Retirement planning is tough enough without the additional challenges created by the pandemic. Forced and early retirements, shuttered businesses and unexpected financial losses are all contributing to disrupted retirement plans, and one aspect of this planning that has been particularly troubling is Social Security. While this popular government benefit is a baseline floor income for most retirees, it is complicated and misunderstood – and with new financial stressors to consider from Covid-19, people are more flummoxed than ever about how to use Social Security to their benefit in retirement planning.
The Insecurity Of Social Security
Earlier this year, I wrote about the new security issues associated with Social Security. First, there’s the issue of how the system is challenged by too little revenue coming in to support the benefits paid out to retirees. The bottom line is that if Congress doesn’t fix things, the Social Security trust fund will be exhausted less than 15 years from now, and benefits may have to be reduced by as much as 25%. There are remedies for Social Security’s underfunding, but they aren’t without pain, either in terms of increased taxes or reduced benefits. However, this uncertainty doesn’t diminish the importance or value of Social Security as a retirement benefit; it simply calls for additional planning considerations.
The 2020 pandemic makes these Social Security planning factors all the more pressing. While the general principle that electing Social Security should be delayed as long as possible remains valid, Covid-19 makes this a tough principle to abide by. Many people need the money the benefit provides, and they need it now. Even if they had it in their plans to delay filing for Social Security, the assets they intended to use to bridge their income until filing may now be in jeopardy – they may have lost their job, had their investments suffer market losses, or be unsure what the future holds for their income.
The Early Filing Misstep
When the unemployment rate shot up to 16% in May of 2020, there were reports of a rush of eligible Americans who filed for Social Security. This may have been justified for some, and an important way to avoid slipping into poverty; but for many, it may have been a mistake. First, a number of individuals who filed may have been able to get by financially without tapping Social Security. The trouble is that by filing now, they have irrevocably reduced their benefit for the rest of their lives. Delaying could have increased their benefits 8 percent for each year they postponed filing.
Another negative consequence of early filing is increased taxes. Some middle-income individuals filed for Social Security “just in case,” not knowing that they set themselves up for what is commonly referred to as the “Social Security Tax Torpedo.” This can cause their income to go above a tax threshold and end up subjecting their Social Security benefits to income taxation – something they could have avoided entirely by delaying their filing.
A third surprise some early filers experience occurs if they file for Social Security before their full retirement age, and then continue working. This has proven a particular trap in 2020 because many people filed for Social Security after losing their jobs, only to be rehired later in the year when the unemployment rate was closer to 7 percent. Social Security has an earnings test that causes their benefit to be deferred $1 for every $2 dollars of wages they receive over a very low threshold ($18,240 in 2020). Although this is not an actual loss of the benefits they are entitled to, they have locked in a lower benefit amount because of early filing. So, they’ve lost the opportunity for higher benefits in the future and aren’t actually receiving part of their current benefit. If they had waited to full retirement age to file, the earnings test would go away and the issue would be moot.
2020 has been a big enough hassle without compounding the problem by filing for Social Security when it’s not actually needed. The Social Security Administration has done a good job streamlining the online filing for Social Security, but in person filing? Not so much. Even before the pandemic, visiting a Social Security office involved going through security and waiting in line, sometimes for a long time. Things only became much worse this year, as Covid-19 brought widespread office closures, appointment-only arrangements and general confusion.
A popular myth is that you should go ahead and file because you have a year to undo your election. While it’s true that you can cancel your application for up to 12 months after you become entitled to retirement benefits, this is not without significant hassles. First, anyone else who receives benefits based on their application must consent in writing to the withdrawal. Then, they must repay all the benefits both they and their family received from the retirement application, including money withheld from Social Security retirement checks for Medicare Parts B, C, and D premiums.
What To Do
If you’ve already filed for Social Security, consider reexamining your retirement plan and deciding if you want to withdraw your application.
If you haven’t filed yet, there are some basic Social Security principles to include in your planning that are all the more important in light of the current pandemic. Attention to these principles can help you maximize an important government benefit you paid into for years.
– Go online now and set up your account. While this process generally goes smoothly, complications such as changes from maiden to married name or missing birth records will need to be addressed. Once online you’ll be able to check your earnings history, learn more about the benefits you’ve earned and prepare yourself for eventual filing. After you’ve signed up, you’ll have access to the Social Security Administration’s handy Retirement Estimator and their advanced retirement calculators.
– Include Social Security in your retirement planning. It’s a mistake to assume that because of the current economic situation you’ll never receive a dime of Social Security. However, it may also be overly optimistic to assume you’ll get your full projected benefit. Particularly if you have a number of years before reaching full retirement age, a conservative approach would be to apply a haircut to the Social Security benefit you assume in your retirement plan. Better to undershoot than overshoot.
– Don’t forget taxes. While it’s great that the Social Security system offers a myriad of options to choose from in filing, this also means that choosing the wrong option can cost you tax dollars. Your goal should be to maximize your after-tax benefits, and this involves factoring taxes into your benefit planning.
– When you can delay filing, do. Assuming you can afford to delay filing for Social Security (never past age 70), you should do so. There are very few situations where it makes sense to file early. Even if you expect to die before normal life expectancy, it may be beneficial to delay filing because it will maximize the benefit that goes to your family. While there are questions about how the government will fund current benefits, it would take an appreciable drop in benefits to justify early filing. The bottom line is that you can’t buy a better deal than the benefit that delaying Social Security filing offers.
This year is almost over, and good riddance to it. But don’t compound its hassles by making precipitous mistakes with your Social Security. Some things actually are worth waiting for, and a well-funded retirement is one of them.