Making Sense Of Social Security

Social security is a subject which affects many but is fully understood by few. The most common question that we get asked about social security is when one should begin drawing retirement benefits. The answer is, as in most questions we are asked as CPAs, that it depends.

To answer this question, we will first review who is eligible for social security and what factors determine how much you will receive. Next, we will identify the options you have for drawing benefits. Finally, we will address the advantages and disadvantages of each option.

Who is eligible for social security benefits?

There are two different classes of eligibility – fully insured and currently insured. Most people that work will achieve fully insured status and will be entitled to full social security benefits. The Social Security Administration (SSA) defines a fully insured individual as someone who has 40 credits of work. You can earn a maximum of 4 credits per year (1 per quarter). Once you earn the 40 credits, you are fully insured for life. There are some exceptions to this rule.

A currently insured individual is defined as having at least 6 social security credits during the full 13 quarter period before taking the benefits. They are only entitled to certain survivor and disability benefits, and a onetime death benefit.

In most cases, your spouse is also entitled to receive social security retirement benefits based on your earnings. If they are also fully insured, your spouse’s benefits will be calculated using the PIA (defined in the next paragraph) calculated from their work history or 50% of your PIA, whichever is greater.

How much of a monthly retirement benefit am I entitled to?

This complicated computation involves calculating a Primary Insurance Amount (or PIA). The calculation considers the average of your 35 highest earning years of work to yield a monthly benefit that partially replaces the earned income lost because of retirement. If you have worked less than 35 years, the calculation will use zeroes for the years in which you had no earned income, effectively reducing your PIA.

When can I start receiving my retirement benefits?

The age you can start collecting your full social security retirement benefits (called Full Retirement Age, or FRA) depends on when you were born. Individuals born between 1943 and 1959 reach their FRA at age 66. Anyone born in 1960 or later reach their FRA at age 67.

You can elect to start receiving your retirement benefits before your FRA and as early as age 62, but you will receive a permanently reduced monthly payment if you do so (up to 30% less depending on your FRA). You can also elect to start receiving retirement benefits after reaching your FRA (up to age 70), and you will receive a permanently higher monthly payment as a result. Additionally, you have the option of filing for social security retirement benefits and then suspending your benefits for any length of time up to age 70. There are advantages and disadvantages for each of these options.

What are the advantages of drawing social security retirement benefits early?

  • You begin receiving income immediately.
  • You will receive the greatest number of payments over the remainder of your lifetime. Individuals with a shorter life expectancy (due to illness, etc.) may want to start receiving benefits as soon as possible.
  • Additional income may allow you to postpone drawing down tax-deferred retirement accounts.
  • You can invest the funds. The earnings can narrow the difference between taking benefits early or waiting.
  • As long as you’ve applied for benefits, your spouse can begin to draw on your retirement benefits when he/she reaches age 62.
  • Dependent children under the age of 18 may also be eligible to receive dependent benefits.

What are the disadvantages of drawing early?

  • Your benefits will be permanently reduced by up to 30% based on your FRA.
  • Your benefits could be further reduced if you continue to work between age 62 and FRA. The reduction is based on an earnings test.

What is the earnings test?

For every $2 you earn over the annual exempt earnings amount ($16,920 for 2017), your benefits will be reduced by $1. The earnings threshold increases in the year you reach FRA ($44,880 for 2017), and benefits will be reduced by $1 for each $3 earned over the exempt amount.

Contributions to a 401(k) or other pre-tax retirement plan may be used to mitigate the impact of the earnings test prior to turning 66. The income limitation is based on earned income, not passive income such as interest and dividends. Once you’ve reached FRA you are no longer subject to an earnings test and your benefits will no longer be reduced.

What are the advantages to waiting until I reach my full retirement age?

  • You will receive your full social security retirement benefits.
  • You could continue to work without being subject to the earnings test.
  • If you die before your spouse, he or she can receive 100% of your benefits as survivor benefits.

Is there any reason to postpone drawing benefits even after I reach age 66?

  • Many people prefer to keep working.
  • You might not need the extra income or want the extra tax liability.
  • You could have additional years of earnings which would replace lower earning years during the 35-year calculation period.
  • Your benefits will increase until you reach the age of 70, or until you start to draw benefits, whichever comes first. This is due to the indexing amounts (which are used to calculate your PIA) increasing over time.
  • You can increase your benefit by earning the delayed retirement credit.

What is the delayed retirement credit?

The delayed retirement credit will increase your monthly retirement benefit payment by 8% per year between your FRA and age 70. For individuals that began receiving reduced benefits prior to reaching their FRA, suspending benefits is one way to increase the amount they receive when they start to draw again. If you did not draw benefits prior to reaching your FRA, 100% of your PIA will increase by 8% for each year that you delay drawing. You could potentially receive a 32% higher monthly benefit at age 70 than you would have at age 66 (8% times 4 years).

If you plan to take a long retirement or you are expecting to live a long life, your post-retirement needs will be greater. Having a 32% higher monthly benefit could make a significant difference in your lifestyle during retirement.

Are there any disadvantages to waiting?

  • You will have missed the opportunity to receive benefit checks, although reduced, between the age of 62 and FRA.
  • You will have missed the opportunity to receive full benefit checks between your FRA and age 70, should you decide to wait that long.
  • You may miss the opportunity to receive any payments at all if you die early.
  • Your spouse or dependent children may also have missed the opportunity to receive benefits since they cannot draw on your benefits until you have applied. Applying and suspending benefits is one way to work around this drawback.

What other factors should I consider?

  • You may want to calculate your breakeven-point to determine at what age total benefits received will be equal at different starting dates. If you wait until FRA to draw benefits, when PIA remains the same, it generally takes around 12 years to receive the same amount of money you would have received had you started collecting at age 62.
  • Receiving benefits may increase your income taxes. Depending on your income level, 50% or 85% of you social security benefits could be subject to taxation. The tax rate on your social security may be higher if you continue working after attaining FRA.
  • Examine the impact of social security retirement benefits on the lifestyle you want during retirement.
  • Consider possible future changes to the social security program including a means test that might cut benefits for high net worth individuals, benefit reductions to preserve the program, or doing away with the program altogether. Some people believe they should “get it while they can.”
  • Visit for additional information and tools, such as a retirement estimator, FAQs, and to view your social security statement.

There are many important factors to consider when determining the best time to start drawing social security retirement benefits, including your age, life expectancy, and the age of your spouse and dependents. You should also consider whether you intend to continue working, your earnings history, income tax consequences, need for additional income, and the length of your retirement. Weigh the resources you have available with what you will need after you have retired.

There is no one-size-fits-all answer as each individual’s circumstances are unique. The decision on when to take your social security retirement benefits should be carefully thought out and planned with your financial and tax advisors.