IAt a time when faith in most institutions has declined, Americans still love Social security. But they are worried about the future of the 90-year-old pension scheme and how changes to it might affect their own personal finances and those of their parents and children.
With good reason. Around 2033 the Social Security Old Age and Survivors Trust Fund (essentially a credit balance to the Treasury Department) will dry up. At that point, the Social Security tax dollars coming in won’t be enough to pay all the benefits. If Congress doesn’t act, pension checks will have to be cut by 23% across the board.
This past week, I tuned into one Forbes member event on The Future Of Your Social Security Benefits that covered not only that big cliff, but practical issues like how Social Security income is taxed and how the program’s current arcane benefit formulas work. (You can find even more tips in the stories below.)
Former Forbes Editor William Baldwin, who writes frequently about the intersection of investing, taxes, retirement and government policy, pointed out that even if Congress doesn’t solve Social Security’s funding problem in time, it has a “loophole” to prevent a 23 percent cut in benefits. “Perhaps politicians, after exhausting all other options, will do what is right,” he observed. “And right means something like this: They’re going to raise taxes a little bit. They will gradually raise the full retirement age from 67. They will reduce benefits a bit for people with large incomes. They probably won’t do any of these terrible things in a way that affects someone who is already receiving benefits or is about to receive benefits.”
As part of the last major Social Security reform (signed by President Ronald Regan in 1983), the full retirement age was very gradually raised from 65 (for those born in 1937 and earlier) to 67 (for those born in 1960 or later). You can start retirement benefits anywhere between age 62 and 70, with your monthly check increasing for each month you wait. However, any increase in the ‘full’ or ‘normal’ retirement age means that all beneficiaries born in a given year take a hit. This is because the size of the reductions in your monthly benefit for early claiming and the increases for waiting are based on your full retirement age.
“The most common and biggest mistake I see is people taking the ‘when should they apply for benefits’ question backwards from a risk perspective,” the partner said. Michael PiperMissouri registered investment advisor, CPA and author Social security made simple.
“They think to themselves, ‘I don’t know how long I’m going to live…so I’m going to apply for my benefits as soon as possible to make sure I get at least something.’ And the first time you think about it, this intuitively sounds like it makes a lot of sense. But when you dig into it, it turns out that it’s literally backwards, 180 degrees from being right.” The scariest risk in retirement planning, he explained, is not dying too soon, but living too long and running out of money — a risk that a larger, delayed Social Security check protects against. “Waiting is the safest decision.”
Both Baldwin and Piper offered smart financial moves that can keep pace with delayed Social Security benefits. Baldwin described how the years of lower taxable income between retirement and the start of Social Security benefits can be used to convert some of the traditional pre-tax retirement accounts into tax-free Roth accounts. As he explained, there may be good reasons not to roll over (for example, you’re going to give the money from your pre-tax IRA to charity), but lower-income years present an opportunity.
Piper recommended re-allocating any investment funds you’ll be spending to see you through when you stop earning a salary and Social Security benefits start flowing. This money should not be in the volatile stock market where prices can drop just as you need to sell. “What you do,” Piper said, “is you take your portfolio and you carve out a certain chunk of it and you allocate it, in most cases, to a TIPS scale”—that is, to Treasury Inflation-Protected Securities that mature on different dates. This gives you a steady source of steady income to fill the gap. (ETFs) that hold TIPS.
Piper noted that the case for waiting to claim Social Security is particularly strong for the higher-earning spouse in a married couple. Benefits are based on a worker’s top 35 years of earnings, with the biggest checks going to higher earners (who, to be fair, paid more in Social Security taxes each year). But if the higher earner in a marriage dies first, the lower earner will take their larger check as a survivor benefit, instead of their own smaller earned benefit. “It’s an even better deal than it is for an individual, for the highest income to wait,” he observed. “When the higher earner waits, it increases household income as long as either person is still alive.”
But beware: That transition doesn’t always go smoothly these days. The Trump Administration has cut staff at the Social Security Administration, creating problems for some people — like those applying for Social Security survivor benefits — who actually need to talk to a human at the agency. Forbes writer Kelly Erb recently recounted how her own 77-year-old mother went without Social Security benefits for five months when she applied for survivor benefits after her husband died last October. Even though Erb is a tax and estate attorney with experience dealing with the SSA, she ended up contacting her mom’s congressman for help resolving the issue.
Transitions were very much on the minds of attendees attending the event, who asked dozens of questions, including how Social Security should handle divorced seniors — a hot-button issue that addresses the rise of gray divorce (ie the breakup of long-term marriages among people over 50).
The good news for divorcees: If you’ve been married to someone for at least 10 years and haven’t remarried, you’re entitled to the same benefits as a spouse, even if your ex has remarried (or multiple times). This means that if your higher-earning ex dies, you can claim a larger survivor benefit instead of your own earned check.
Good for divorcees, but not so much for taxpayers. “That’s kind of perverse, to subsidize divorce,” Baldwin said. “But that’s how it works.”
