Social Security – for many retirees – is a large part of their retirement income. Unfortunately, many people think claiming Social Security is as simple as walking down to the local office when you turn 62. Claiming Social Security early can have a massive negative impact on your lifetime retirement income.
The right time to start calculating various Social Security claiming strategies is when you’re in your late 50’s. Wait too long and you may feel under pressure to make a decision. Start too early and you may not have a clear enough retirement picture in place.
Since many retired people have already made the mistake of claiming Social Security early, we’ll explore 3 ways you can fix the mistake. First we’ll cover why you want to delay Social Security benefits at least until your FRA (full retirement age), and optimally until age 70.
Lower lifetime Social Security benefits
Many people have the desire to retire early. For most people, that means claiming Social Security benefits early as well. Unfortunately, there’s a gigantic financial penalty that comes with this decision.
If you claim Social Security benefits prior to your FRA you’ll receive a large reduction in lifetime payments. Your FRA – or full retirement age – is the point in life where Social Security will pay unreduced benefits. Basically, it’s when the government thinks you should retire.
The Social Security Administration has a handy calculator to determine your full retirement age here. Start with figuring out exactly when your FRA is. That’s your baseline age for when you could consider collecting your Social Security benefits. While many retirees want their Social Security income early, unless you have a short life expectancy, the penalty isn’t worth it.
If your FRA is 67, the penalty for claiming Social Security early is anywhere from a few percent to 30%:
| Age You Claim Benefits | Reduction in Benefits |
|---|---|
| 62 | 30% |
| 63 | 25% |
| 64 | 20% |
| 65 | 13.3% |
| 66 | 6.7% |
While the difference on your Social Security statement from claiming at an age prior to your FRA may not seem like much, it adds up to tens of thousands of dollars over your lifetime. For example, a 56 year old today may have a $2,480 PIA (primary insurance amount) at FRA. Claiming Social Security just one year early (at 65 instead of 66) will cost them $303 in monthly benefits.
That may not seem like much, however it really adds up over your retirement lifetime. Remember, that $303 per month will never be made up. It’s also $3,636 per year! Not only that, but that’s $3,636 which will never grow with Social Security’s cost of living adjustments each year.
Growing that $3,636 at a simple inflation rate of 2% (chances are inflation will be higher during your retirement) for 25 years totals $116,462 in LOST lifetime Social Security benefits. Outside of extenuating circumstances, claiming Social Security benefits prior to your FRA is a bad idea.
The Social Security earnings test
Probably the biggest mistake early retirees make is not having a cohesive retirement plan. They may easily have ignored the fact that their retirement may last 30 years or more. How will their retirement income last?
With all the spare time from an early retirement, they finally run the numbers. Quickly they find out their back is against the “financial” wall. Oftentimes they go back to work, hoping to drive in some extra income which will help extend their retirement plan.
When they go back to work, they must now pass the Social Security earnings test. This test only applies to those who retired prior to their NRA (normal retirement age).
Social Security will withhold your benefits if you make too much money. They call this the exempt amount. One of two different amounts will apply.
For people reaching normal retirement age after 2016, the exempt amount is $15,720 in 2016. Assuming you reached normal retirement age in 2016, the exempt amount is $41,880.
If your earnings exceed the exempt amounts, Social Security will withhold $1 for every $2 of earnings (if the lower exempt amount applies). If the higher exempt amount applies, Social Security will withhold $1 for every $3 of earnings over the exempt amount.
So while a retiree who returned to work will enjoy the extra income, their Social Security benefits may easily be cut. While this may seem like a bad thing (and may be depending on your situation), all is not lost.
The Social Security benefits which were reduced under the earnings test are not gone forever. Once the retiree reaches their NRA, their monthly benefit will be recalculated. The recalculation results in a permanent increase in Social Security benefits to compensate for the months and amounts which were withheld.
Remember, if you receive any Social Security benefits at all prior to your FRA, you will always leave money on the table.
Limited Social Security spousal claiming strategies
Once you open your Social Security record, you can never file a restricted application for spousal benefits. This is one of the biggest reasons people regret claiming Social Security early.
Spousal benefits for a high earning couple may amount to $60,000. Leaving that on the table can cause a lifetime of regret.
While this loophole is being closed, it’s still available currently. If you’re turning FRA over the next four years, you should seriously look into your spousal Social Security benefits and claiming strategies.
3 Ways you can fix the mistake of claiming Social Security early
#1 – Withdraw and repay your benefits
If you filed for Social Security benefits within the last 12 months, you can simply repay the amounts received. This process is called “withdrawing your application”.
If you withdraw your application for Social Security, you must not only repay your benefit, but any spousal or dependent amounts as well. To do this, visit “Retirement Planner: If You Change Your Mind” on the Social Security website here.
#2 – Go back to work
If you return to work prior to FRA, you’ll remember you have to pass the earnings test. If you do – and all of your benefits are withheld – your Social Security will be recalculated as if you hadn’t received benefits during that time period.
#3 – Suspend your Social Security benefit at full retirement age
Once you reach your FRA, you have the option to suspend your benefits. Doing this allows your benefit to grow at the 8% per year “delayed credits” rate until you reach age 70. Those DRC’s will apply to the benefit amount when you suspended Social Security.
Fixing the mistake of claiming Social Security early
Obviously, it’s better to have a solid retirement plan in place before you make your Social Security claiming decisions. That plan should include detailed steps on the most appropriate way to claim Social Security benefits.
In the event you didn’t have this plan in place – or calculate the best way to claim Social Security – you now have 3 ways to fix the mistake of claiming it early. While none of them are as good as never having claimed early, they’re certainly better than nothing at all!