Filing for social security too early is one of the biggest mistakes that retirees make. While applying for benefits early is tempting due to the prospect of receiving a little extra cash sooner, taking social security early also results in reduced benefits for the rest of your life. Should you wait? It depends, and the final decision should be made within the context of a financial plan that considers your specific situation. Developing a social security strategy that maximizes payments can be a critical piece of your retirement plan. Here is an overview of social security and some key questions to consider in your situation.
To better understand when to begin taking social security, it would be helpful to step back and understand how social security works. The Social Security Administration (then Board) was established in 1935 with the goal of supplementing the income of the less fortunate. While this fact may seem like a boring history lesson, it’s important to remember that social security has always been intended to supplement income – not replace it – and should be viewed as such. There are many types of social security benefits, but the most relevant one to financial planning is the retirement benefit. As you probably know, social security is funded by everybody who works and pays social security taxes on their earnings.
The age at which you are supposed to begin taking social security, what is known as “Full Retirement Age” (FRA), is somewhere between 66 and 67 (depending on when you were born). You may begin taking social security as early as 62, something known as “Early Retirement,” but there is a catch. When you file for social security early, you receive a reduced monthly amount of what you would have received if you had waited until full retirement age (up to 40% less per year). On the flip side, if you delay retirement you will receive up to 8% more per year for each year that you wait (until you reach age 70). If you have a spouse who is also eligible for a portion of your benefits, delaying increases not only what you will receive, but what they will receive as well. Put simply, it pays to wait, but there are a few items to consider when determining what is best for your situation. First, consider your health and life expectancy. While it’s impossible to know how long you will live, the overwhelming majority of Americans will live well into their 80’s and a married couple has a 50/50 chance of one living into the 90’s. This long life expectancy is why it makes sense for most people to wait on social security. However, if you have an existing health condition or concerning family history, early filing may make sense. One way to think about social security is in terms of a ‘break-even point;’ the point at which waiting begins to result in a greater total benefit. In my experience, the ‘break-even point’ for filing at Full Retirement Age, compared to filing at age 62, is usually in a person’s late 70s. If you have a good chance of living to your 80’s then waiting is probably your best option.
It is worth mentioning that a significant portion of the benefit from waiting comes from the “Survivor Benefit.” The longest living spouse in a married couple will receive the higher of the two spouse’s social security benefit for life. Therefore, a married couple should consider the longevity of both spouses. Again, a married couple has a 50/50 chance that one will live into the 90’s making it beneficial to wait on social security.
Secondly, you’ll want to look at the nature of your income in retirement. Social security should be used to supplement other sources of income such as IRAs, pensions, or annuities. If you have saved well and have significant other assets, then the social security decision is not as critical. However, if social security is a significant portion of your retirement income, receiving 40% less in retirement can destroy your retirement plans, and leave the longer living spouse in destitution. Too often, I see retirees using social security to retire earlier than they should without regard for the future.
Whatever your situation, it pays to make wise decisions about social security in the context of a well-thought-out plan. If you would like help analyzing your situation, please feel free to give us a call.