This outcome isn’t dependent on investment success, economic stability or sustained cognitive abilities as I age. But I think it’s worth looking at my real scenario.
If I have other resources and can essentially invest my Social Security, the crossover ages change depending on my investment success.
With a 1.8% COLA and 6% investment returns, claiming at 62 is best unless I live past age 84, Claiming at 67 is best unless I live past age 88:
See how 6% almost equalizes the outcomes regardless of the date claimed? Whichever you choose, you’re within $100,000 of the other decisions if you reach your mid-80’s. I like this because if I choose to claim early for my peace of mind, I’ll come out OK compared to the other options. We’re talking over 30 years into the future so $100,000 isn’t much of a difference in today’s dollars.
With a 1.8% COLA and 8% investment returns, all three scenarios come together between age 95 and 97:
But they are virtually identical once I reach 80. So again, claiming at 62 for my peace of mind wouldn’t be drastically wrong.
This makes me think of my Mother In Law. She was a real estate agent in a real estate downturn and struggling financially. She decided to claim when she reached 62. She died unexpectedly due to medical error at 64. I’ve always been thankful that she took her benefits early, the money reduced her stress and allowed her some luxuries.
Is it realistic to assume 6% and 8% investment returns? Who knows what the future will bring but here are the historic returns of the S&P 500 including dividends:
|S&P 10 year return||7.6%|
|S&P 20 year return||6.9%|
|S&P 30 year return||9.3%|
|S&P 40 year return||11.5%|
What else should be considered before making this decision?
Earnings – if you claim before full retirement age but continue to work, Social Security will withhold $1 of benefits for every $2 earned above a limit ($16,920 in 2017). The withholding calculation changes for the year you reach full retirement age. But, you’ll effectively get these amounts back in the form of higher benefit payments once you reach your full retirement age.
Taxes – If Social Security is the only income you receive, you won’t pay taxes on it. However, if you have other sources of income including wages, interest (including non-taxable interest), dividends, capital gains, pensions etc. up to 85% of your Social Security may be taxed. The calculation is complicated (surprised? I’m not). You’ll need to calculate your “combined income” which includes gross income + nontaxable interest + 1/2 of your Social Security benefits. If this amount exceeds $25,000 for an individual or $32,000 for a joint return, a portion of your benefits will be taxable.
Lower Paid Spouse – If you are the high earner in your family, your spouse’s Social Security benefit may be based on your earnings and your claiming decision. The lower earning spouse can either claim the benefit they earned (if any) or a benefit based on half of the high earner’s benefit. And if the high earner takes their benefit early, the spouse’s share is also decreased and if the high earner takes their benefit late, the spouse’s share is also increased.
If the lower earner claims early, the benefit decreases further.
When one spouse dies, the living spouse can take the larger of their own benefit or their deceased spouse’s benefit.
This area is a particularly tricky one–so tricky I’ve heard stories of Social Security Staff giving incorrect guidance. If you are in this situation, it may pay to have an expert help you navigate your claiming decision.
Health Insurance under the ACA – Social Security benefits are included in the calculation of Modified Adjusted Gross Income. So claiming benefits may cause a family to lose their health insurance subsidies. Mr. Ms. Liz turns 62 next year (I’ll pause while you gasp!). If he claims Social Security, we will need to manage our other income sources so we remain below the limits for the Obamacare subsidy. This will likely mean he will not be able to continue his tax free conversions of traditional IRA to Roth IRA accounts. With healthcare in flux, we’ll have to watch this impact closely.
So, what do you think? Does this make you think differently about when YOU will claim your benefit?
Want to read more about this? Check out my Social (in)Security is Complicated!
This stuff is super complicated and missteps can affect you for decades–consult an expert before doing anything with your own Social Security.
Photo credit: Ms. Liz in Knowles Canyon, Lake Powell, Utah. ahhh my happy place!