Social Security 101: Contributions to Distributions
Social Security is something we see taken out of each paycheck, but what does that mean exactly? And, will there be any money left in the Social Security coffer when you’re ready to retire? For many, the benefits, and when to take them, can be confusing. On this episode, we invite Joe Hendrix, of Mariner Wealth Advisors, to simplify this topic for us and offer considerations on your personal plan.
George Fernandez: Thank you for downloading another episode of Your Life, Simplified. My name is George Fernandez, and I’ll be your host for this episode. As advocates and fiduciaries for our clients, we help them make very important decisions in their life. As we talk to our clients about Social Security, it’s not a matter of if, it’s actually when you’re going to be making this decision. And so today we’re going to address three big questions that our clients have been asking us about the topic of Social Security. So today we have Joe Hendrix from our Oklahoma City office. Joe is a senior wealth advisor, CFP, and CPA. So, Joe, welcome to the show.
Joe Hendrix: Thanks George. Glad to be here.
George: It’s great to have you here. So, Joe, why don’t you take just a couple of minutes and introduce yourself to folks.
Joe: Sure. As George mentioned, I’m a certified financial planner, as well as a CPA, and work with clients at Mariner Wealth Advisors and help them with overall financial life management. And so, with that, there’s so many different things that go into that and whether it be your estate planning or retirement planning, investment management, help them planning for the transition of your wealth to the next generation. But like today’s topic, it’s also helping on Social Security and Medicare. As you mentioned earlier, these are things everybody can have to make this decision. And for the most part, you get one chance to do it. So, it’s such an important topic that we really stress this with our clients, as well as do this across the country to make sure all our clients have experience and education on these topics.
George: This is such a big topic that you and I have actually gone across the country, speaking about this at various events. We’ve been getting a lot of feedback about how important it is to hear this information, to talk about these questions that we’re going to share today. And so, I really look forward to our discussion, but I do want to do one real quick thing before we get started. I want to share that Social Security or the decision you make about Social Security is very nuanced, which basically means that for each of us it’s very personal and it’s very situational. So, while we are going to cover three big questions that our clients have, it’s important to understand that your personal situation may be different and may require a little bit of an adjustment to some of the things that we’re going to be sharing.
I also want to mention too, that there are a couple of topics that we won’t be covering today. I just want to make sure everybody understands that too. And that is if you worked for or worked for a public employment retirement system and you also have Social Security benefits available. It is very complex on how that applies to you. So, we won’t be covering that in detail today. I just want you to know that if you do have questions about that, you want to work with your financial advisor about that, and we’ll give you some material and resources toward the end of this episode. In addition to that, we won’t specifically go into too much detail on survivors or divorce situations either because, again, those tend to be a little bit more nuanced. We only have 20 minutes and so we’re going to help you out as much as we can with that. But we do want to answer three big questions that we know our clients have. These are kind of what I would consider some of the elephant in the room kind of questions. The first one is, “Will Social Security be there for me?” The second one is, “How much can I expect to receive?” And the third one is, “When should I apply for Social Security?” Joe, I think these are probably the biggest questions that we’ve been getting from our clients, wouldn’t you say?
Joe: Oh, absolutely. Like you said, it’s different for everybody. It’s facts and circumstance based, and it’s all driven back to your financial plan. It’s where it all starts.
George: Absolutely. And so, the very first question we’re going to cover then is, “Will Social Security be there for me?” What a lot of people don’t realize is that Social Security is actually reviewed every year by the Social Security board of trustees. And, they release a report every single year. One of the things that they told us last year was, what’s the condition, what’s the health of Social Security? So, Joe, you want to share a little bit about what they told us last year.
Joe: Yeah, exactly. So, I think it was April whenever the report came out. And at that point they’re projecting that the Social Security reserve is funded through year 2035. What that means is that through year 2035, a 100% of the scheduled benefits are to be paid out. But then in 2035, they’re projecting a short fall, which at that point there would be a scheduled reduction in benefits by 23%. That way it would be 77% of benefits would be scheduled to get paid out, which essentially equals their projection of the income that’s getting paid into the system. So, if you think about, as an employee or a business owner, you’re paying in those payroll taxes into the system. And so, every year when those payments go in, those go in as a reserve and eventually get paid out. However, in 2035, when that reserve fully depletes, then the only benefit that can get paid out is the income that’s coming into the system, which is those payroll taxes.
That means that we have about 15 years for some type of adjustments to be made to the system to help restore that solvency. I will say the silver lining on this, though, is last year that number was to 2034. We actually extended it by one year. Really driven by strong, low unemployment rates. A healthy labor market has at least extended that by one year. I don’t think that’s a sustainable fix, but that is something that has helped extend that by one year.
George: Yeah, that is really important to understand. I think the big takeaway here is that this is reviewed on a regular basis every year. We have this report that comes out, and it’s available publicly. If anyone wants to learn more about this, they can just Google Social Security board of trustees’ report and they can actually pull this up on the website, ssa.gov. Well, with what you just said, if only 77% is expected after 15 years, what’s happening? Let’s spend a couple of minutes and talk about how you think they’re going to restore that to solvency. You and I have had this discussion many times and a couple of things that we’ve talked about, one is they could increase maximum earnings subject to Social Security tax. Right now, for example, the first $132,900 is subject to Social Security tax and then above that, it is not taxed. There has been discussion about increasing that amount, but there’s also a discussion about eliminating it altogether, which basically means that all income would then be subject to that Social Security tax. So that’s one thing they’ve talked about. The second thing they talk about is raising the normal retirement age. We’re going to talk in just a few minutes about what your personal full retirement age is, but right now it could be anywhere from 66 – 67 years old, depending upon the year in which you were born. So, there’s been discussion about raising that to maybe something closer to 70. No one really knows for sure exactly where that might land, but that’s kind of a couple of things that’s been talked about. You want to share a couple of other ideas that they’ve been sharing.
Joe: I’m going to add one little thought to the raising of the normal retirement age, because I think that if you look back historically on this, it’s pretty fascinating and can point a little bit to where we are today on the funding concern. So Social Security came into effect in 1935, at that time, the full retirement age was age 65. So, for anybody 65 and older, that’s when you would reach that age and you could get a 100% of your schedule benefits. And we’ll talk a little bit more about that here in a minute. Then in 1983, there was some reform that was passed that raised that full retirement age to age 66, and eventually phased it into age 67, which is the highest full retirement age we have right now.
But as I think about this, we’ve essentially had the system in place for 85 years, but we’ve only raised the full retirement age by two years. And over that same timeline, life expectancy has gone up at least 10 to 15 years, depending on your sources on that. So, if you think about that, we’re paying benefits out longer than what we initially expected to. We have people that are on the system a little bit longer, which is ending up having those benefits get paid out over a longer time horizon, and maybe they didn’t have as much paid in or that time horizon. So, I think that’s an important thing. If you think historically, where we’ve gotten. There are a couple other areas that I think are being discussed that have some room and certainly could help.
But one is looking at how the increases to your historical income. I’m going to back up. One of these is to look at the index at which your historical income and earnings are indexed to compare them to today’s earnings. So, if you think about it, Social Security, the computation, is based upon your previous years of earnings, and it looks at your highest 35 years. So, with that, the administration needs to be able to compare my earnings from 1985 to my earnings from 2020. And in order to do that, they apply an index inflation factor, and they use a wage index, which has hovered between 3- 4%, depending on the year. One reform that’s being discussed, as opposed to using a wage index, we use something more like the consumer price index, which is historically going to be a much lower number and, in turn, that in ends up lowering benefits for future retirees.
That’s one thing that I think that is going to be less attractive and less popular, because it does lower those benefits. And then the fourth item that we see as a common item for discussion is reducing the cost of living adjustments for all retirees, typically every year, for the most part, there is some type of cost of living adjustment that’s made to your benefit each year to index for more of an inflationary item. And so, one topic is to reduce that. Again, I think that could be a little bit less popular just because there are a lot of retirees who their Social Security benefits are what they have. That is their income. So, I think it could be a little bit more difficult for them to absorb that reduction in cost-of-living adjustment when their true expenses are going up.
George: And I think a reality is that most likely it’s going to be a combination of things. I would doubt that we see one in particular, one of these strategies being applied. It would most likely be a combination. I think the real important piece here is that the conversation’s been going on for a long time. So, continue to write your congressmen. Let them know that you’re concerned about it. Hopefully some decisions will be made before 2035.
Joe: George, do you think…I know as I’m talking to clients, when we build financial plans, all of our clients have different fact patterns and for some their Social Security benefits make up a much larger component of their retirement income and others, it doesn’t. But, when we look at clients George, I think it’s important to say that we build in these scenarios. We look at what happens if in 2035 your Social Security benefits are reduced by 23% for the rest of your life. And, I think it’s so important for people to, as opposed to just worrying about this, to take an action and actually look at this to see what it could do to my financial plan.
George: That’s a great point. And I think it’s, we really have to look at closely at how it applies to our own personal situation. You’re exactly right. Because you may find that the 77% number has a negligible impact if that actually did happen, versus maybe it has a bigger impact than what you’d expect, but wouldn’t it be nice to know now rather than then. Doing that fire drill today, finding out what’s going on, I think is a really great thing to do. You’re exactly right. So, let’s shift gears just a little bit and talk about that second question, which is how much can I expect to receive?
Joe: So Social Security, everybody’s individual benefit is all dependent upon how much you’ve paid into the system and how long you’ve paid into the system. So, as we think about full retirement ages, and we look at that. Your full retirement age is going to be the year which you receive 100% of your scheduled benefit, and that is truly dependent on the year of your birth. So, for example, anybody born between 1943 and 1954 has a full retirement age of 66. Conversely, anybody born 1960 or later, has a full retirement age of 67. And then anybody in between those years are going to have a full retirement age that is somewhere between age 66 and 67. Typically it might be 66 and two months, 66 and four months, and so on. So, it’s all dependent upon your year of birth. Next time you look at your Social Security statement, it’ll show you what your actual full retirement age is, including the year and that actual timeline.
George: It’s real important to remember that when you are looking at your particular situation, that statement that you have available on ssa.gov is actually really critical to get to know intimately. We’ll talk a little bit more about that in a moment, but that’s going to tell you what your actual full retirement age is, because if you retired just a little bit early, you might not get that full retirement benefit amount. It’s a really great tool.
Joe: Exactly. So, when you look at that statement, it’s going to give you a few different years and different benefit amounts. Some are going to be lower and some are going to be higher. As I mentioned earlier, your full retirement age is going to be when you’re entitled to 100% of your scheduled benefits. So, let’s take the case of somebody who’s retirement age is 66. At that time, they would receive 100% of their scheduled benefits. If they wanted to claim their benefits early, they can as early as age 62; however, if you want to claim early, you’re going to pay for it and you’re going to pay for it via lower benefits. So, if somebody wants to claim as early as age 62, then that benefit is going to be equal to 75% of their scheduled full retirement age benefit.
And that 75% payout is going to be over the rest of their lives. So, it’s not just a one-time reduction. It’s a reduction in every month and every year that you receive benefits for the rest of your life. It also has an impact on survivor benefits too. When you think about that, when you claim a lower benefit that follows you, and if you have a spouse that would eventually receive your benefits someday, it could impact them as well. So, conversely, we have our full retirement age where we get 100%, but you can also wait as well to age 70. Social Security administration allows us to do that. If your financial plan allows for you to do that from a cash flow perspective, it may make sense to do that. And every year you wait past your full retirement age, you get an 8% increase in your scheduled benefits. So, if for somebody whose full retirement age is 66, and if they waited to age 70, then their benefit would be equal to 132% of their scheduled benefit at full retirement age. So, it can be a meaningful change and a meaningful income adjustment. However, I do think it is all facts and circumstances based…your health, your overall need for income. All these different things can really impact when it is that you want to apply.
George: You said, since when we first got started, you mentioned the importance about this decision. You only get to make this decision one time. So once that decision is made, that’s it. So, you do want to look at this very closely, as you said, the facts and circumstances that you have. You also shared just a little bit earlier, you were talking about how the calculation is determined or the amount is determined, and you described it as being dependent upon the income that you earn over your lifetime. So, essentially, you’re taking the highest 35 years. They index that based upon the number, or the approach, that you were talking about a little bit earlier. So, it’s really important. I think that we look at our statements every year. One of the things you and I talk about routinely at our meetings when we present on this is the importance of going out, setting up your ssa.gov personal my Social Security website so that you can review your earnings. If there are zeros as part of that 35 years, when they calculate that out, that’s going to go into the numbers. Zero times, or divided by whatever it’s going to be zero, right. It’s not going to work very well. So, you do want to make sure those numbers are correct. Have you ever encountered a situation where the numbers are wrong?
Joe: I have seen it. Yeah. I have a situation in the past where a client, we were looking through theirs and they had some years where we had zeros and they knew they were working those years. And so, in that case, there is a way to remedy that. It’s a little bit of a process, but you have to notify Social Security and provide some evidence that you have those earnings. I know that everybody listening to our discussion today has the tax returns for the last 35 years. So, it’s super simple to go to your file cabinet and find them. I’m kidding. But there is a way through the IRS that you can get transcripts of prior year returns. It takes some time to do that. It takes a little bit of effort, but I think it’s worth it because you know, as you mentioned, George, if you have a zero that’s in that calculation for those highest 35 years, it can, you know, change that.
And it may not swing it to be thousands of dollars different, but if it’s, you know, 20, 30, $40 a month difference, that’s $500 a year. You lived for 30 years while you’re claiming, that real money. And so, I think that it’s worth that exercise to go through and confirm that and really understand what your Social Security statement means. Spend time with your financial planner and your advisor to look through that and ask them for guidance on what they could do to maximize their benefit between now and retirement.
George: Shifting to our third question here, you kind of touched on this just a little bit earlier and that is the “when”. When should I apply for Social Security? You kind of already described the way in which it’s calculated, which is if you take it early, you could, you know, at age 62, as an example, if 66 is your full retirement age, it’s 75% of that number. So, if that’s a $1,000 that you’re going to receive in Social Security at full retirement age, and you take it at age 62, that’s actually $750. Conversely, if you waited until age 70 to take that same benefit amount, then it would be $1,320 instead of $1,000. So again, that decision can be made only one time and it lasts the entire life. And it also affects the survivors for that. But let’s dig a little bit deeper on that and kind of talk about what are some things we should think about from a break-even standpoint when it comes to making that decision?
Joe: You know, I find this part fascinating. When we work with clients, we have the tools and technology where we can give them a pretty refined calculation and estimate on when those breakeven ages are. And when I say breakeven age, that basically means, well, if I were to claim early, or if I were to delay, at what point do I achieve some type of parody between my full retirement age benefit? It’s pretty fascinating because it’s different for everybody. And it really depends upon the makeup of your assets. But, in terms of talking about just a hypothetical example, typically we see somebody whose full retirement age is 66 and four months. Let’s just assume that their retirement benefit at 100% at full retirement age is $3,260 a month. So, if we were to apply the cost of taking it early, or the benefit of waiting later, at that same, same situation, same person, if they were to claim at 62, their benefit would be $2,147 a month. So, a pretty significant difference. There’s over $1,000 a month of difference. In that case, based on certain assumptions we used, their break-even age is around 76. So, it essentially means that if they were to live past age 76, they have made a bad Social Security decision. They’ve cost themselves money. But if they were to pass away or to stop claiming benefits before age 76, they would’ve made a good Social Security decision. And, you know, as I mentioned, things that would go into that would be your health, your life expectancy, needs for income, and so on.
But let’s look at the other side of it. Somebody who wanted to wait until age 70. In that same situation, I’ll remind you that the full retirement age benefit was $3,260 a month. And if that same person was to wait until age 70, their benefit would actually go up to $4,672 a month. So almost a little over $1,400 a month difference. And in that case, we would typically see that that breakeven age is somewhere in their early to mid-80s. It depends on their fact pattern. And earlier I mentioned that you really need to look at the makeup of your assets. And what I mean by that is that we typically see, you know, most clients have a variety of assets. They’re going to have some cash in the bank. They’re going to have some retirement accounts, maybe a traditional IRA, or a Roth IRA, or some type of similar 401k.
They might have some taxable assets that are in more of like a trust account, or assets that they’ve just saved outside of the retirement accounts. And because of that, everybody’s situation is going to be a little different. And you may have a situation where somebody is full retirement age, let’s say 66. They want to wait until age 70 so they can maximize their benefit, but all their assets are IRA assets, tax deferred assets. So, in that case, they’re going to have four years where they’re going to have no income, and they’ve got to pay their expenses somewhere. They’re going to have no Social Security income and they’re going to have to pay expenses. Essentially, they’ve increased or accelerated the income tax from those IRAs, because now you can wait until age 72 until those RMDs kick in. And so there that actually can push back that breakeven age a few years because you’ve accelerated some income tax. So again, there’s no magic answer to this. If you can tell us how long you’re going to live, when you’re going to die, then we can tell you when to claim your Social Security. But we do think it’s something that makes a lot of sense to spend time with your advisor. Sit down and really formalize the plan on that, especially as you start getting closer to those agents.
George: That’s all great reminders because so often we hear folks share stories about, well, you know, my neighbor waited until age 70, so that’s what I’m going to do. Or my neighbor took it at age 62, or I want to take it at age 62 because that’s when it’s available and I want to make sure that I get it early in case I don’t have a chance to get it later. We kind of talked through that on the first question. So it’s really important to look at this very closely. I have done an analysis on many occasions where it did not make sense to wait until age 70, and others, it made absolute sense. It just depends on the situation. As we kind of wrap things up with these three questions today, let’s talk about next step. What do folks do now that they know this information? How do they go to the next step of their personal situation, determining what is the best decision for them?
Joe: So, my first step for anybody that has not established their login on ssa.gov is to establish that login. That way, you’ve created it. You own it. It’s your password. There are some cyber security considerations on Social Security that we really haven’t touched on today. But I do think that people should, for anybody, I’ve got it created. My wife has hers created. Get your Social Security login, established. Download your earnings record, get your statement, and then sit down with your advisor. And if you don’t have an advisor, we’d welcome that opportunity to be a resource for you to look at your earnings record and, one, confirm it’s correct. Secondly, confirm the information on there is correct…your birthday, your name. I’ve had a situation where a client’s name was wrong, or their first name was misspelled. We’ve accepted the fact that it was probably easier to change his name legally than actually change it on that side.
Really having a deep understanding of your earning tracker and then secondly, look at what can I do to improve my earnings record? You know, it might be if I have some zeros in that calculation that are going to be part of that highest 35 years, well, maybe I work a few more years. That way, I can bump that up. I can kick those zeros out and then I can replace it with much higher income that’ll actually boost my benefit up quite a bit. You know, if you’re thinking you’re going to work past your full retirement age, well, then maybe that’s a way where you can delay your benefit; let those continue to grow. And then finally, sit down with your advisor. Review your filing age options, those breakeven points. Your advisor’s going to have a much better understanding of your asset base. And they’ve got the tools and the technology at their fingertips to really help you make a much better and more educated decision.
George: You told the story about the name being incorrect for a client. That actually happened to my father. It was really interesting. He went through his entire life. Joined the military, was in top secret projects as an engineer, and then when he went to file Social Security, he discovered that he didn’t have a name at all. On his birth certificate it just said “baby”. It was really kind of funny because you know, after all these different activities, no one ever picked up on the fact that he didn’t have a legal name. And so here he is at age 70, he’s having to do a complete legal name change. And it was really, kind of interesting.
So, you want to make sure that you download your statement. So how do you download your statement? Go to ssa.gov. There is a link on there for my SSA. And when you click on that link, it’s going to walk you through all the different steps in order to set up your own personal account. And when you do that, just be prepared because it’s going to ask you a lot of very personal questions. Only you’ll know the answer to them, so they’ll know that it’s you. Just be prepared to answer those questions and gather your materials as you get in there and then compare that to your old tax return. So if you’re going to be kind of purging some old tax returns and so forth, before you do that, make sure that you go out to ssa.gov, set up your account, look at your earnings statement and make sure you don’t need any of those documents before you shred them. Or, at least make digital copies of them.
We do that a lot for our clients. We’ll make digital copies and then we actually store them in a secure vault that we have online. So ssa.gov is a great place for you to go and create those resources. I appreciate you being here today, Joe. And those of you listening, we really thank you for being here today and we really want to hear from you. So, let us know what you think about the episodes that we’re sharing with you by emailing us at email@example.com. Thanks again for being here. And we’ll see you next time.
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