¶ Social Security's Importance for Early Retirees
I don't care how big your portfolio is . The decision of when you collect Social Security is going to be one of the most important decisions you make with your retirement . That being said , what happens to that Social Security benefit if you retire early ? That's exactly what we're going to discuss today .
Aaron , today we're talking about Social Security , and all of us more or less know that Social Security is going to be a core part of our income when we retire . What we don't always know is what happens to that if we retire early . In other words , do we have to keep working until 62 or 67 or 70 to maximize what we're doing ?
And that's what we're going to talk about today .
Yeah , I think you know , looking at social security , it is the backbone for the vast majority of people's retirements and I think one of the biggest questions you can ask yourself and answer correctly hopefully is when should I claim ?
And so many people want to step away from the workforce , maybe in their late 50s or their early 60s , and the earliest you can claim Social Security is 62 . There are some consequences with that Maybe good , maybe bad . It really just depends on circumstance .
So with that , the earliest you can collect is 62 . Does that mean that I have to work until age 62 in order to maximize what I would get at age 62 ?
Absolutely not . That's when most people are eligible . I mean , if you have a disability , we have some exceptions here , but if you claim early at 62 , you receive a reduced benefit from what would otherwise be your benefit at what the government considers full retirement age , which is generally entering its way towards 67 right now .
For retirees in 2025 , it's 66 and 10 months , I believe . Is that the proper retirement age right now ?
And working its way up to 67 , yes , depending on your birth year , and I think that what's really important
¶ How Social Security Benefits Are Calculated
for people to know probably is how is social security actually calculated ?
Yeah .
And what some people don't realize . It has nothing to do with how long you work . It has everything to do with how many years you worked and how much you earned during those years that you were working . So what does that look like ?
How many years do you have to work , and what does social security do in each year to determine what goes into the Social Security formula ?
Yeah , I think the biggest thing to take away is that Social Security only looks at your highest 35 earning years and I think one of the really really important things to look at is you know , if we look at our income when we were 20 or when we were 30 , it was probably significantly less than we were , than it was when we were in our 50s or our 60s .
And I think some people get concerned and think , oh , I have to keep working to get these higher earning years in there . But I think some people forget that there's an inflation adjusted element to this . Could you speak to what that inflation adjustment looks like ?
Yes , you have something called your average index monthly earnings . And so , like you're saying , aaron , when you worked as a 20-year-old and that was 40 years ago you probably weren't making even what a 20-year-old today would be making , and that's simply due to inflation .
And so what Social Security is doing is they're saying there's a formula and that's simply due to inflation .
And so what Social Security is doing is they're saying there's a formula and this formula is going to look at the 35 highest years of earnings , of average index monthly earnings that you earned , and we don't care if you earn those when you were 60 , when you were 20 , when you were 40 , when you were 16 .
We're just looking at those earnings and we're going to adjust them for inflation each year . And so what they're doing is they're taking that and they're taking that formula to say whatever that looks like . There's all sorts of things called bend points and how much does every dollar that you earn actually impact the benefit that you're going to get ?
But it's those top 35 years of earnings . I'm leaving money on the table of social security if I do so , and you might be , but it again doesn't have anything to do with the year that you retire is everything to do with . Have you already paid in to social security for 35 years and what was the amount of that ?
Because , hypothetically , if someone started working at age 20 and let's say that's really strong income From the time they started working , for the next 35 years , by the time that they're 55 , they're done working . Yeah Well , their social security benefits are fully maximized .
It doesn't matter if they keep working from 56 and beyond , earning a million dollars a year , if they've maximized their social security contributions every single year on an inflation-adjusted basis . So again , this every year is adjusted for inflation . Continuing to work is not actually helping their social security , but their benefits already maxed .
Once it's maxed , it's maxed . You can't do anything to increase that benefit other than waiting longer to take it , in which case the benefit just goes up from there . But that's the most important thing to note .
Is there's maybe this myth or this misconception that if I stop working at 55 or if I stop working at 60 , my social security benefits going to suffer ? Do you hear ?
that when you talk to people , do you see that that concern ? All the time I think there's kind of this misconception that if I retire at 58 , even if I haven't yet claimed social security , my benefit is somehow going to be penalized because it's only looking at , say , my last 35 years , and that's just not true .
It's looking at your highest earning 35 years , whenever they happened . And I always like to remind people that that inflation adjustment stops for your working income after the age of 60 . So it's very real that maybe your earnings at the age of 59 are more impactful for your social security than they are at 61 .
Because let's say we take inflation or I guess not inflation let's take raises out of the equation and let's say somebody is making $100,000 a year . If they're making $100,000 at the age of 59 , once we go to claim social security that gets a bump up due to inflation .
If you're making $100,000 at the age of 61 , if you have other higher years that are inflation adjusted higher , that year for your 61 year is not going to factor in because that does not get an inflation adjustment .
And the reason and the way this works for people listening is this year , for example . And the reason and
¶ Dispelling Early Retirement Myths
the way this works for people listening is this year , for example , you pay Social Security taxes on the first hundred and seventy six thousand one hundred dollars you earn . So if you earn above that , you're not paying in any more Social Security tax . Now the amount that you are getting credited to what's called your primary insurance amount is also capped .
So no more taxes in , but no more increase to your benefit , and the way that works is of that hundred and seventy six . You might know the exact numbers , aaron . I forget them off the top of my head , but it's the first . There's two bend points . And then the first bend point says the first monthly earnings up to like 1200 to 1300, .
I want to say , off the top of my head , 90% of every dollar that you earn up to that amount on a monthly basis is contributed to the formula that determines how much you're going to get . The second bend point is what ? 30% , 33% 35% , I believe 35% is contributed to it and then above that is , I think , 15% , something around there .
So it's one of these things that it's like a reverse progressive scale where the more you earn you're still paying the same social security tax , up to a cap , but the less it's actually increasing the benefit that you're going to get .
And the reason for that is to say that the lower income workers , all else being equal , your Social Security benefit will be a higher percentage of what you earned than it would have been for someone who wasn't , someone who wasn't .
But for planning purposes , where this also comes into play is , say , you are wanting to retire at 55 and you have 30 years of earnings . You work from 25 to 55 . If you completely stop working , it's zeros across the board . So social security is still going to take your 35 highest years .
But they're going to say you actually have 30 years of earnings and we're going to look at your average index monthly earnings .
You don't have any other year , so we're just going to use zeros for those other five years to get the full 35 , to run the formula to give you the amount your primary insurance amount that you could receive at your full retirement age . This pinpoint , this understanding of how binpoints works is so important , because maybe it's not retirement you want .
You just don't want to be working 60 hours a week anymore .
Yeah .
You don't want to be having that same high stress job . Well , do you go , take a different job that even you earn just a small amount , a couple thousand bucks a month , and you look at that and you say that's not going to dramatically increase my social security benefit ?
Maybe not dramatically , but it will have an impact , because those , those First dollars that you're making , are weighed most heavily in terms of how social security is going to be calculated . So this is where it ties very much back to the financial plan of what are you actually trying to do ? Is it actually be done working and never go again , or is it ?
Are you trying to escape from that high stress , high pressure job , the boss you don't care for ? Is there an alternative that still allows you to keep building your benefit , but not at the cost of sacrificing everything else ?
And absolutely those modest income , the cost of sacrificing everything else and absolutely those modest income increases . Just eliminating the zeros , if that's something you want to do , as you said , can go a long way .
Making $20,000 a year , $30,000 a year and I always like to think of it from the perspective of the entire household , because it's not just that you're increasing your benefit .
If you had a stay-at-home spouse or a spouse who didn't have an income that allowed them to create a substantial social security benefit for themselves and more stability for the household , if we tackle this from a holistic picture and we say , okay , how can I maximize my benefit , even if it's just that incremental amount ?
So is it worth your sanity to go back to work part-time and increase it a couple hundred dollars ? Maybe the answer is yes , maybe the answer is no , but you kind of have to look at your household and where your benefit currently stands .
And I always tell people go to ssagov , one of the best government websites or the best government website out there , because you can actually see what your benefit is going to be . So many people don't even have an idea of what their benefit's going to be .
Yeah , speaking of ssagov and social security , obviously a lot of government programs have a bad it's . Every program is always like the DMV . Why don't ? I've actually been pleasantly surprised in hearing stories from clients who have the . They are very helpful If you get a social security rep on the phone .
This isn't a hundred percent of the time , but it was striking . It was a very surprising experience . A lot of people had that . It was very easy . It was very helpful , actually helped them to work through this stuff and find what they needed . Let's do
¶ When to Claim: Benefits and Tradeoffs
this now . Erin , there's a difference between how many years you work and when you actually collect social security . Both of those are going to have an impact on what will your actual benefit be when it comes time to collect .
So if I work a certain number of years , does that impact when I have to collect my benefit or when I'm going to be forced to collect my benefit ?
Once you have your work history there it kind of comes down to when do you want to generate an income stream for your household ? Now I think of Social Security as a longevity insurance , because when you decide to claim basically creates your income floor in retirement . The earlier you claim , you're going to get an income sooner , but it's going to be lower .
So if you claim at 62 , as we said earlier in the video you get a benefit that is about 70% of what it otherwise would have been at full retirement age . But the trade-off is you get an income sooner , so you're going to get an income throughout a longer duration of your life .
If you delay , you're going to be heavily relying on investments if you've stepped away from the workforce , so you're going to have to make sure to build up a more robust investment portfolio . But the trade-off here is that you get a higher monthly benefit later on . Now you can delay all the way to full retirement age . You can delay all the way up to 70 .
And the benefits do increase substantially . You know , going from a 70% benefit that you would have otherwise had at say , say , if you had a $2,000 benefit at the age of 67 . I know this one just because this is the average monthly social security check . And if you claim early , for easy math at the age of 62 , 70% of that is about $1,400 a month .
Now if you decide to delay to the latest claiming age of 70 , that benefit's going to increase to about $2,400 a month . So there can be a pretty large disparity between when you claim as far as early or late . As far as what your income would be , Do you want your income floor to be $1,400 a month ? Do you want it to be $2,000 a month ?
For full retirement age , Do you want it to be $2,400 a month ? I think there are trade-offs for all of them . I don't think there's a right answer . I don't think the answer is always claim early , wait until full retirement age or delay . I think it's about looking at what your portfolio can generate .
How much pressure do you want to put on your portfolio in those early years and how much guaranteed income stream do you want later in your retirement , when you're 80 , when you're 90 ? What do you want your guaranteed income streams to look like and how much of the brute force of your retirement do you want your investments to carry ?
Yes , lots of considerations , exactly what you're saying . How long do you think you're going to live ? Obviously , we don't have any idea . But what's health history like ? What's family history like ? Spousal decisions , what do you want the implications to be if you're married ? For a spousal benefit , for a potential survivor benefit ?
How do you de-risk what you're trying to do versus how do you maximize the income that you're potentially looking for ?
So social security seems like this fairly simple thing , but there are so many implications that tie into everything the way you invest , the tax strategies that you do or don't employ , the way that you protect yourself , your spouse , your family Everything is seemingly touched by the decision you make around social security . One final
¶ Making An Informed Social Security Decision
thing , maybe a couple of final things there , and I think it's important to so many people if they are going to retire early , they have a statement and that Social Security statement says you know , I'm James , I'm 60 . Here's what Social Security says I'm going to get . I want to retire right now , say I'm 60 . Okay , but my statement says that it's assuming .
Here's what my benefit would be if I continue to earn what I've been earning up until now . How do I think about that , and is that going to change if I were to stop working at the age of 60 ?
Well , to go over how you phrased it earlier , kind of depends If you already have your 35 highest earning years or you have 35 years under your belt . If those were your highest earning years , it really doesn't matter , it's not going to change a darn thing .
If you otherwise would have had higher earning years , that would replace zeros , it would marginally increase your benefit and that might be factored into the statement . If those would be higher earning years , If it would be lower earning years , then your benefit might reduce a little bit .
So I mean , in two years time your benefit is not going to change drastically , Even if we're talking about lopping off zeros . It might change by 50 or $100 a month . But I mean we're not going to see these huge , dramatic shifts . And people just have to know that you can stop working at the age of 58 or 60 . You can wait to claim until the age of 62 .
As long as you have your 35 highest earning years , your benefit's going to be there .
Yes . So the benefit's going to be driven by a couple of things . One is the average index monthly earnings and the number of those that you have , so your highest 35 years and how much were you actually paying in each year ? And then , second is when do you actually decide to collect ? Any time between 62 and 70 ?
Those decisions are not necessarily commingled , meaning the way you decide one does not impact the other . You could stop working at 40 and still fully collect social security at 70 . You could work until 70 and collect social security at 62 . Now , probably not wanting to do so if your income's over a certain amount because there's earnings limits and all that .
But they are two very independent decisions . But those are the two decisions that are going to be the driving force behind how much will you actually receive with your social security benefit , erin , anything else you want to add before we start to wrap up ?
I love how you phrased it as a two-prong approach for Social Security . Make sure you look at it from the stance of how many working years do you have ? How long do you want to delay ? Do you want to claim early full retirement age or delayed ?
I think my biggest two cents I want to put out there is social security is probably one of the biggest , if not the biggest , retirement income decision you're going to make . So just don't throw it at a dartboard and choose an age randomly .
Choose an age that works for you and any age can be great , but just make sure it fits within your financial plan , yeah .
It's a big decision , lots of implications . Hopefully this episode helped to clarify some of the things that decision hinges upon .
So , Erin this is great and we will see you all next time . Sounds good . Bye , guys , thank you .