Imagine for a moment: It’s 10 o’clock on a beautiful Monday morning and you’re sitting at your kitchen table with a freshly poured cup of coffee. Today is your 62nd birthday and you’ve taken the day off from work because you have an important decision to make.
The sun is shining across the table and there before you are two papers: One is from Social Security and the other is from your 401k. Here’s the deal: Social security is offering you a lifetime monthly income, but if you accept their offer today, you’ll receive up to 30% less income each month than if you waited until your full retirement age. Will it be enough? Of course, your social security income will be supplemented by the amount of money you’ve saved over your entire working career. Your total account balance is listed on the 401k statement. How long will your money last?
When to retire is a highly personal decision. At some point, each one of us will need to sit down and work through a lot of different considerations in order to make a confident decision about how and when to retire. Arriving at good answers will require making assumptions about how long you expect to live, how much you’ll need to pay toward rising health care costs, and what you might experience in terms of inflation and market volatility. Unfortunately, there are no “do-overs” when it comes to retirement so getting it right the first time is important.
Mistake #1: Rushing to collect Social Security and regretting the permanently reduced benefits paid over your lifetime
Choosing when to take Social Security is one of the most important financial decisions you will make in your lifetime. For those born between 1943 and 1954, full retirement benefits start at age 66, but you could begin taking reduced benefits as early as age 62. For many, this is very tempting and the decision to start collecting is sometimes made without adequate thought and analysis. Remember, collecting early means a permanent reduction in monthly benefits. And, for every month you wait, your benefits will get progressively larger, up to age 70.
There are three basic alternatives—delay retirement until age 70 and receive more than 100% of full retirement benefits, receive reduced benefits beginning at age 62, or take full benefits at the normal retirement age. The question that needs to be answered is, “which alternative is best”?
For some, there is no decision to make – they’re unemployed or have health problems and don’t have the flexibility to defer Social Security benefits because they need the income now. But for those who do have the flexibility, the question comes down to a trade-off between receiving permanently reduced monthly benefits versus receiving those benefits early and over a longer number of years.
Some retirees use a very simplistic analysis that merely looks at which alternative gives them the most cumulative benefits over their expected lifetime. It really comes down to whether a retiree thinks they will live longer than their statistical life expectancy. Unfortunately, the decision is usually more complicated than just estimating your longevity. A thorough analysis will also take anticipated earnings in your tax-deferred retirement savings into consideration as well. And don’t forget about working during retirement because it has an impact too.
Mistake #2: Getting whacked by the Social Security Earnings Limit
Think about this: You’ve started collecting benefits early and because the monthly payments are permanently reduced, you decide to work a part-time job. The only problem is that Social Security will take back $1 of benefit for every $2 you earn over $14,640 (this year’s Earnings Limit). That, my friends is a serious haircut! In other words, once you reach the Earnings Limit, your employment pay effectively gets cut in half. It gets better once you reach full retirement age because you can earn as much as you like without incurring a reduction in benefits, but the rules during that year are especially complicated and can often cause big problems. In that one year, up until the month you reach full retirement age, Social Security will deduct $1 from your benefit payments for every $3 you earn above $38,880.
Mistake #3: Not knowing how your decisions affect your spouse’s benefits
For married couples, choosing when to take Social Security can permanently affect the other spouse’s lifetime income. This is especially important for non-working spouses who are generally eligible to receive one-half of their spouse’s benefit. Think about a scenario where a husband worked while his wife stayed at home. If he starts collecting Social Security early, not only will he be reducing his benefits, he will likely be cutting his wife’s lifetime monthly benefits too. If her life expectancy is longer than her husband’s, these reduced benefits could have a major impact in the likelihood of her having a comfortable retirement. Married couples often find it beneficial for the spouse with the lower Social Security benefit to begin taking benefits early, while the delaying the other spouse’s benefits as long as possible. Then, should the higher earning spouse die first, the lower-benefit spouse would see her smaller benefit drop off in exchange for a much higher monthly income based on her husband’s benefits.
Enjoy that cup of coffee while the sun shines across your table. If you’re worried, confused or even scared about making retirement mistakes, seek out a CERTIFIED FINANCIAL PLANNER ™ for help in evaluating Social Security and how to coordinate these benefits with your retirement income strategies.
About this column: Steve Davis is a local CERTIFIED FINANCIAL PLANNER™ who has been helping clients in Mansfield, Foxboro, Easton and other local communities for more than twenty years. You can find out more about Steve and his company, Davis Financial at www.talkwithdavis.com or on Facebook at www.facebook.com/davisfinancial
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. Securities offered through LPL Financial Member FINRA/SIPC