Social Security Dilemmas - Part 1

One of the most commonly asked topical questions I get is that of Social Security (SS). Laws that affect SS are subject to the political winds thus making it hard for even the astute observer to keep track. Let's lay some basic groundwork first. SS is a pay as you go system - benefits received are financed by taxes currently collected from employees, employers and self-employed. SS tax rates have risen from 1% in 1937 to 7.65% in 1996. All earnings are based on Normal Retirement Age (NRA), currently age 65 for those born in 1937 or before. NRA continues to grow to age 67 for those born in 1960 or afterwards.

For every month one receives SS before NRA, there is a reduction of benefits. For example, if one retired at age 64, the benefit would not be 100%, but rather 93.3%. At age 63 and 62 it would be 86.7% and 80%, respectively. Question! If retired, should one take a reduced benefit now or hold out till 65? A fact to ponder - it takes 180 months (break-even point) for the full benefit at NRA to equal a reduced benefit taken earlier. For example, Mr. Retiree decides to take a reduced benefit at 62. Mr. Retiree's twin brother, Joe, decides to wait until 65 to get the full benefit. At age 77, each would have received the same amount of money.

What if one did not need SS until 65? Would it make sense to receive a reduced benefit and invest the proceeds until 65, then withdraw the accumulated savings to make-up the income shortfall from the reduced SS benefit? Yes it would. If Mr. Retiree invested at a yield equal to inflation, savings would be depleted at the break-even point of 180 months. If yield exceeded inflation, the break-even point would be extended. NOW, here is a key planning point! What if Joe dies ANYTIME before break-even? His survivors would receive the remaining savings. On the other hand, if he waited until 65, the survivors would get nothing.

Next time I'll discuss the Pros and Cons of working while receiving SS as well as drawing SS later than NRA as to receive a higher benefit.

Gary Ellis, MBA, CFP