Don’t Be Scared Into Claiming Social Security Early
Payroll tax proposal doesn’t change compelling case for waiting
As if household finances weren’t rattled enough by the coronavirus recession, a new round of ominous headlines set off fresh worries about Social Security benefits, and a new round of hand-wringing from near-retirees that it may be best to grab benefits ASAP before payouts are cut.
Slow down. Waiting still makes the most sense. Retirement planning pros who crunch the numbers have modeled the impact of hypothetical cuts — accent on hypothetical — and still find waiting to claim a benefit at a later age makes plenty of sense.
Social Security pays a guaranteed 6% higher benefit for every year you delay starting between age 62 and 67, which is the “full retirement age” (FRA) for anyone born in 1960 or later. (If you were born earlier, your FRA is between 66 and 67). You can’t earn a risk-free 6% investing today. And if you delay starting your benefit between 67 and 70, Social Security increases the benefit boost to 8% a year.
Can you earn 24% over three years investing? Maybe. But again, that 24% from Social Security is guaranteed. (Side note for married couples: The most important step is for the highest earner to try to delay as long as possible. It’s less important when the lower-earning spouse starts receiving benefits.)
That said, the recent headlines were unsettling. President Trump’s pronouncement in August that he would do away with the payroll tax that funds the bulk of Social Security, if re-elected, set off howls. It would effectively undermine funding for the program. The White House soon started walking that back. But still.
And then there was the Social Security Administration itself reminding us it has a cash flow problem — nothing new, really. If not addressed, it could result in a reduction of benefits. The 2020 estimate from the SSA is that absent any Congressional fix, the program will not be able to pay out 100% of full benefits come 2034.
The cash flow problem could come even sooner, as this year’s SSA report did not factor in the COVID recession. (With most of the program funded by payroll tax, widespread unemployment means less payroll tax collected.)
Deep breath. It’s important to remember that even if Congress does nothing, benefits will not go to zero. The absolute worst-case estimate is that benefits would drop by 25%. Not 100%. But “just” 25%.
But Congress has plenty of motivation to fix this problem. For all the polarization across the country, Social Security has bipartisan support. A fresh survey found that more than half of Democrats and Republicans are against cuts to the program. And last year, research from the nonpartisan Pew Research Center reported 74% of Americans think future benefits should not be cut at all. Among Democrat-leaning Americans, 78% are against any cuts, and among Republicans, 68% said benefits should not be cut.
The reality is that benefits will likely need to be reduced to solidify the program. But the odds of those cuts falling on people in retirement are pretty slim. Back in 1983, Washington had to reform the program (For the record: Republican White House, Republican Senate, Democratic House. And a deal was done.) and the changes did not upend benefits for retirees. People who were 23 or younger that year were told their FRA was going to rise from 65 to 67. That’s in fact a benefit “cut.” But it was rooted in an important truth: Folks in their 20s had a longer life expectancy.
There may be a longevity argument for tweaking the FRA once again. Another powerful lever that can be pulled is to address how income inequality is impacting tax collections. The way the payroll tax is collected, high-income earners get a big break: Every penny earned over an annual limit ($137,700 in 2020) is not subject to the Social Security tax. Everyone who earns below the threshold has 100% of their paycheck taxed.
Recalibrating that upper limit to capture more tax from high wage earners would go a long way toward solving the cash flow problem.
Right now there are two clear steps households concerned about Social Security might consider.
First, if you’re in the camp that wants Social Security fixed, let your representative and senators know. Sooner than later. Call, email, write. Need a prompt? Consider referencing what Jo Ann Jenkins, CEO of AARP wrote to President Trump in August, when he floated the notion of eliminating the payroll tax:
“Social Security is arguably the most important and successful program in our nation’s history. It is the largest source of retirement income for most Americans and provides nearly all income (90 percent or more) for one in four seniors. The American public overwhelmingly supports Social Security, and that support remains high across party lines and age groups.”
A wonky analysis from the head of retirement research at Morningstar analyzed whether the delay strategy would still make sense if benefits are cut either 10% or 25%. The short answer: Yes. In the current rate environment, delaying still pays.
And keep in mind that just because you claim now doesn’t mean you wouldn’t potentially see your benefits reduced. Which raises this consideration: Do you want a smaller benefit reduced or a bigger benefit reduced?
“While each retiree situation is unique, despite the uncertainty surrounding cuts to Social Security retirement benefits, I still think trying to delay claiming Social Security benefits as long as possible is the best strategy if you can,” wrote Morningstar’s David Blanchett.
Find help stretching your resources to wait to claim as long as possible here: https://www.rate.com/research/news/more-retirement-social-security-strategy