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You’ve just celebrated your 65th birthday and you’re ready to claim your Social Security benefits. Not so fast! Although you have reached the traditional retirement age, you enjoy your work and plan to continue working for a few more years. How does this impact your decision to begin Social Security benefits?
What is FRA (and why does it matter)?
Let’s begin with some key Social Security terms. Full Retirement Age (FRA), also known as normal retirement age (NRA), is the age that you may claim full, unreduced Social Security benefits. This age is currently 66 years old, and for those born after 1960, the FRA age will be age 67. There will be a 6-year gradual phase-in of the FRA moving to age 67 for those born between 1955 and 1960.
Why is FRA important to me? It is most important for those that have not yet reached their FRA, as their retirement benefits will be reduced by up to 30% if initiated prior to FRA. It is also critical for those continuing to work as Social Security benefits claimed early will be reduced by an earnings offset. The earnings offset begins at $16,920 of earned income and withholds $1 in benefits for every $2 of earnings in excess of the floor. A modest amount of earned income can quickly reduce a benefit payment to zero. The earned income phase-out is slightly more generous in the calendar year that you attain FRA.
Looking at the other side of the equation, many continuing to work past their FRA assume that it is a clear decision to begin their benefits at FRA. There are a number of considerations that may cause you to begin benefits after your FRA. One of the most important factors is that for each year that you delay benefits after your FRA, your annual benefit increases by 8%. If you delay your benefits from age 66 to age 70, your annual benefits will increase by 32%. Age 70 is the latest age that you can begin your Social Security benefits.
How does my retirement age affect payments and taxes?
Social Security payments are adjusted for inflation annually. Delaying the start of your benefits will result in a larger base payment that will be inflation adjusted each year. A secondary but likely more important factor for couples is that upon the first death, the survivor carries forward with the larger of the benefits being received by either. A larger benefit, resulting from the delayed start, may well put the survivor in a stronger financial position later in life.
You also want to consider income taxes in your decision on when to start your Social Security benefits. For most people, Social Security benefits become part of their taxable income. For married couples with income over $44,000, 85% of your Social Security benefits are included in your taxable income. Your benefit is then considered ordinary income and taxed at your highest marginal tax rate. For someone in their prime earning years, this tax impact may mean that your actual benefits may be reduced by nearly 50%. This argues in favor of delaying your benefits until your marginal tax rate decreases.
What’s the best age to start benefits? That all depends on you.
The toughest part of deciding when to begin your Social Security benefits is estimating your mortality. If you knew your longevity, it becomes a fairly simple math problem to solve. The challenge for most of us is that we don’t really know how long we will collect benefits, so we have to do our best to examine our health, our lifestyle and our family history to make a calculated guess at how long we will collect benefits.
If you expect to live past your early 80s, beginning benefits at age 70 should result in higher lifetime benefits. On the contrary, if you have significant health issues currently, or other concerns about your health and longevity, you are likely a candidate to begin your benefits at FRA or earlier.
Your decision on when to begin Social Security benefits depends on a variety of factors. You should consult a financial adviser or tax professional to help you weigh the specific factors that may affect your Social Security claiming strategy.