soc sec questions 2013
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Social Security: Your Questions Answered
By Jason Stipp | 03-23-2013 02:30 PM
Jason Stipp: Welcome back to Morningstar's Individual Investor Conference.
You're sitting in on the panel Social Security: Your Questions Answered. This has
been a very popular topic among our Morningstar readers. In this session we're
going to be talking about a couple of strategies, strategies for divorcee, strategies
about when to claim your Social Security. This is going to be an increasinglycritical issue for retirees as we move forward.
I'm pleased to be joined on this panel by two Social Security gurus, folks who have
extreme knowledge of the Social Security system. They're going to be sharing
some of those insights with you today.
To my immediate left is Mark Miller. Mark is a Morningstar columnist. You've
probably seen his articles on Morningstar.com. He is the author ofThe Hard Times
Guide to Retirement Security, Practical Strategies for Money, Work and Living. He
also writes a syndicated column for Reuters and blogs about retirement planning
and saving strategies on RetirementRevised.com.
And joining Mark, who also joined us last year, is Mary Beth Franklin, a
contributing editor for InvestmentNews. She is a frequent speaker on retirement
issues, and I think she must be some kind of mystical Social Security guru. She
knows the answers to all of these situations. So it's great to have you, Mary Beth.
Mary Beth Franklin: Thank you.
Stipp: Prior to joining InvestmentNews, she was a senior editor with Kiplinger's
Personal Financemagazine, specializing in retirement planning, tax planning, and
Social Security.
So, before we get going. I just want to remind our viewers that we will be taking
questions during this session, so to the right of your viewer you can enter a
question, send it off, and we'll try to get to as many of those as possible. I should
say we got tons of questions before this event. This is an event where there's no
shortage of questions. We will be trying to hit some of the questions that come in
during the panel. So let's get going without any further delay.
Let's start, first of all, before we get into the tactics, and talk a bit about Social
Security, the health of Social Security, some of the policy changes around Social
Security. This is an area that seems of perennial concern now. Mark, I'd like to
start with you. Can you give us a clear concept about the fiscal health of the SocialSecurity program? We hear these big words like insolvency and big problems that
are coming up. What should we know about Social Security's health, the trust
fund, how do all these factors fit together?
Mark Miller: So, Social Security is basically designed, Jason, as a pay-as-you-go
system, meaning that benefits are funded at base out of the payroll taxes that are
coming in at the time as the money is going out. So, that's the payroll tax; we
have 6.2% tax that's paid by employees and a same amount is paid by employers.
That's the payroll tax.
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Miller: And the very word "bankrupt" has really no meaning in the context of a
federal program anyway, so that's a term of sort of art that's out there in the
political dialog. But as Mary Beth is saying, the odds of this 2033 outcome
happening I think are quite small, and it's interesting, even the Congressional
Budget Office projections on the long range of Social Security assume that full
benefits would be continued to get paid even if Congress does nothing. The
downside of that is that it means that the government would essentially borrow to
plug that difference.
So, that's what we have in a nutshell. It's a very manageable set of questions
about what you do to fix that problem. Interestingly, a poll that came out this
spring asking people, the public, what would you like to see done to solve the
problem, overwhelmingly supported the idea of a gradual increase in the payroll
tax, number one; and number two, a gradual increase in the amount of wages that
are subject to Social Security tax. Right now it's capped at a little under $114,000
of income where that tax is collected. If you, over a 20-year, period make those
changes in payroll tax rates and the cap, you would completely eliminate this
problem. And the interesting finding, back to your point on the politics, is that
There is also something called the Social Security Trust Fund, which we're in a
very unusual period of time in Social Security's history right now in that we have
an enormous trust fund surplus that's been built up, basically as the result of the
last time Social Security was reformed, which was 1983. At that time,
policymakers looking ahead at the age demographics of the country said we're
going to have this enormous age wave of baby boomers. We better do something
to build up a cushion to pay out those benefits.
So at that time, the big change that was made was a change of the retirement agegradually from 65 to 67. We're right in the middle of that, but the upshot is that
we began accumulating this very, very large trust fund surplus. So where we are
at right now is those surplus funds are now starting to get drawn down as baby
boomers do in fact start to retire and file for Social Security.
And so, the financial issue the Social Security faces is this: The trustees of Social
Security say that that trust fund will be gone in 2033. We'll actually get a new
projection on that shortly when the new trustee report comes out; that will be the
spring. But 2033 is the year in which we would, absent any other change, be back
to a PAYGO system. And with those funds exhausted, we would then be at a point,
again absent any other change, where Social Security benefits would have to becut by about 25%. In other words, the program would only have resources to pay
out 75% of promised benefits to everybody using the program.
Franklin: And let me just jump in a second. So, when people say Social Security is
going bankrupt, it's not going bankrupt. Even under a worst-case scenario,
sometime around 2033 when the trust funds are gone, the payroll taxes from
workers in 2033 would still be enough to pay $0.75 out of every $1 of benefits, but
no one is going to be satisfied with that. This is the most popular and most
successful government program in history, and despite the fact our leaders in
Congress have had a difficult time getting much done in the last few years, I really
do believe they will rise to the occasion to fix this because the public will demandit.
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about three fourths of Americans across every demographic descriptor you could
think of, whether that's age, income, or political affiliation, supported this
approach. So, this is probably where, when the dust settles, we will see this go. We
will see some reforms done to shore up Social Security.
Franklin: The other important point to make is that when this was created in
1935, it was created as an earned benefit. People pay payroll taxes to support their
future benefits. It is not welfare, and that's one of the reasons it is so popular,
because people pay into it, they expect to get a benefit, and it's universal; 94% ofall Americans pay into this, so it has great political clout.
Miller: The last thing I want to say about this is, well, why is it that we would have
this problem of only $0.75 on the $1 come 2033. A lot of people like to say, well,
it's because we are all l iving longer or something along that line. What the Social
Security actuaries will tell you is there are really two reasons that there is an
adjustment that needs to be made to keep things in balance. One is we've had a
declining birth rate. So again, a PAYGO system, fewer workers coming into the
system. And the other is the stagnation and weakness we've seen in wages in the
country. So there's a broad economic problem we have as a country that's causing
weakness in the payroll tax inflow.
Stipp: And, Mary Beth, you also mentioned in our premeeting, before this panel,
that this is different than Medicare, too, and this goes back to the idea of an
entitlement program versus a paid-in benefit. So when you're talking about Social
Security and you're talking about Medicare, even though they often get lumped
together, they're really two separate things.
Franklin: They are two separate issues. Social Security, as we mentioned,
generally does not add to the deficit. It is paid for with payroll taxes and interest
on the earnings; it's self-sufficient. Medicare is heavily subsidized by the
government. Retirees pay premiums, but that only covers about 25% of the costs,which means the government is paying about 75% of the cost of Medicare. As we
know, health-care inflation is much higher than general inflation, and we have this
enormous boom of baby boomers hitting retirement age. So, there is a structural
problem there, and things are going to have to be fixed.
Miller: One thing to add to that though is you do have a payroll tax for Medicare,
which supports Medicare Part A, the hospitalization program. It doesn't support all
of it, but there is a dedicated payroll tax stream just for that part of the program,
but as Mary Beth is saying, beyond that, it's really a mix of the payroll tax, general
revenue, and premiums.
Stipp: You mentioned that there was pretty strong support for bumping up that
payroll tax over time to help cover some of the shortfalls that we might see
because of the demographic changes and other things that you mentioned. But
other things have been on the table for Social Security, and I'd like to get your
take on them. One of them is means testing, so this is something where you would
collect Social Security if you didn't have enough money in retirement. So, there
would be some kind of an income test before you would collect from it. Do you
think this is a possibility that we'll see in the system?
Miller: I actually doubt it. The big reason is you don't really achieve very much
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with means testing. While it sounds like a very reasonable thing to say, the line
you hear about this all the time is Warren Buffett doesn't need Social Security. No
debate in that, but the fact is, there arent a lot of Warren Buffetts. So the
statistics tell you that 90% of benefits from Social Security go to people with
$50,000 or less in non-Social Security income, so this is a middle-class program.
Franklin: The other thing is the way the benefits are already structured is that
lower-income workers, who haven't had the opportunity to save for their own
retirement, get a larger percentage of the benefits. It really is tilted toward lower-income workers, but more importantly everybody who has paid into the system
gets something out of it.
Miller: One of the points of confusion about means testing is that the Simpson-
Bowles report on deficit commission did include a recommendation that was
interpreted to be a means test. It was discussed as means test. And people point to
that saying well that would cut half of the Social Security problem out of the
picture. But what they didn't really propose true means testing.
Classic means testing is like what we have in Medicaid where you look at person in
a current time and [determine whether] they have assets above X or Y to be ableto afford something; that's means testing. What Simpson-Bowles proposed really
was a change in the formula that measures lifetime earnings and determines your
credit. So it's not real means testing; it was looking at your whole lifetime.
So we don't have a real means-testing plan on the table. And administering that I
think would be quite complicated because you have to go through this enormous
testing; imagine having to submit all these tax returns and so on.
The last point is I think the other reason means testing would be ineffective is it
would essentially create a perverse incentive for people to save less, meaning if I
know that if I trip a certain number and my benefits get cut, do I have as much of
an incentive to keep stocking money away in an IRA? I mean, it's going to come
out one side or the other. So there are a lot of reasons that means testing is highly
problematic, and I think unlikely to occur.
Stipp: Another thing that could affect benefits is this notion of the inflation
indexing. And so there's an inflation adjustment for Social Security payouts, and
it's using a certain inflation measure now. There's been talk of changing it to
something called the Chained CPI. What is that, and what does it mean bottom
line, if it went into effect, for my benefits from Social Security?
Franklin: One of the great values of Social Security is the fact it is inflation-
adjusted. Even people who have traditional pensions, most of them don't have aninflation adjustment, which means over the years their pension is worth less. Here
Social Security keeps up year after year with your buying power. The way inflation
is adjusted now across the board in the government is, it measures a basket of
goods, it measures inflation, and it applies this adjustment each year. The Chained
CPI basically says well, when steak gets too expensive people just switch to
chicken. So, our new inflation adjustment is going to take that into effect.
Opponents of this say, no that's just a benefit cut. And it's particularly difficult for
the elderly because their inflation is different. They tend to pay maybe less for food
and housing and a lot more for medical expenses. So even under the current
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system it really doesn't reflect the real sense of inflation and this would just
exacerbate it. So, it's talked about a lot again. I think it would be very
controversial to impose it.
Miller: And it also is something--of all the different changes that are into
discussion--it's the one that it would begin impacting people right away, with that
0.3% difference, which then compounds over the years. So, every year you're
starting from that lower base.
Franklin: Because we always say that most people who are 55-plus, 60-plus,
probably would not be affected by any proposed changes except something like the
inflation adjustment. I think that would be applied across the board.
Miller: The other interesting thing about Chained CPI is most of the proposals on
this, this is not just a Social Security thing. It's a change across the entire federal
government. So, for example, will it change the way that federal income tax
brackets are adjusted for inflation. So, it attracts some opposition from
conservatives, too, who dislike it because they see it as ineffectively a stealth tax
increase.
Stipp: Mark, you've also done some research around the idea of raising the
retirement age. So on the face of it this seems like not unreasonable. People are
living longer, so maybe the retirement age should be a little bit higher. But it can
actually have, as you found in your work, a pretty substantial impact on your
benefits.
Miller: It really is a benefit cut for everybody no matter when you retire. This is
one of the things that people don't understand about this question. Because people
think, "Well, after all, I will work longer and so on." But the reason that it is a cut
is this, that, Social Security is organized around the notion of the full retirement
age, which is right now 66, and it's on its way to 67 in 2020.
So, today, if I retire at 65, because of the way that benefits are structured, I would
get my full retirement age minus a year's credit. You get more or less against that
hoop that you have to jump through of the full retirement age. And likewise, if I
retire at 66 today, when the retirement age used to be 65, it used be the 66 was
plus one year of credit. So up until, age 70 that sliding movement of the
retirement age effectively works as a cut.
To illustrate the changes in 1983 as we mentioned earlier, we gradually moved the
retirement age from 65 to 67. The best estimates I've seen on this suggest that,
when that change is fully implemented in 2020, people who retire in 2020 will see
their lifetime benefits cut by about 15%, as a result just of that move. So, it's anacross-the-board benefit cut.
Franklin: But the flip side of that is, yes people are living longer and when Social
Security was created in 1935, the 65 as a normal retirement age was fairly
arbitrary. That's what [chancellor Otto von] Bismarck had done in Germany for its
pension system [in the 19th century], and life expectancy from birth in the United
States was only about 62 [in 1935, so the Social Security retirement age] was set
as a higher bar.
If you extrapolate the life expectancy we have now, if we did it on the same
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premises back in 1935, normal retirement age would be about 83 now. So, even if
it has gradually increased, it's still a pretty good deal, and you're talking today's
4-year-olds might have to wait until 70 to collect their full benefits.
Stipp: Let's move and talk about some of the nuts and bolts of Social Security.
Because this is where we really get into some of the red meat about how people
should manage their Social Security benefits, and it can make a big difference. We
will start pretty basic. We had a few reader questions asking about eligibility. Mary
Beth, can you just lay out the eligibility rules for Social Security and who cancollect it?
Franklin: Right. As Mark had mentioned, the current full retirement age is now
66. If you collect at 66, you get 100% of your promised benefits. You can still
collect as early as 62, but you will take a permanent haircut. If you start at 62,
you will get 25% less. Then there is also this incentive to wait longer, you can wait
up until age 70 and for every year you delay between your normal retirement age
66, and age 70, you get an extra 8% a year.
So, that means you if wait until 70, you will have a 132% of your basic benefit.
The difference between collecting early at 62 and collecting at 70 is almost doublethe benefit. And more importantly that bigger base you get will be a bigger base
for all the future cost-of-living adjustments. So, for people living longer who can
afford to delay their benefits, it's a real substantial chunk of guaranteed retirement
income for the rest of their life.
Stipp: And Mark, what kind of work history do you need to have in order to be
able to collect Social Security?
Miller: Its 40 quarters of credit.
Franklin: It's basically 10 years.
Miller: 10 years of work basically.
Franklin: And that's part-time work, essentially. You don't even have to have
full-time work.
Miller: That 8% that Mary Beth just talked about I think is worth drilling on for
just a minute. If you think about delaying for a year, and let's say you are no
longer working and you have to fund living expenses out of savings to delay a
year--money that you'd have otherwise being using for Social Security--if you
thought about that as an investment in an annuity and what kind of return you are
getting, that's an 8% return. That beats almost anything you could possibly get.
Franklin: And it's a risk-free 8%.
Miller: And it's going to be an inflation-adjusted 8%.
Franklin: It's extremely valuable.
Miller: So, there has been some really good research on that, comparing different
ways to basically buy annuity, and this is one of the very best ways you can do it.
Stipp: So, we have some slides up for readers to help with some of these concepts.
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So there is a "What's Your Number" slide here? And the slides are also available to
viewers in the chat module below. So you can follow along with some of these
concepts. We're talking about the full retirement age now at 66, and then there is
a range depending on when you were born.
And I just want to talk about some of the core concepts we've already talked about
when you can claim and what you can claim? You can obviously start as early as
age 62, you can delay it. And Mark, you've written a lot about the benefits of
delaying it. We do get a lot of questions about "Well if I invest that money, maybeI can do better."
There is also a concept known as the break-even age. So, what is that, and how
does that factor in? Because some people want to collect it earlier because they
will start getting paid earlier and pretty conceivably get paid longer is the idea.
Miller: Break-even is looking at this concept of Social Security from a lifetime
benefit standpoint and how long do you need to live in order to make back what
you would have received had you started at 62, it's that simple. So, I always say
that lifetime is kind of the wrong way to look at it. I think you want to look at it
Franklin: Right, it's income.
Miller: Its income. Maybe nobody banks Social Security, right. I mean I can't think
of what that circumstance would be. You use it to meet your l iving expenses. This
is a social insurance program. What is this insuring? It's insuring against the risk of
outliving your money. So, whatever you can do to maximize that insurance
lifetime, monthly, month-in month-out is the way to look at it. So, that's what
break-even though is.
Franklin: But as someone had said to me, you must be present to win. So if you
have health issues. I mean this is all based on average life expectancy. If you don't
think you're going to make it until 78 or so, go ahead and take it early. But as we'lltalk in a few minutes, there are strategies for married couples where it's not just
when you take your benefits, but locking in the biggest benefit for the surviving
spouse, whichever one that is.
Miller: Great point. I mean, there are a million different reasons why you might
want to file early. But that's what break-even is all about.
Stipp: Here is an interesting question from Greg M., and this is a question we got
when we were soliciting for reader feedback. If a person is single and will have to
take additional IRA funds to make up a difference of not taking at age 62, isn't the
advantage of waiting diminished? So I, in other words, will have to start drawingdown from my own investments if I don't start at age 62, and it doesn't seem like a
good thing because those investments won't work for me as long. I'm starting to
maybe tap my capital. How do I make that trade-off of taking money out of my
investments to wait [in taking Social Security], or wait and get a higher payout
later?
Franklin: Mark is going to take this because I know you want to cite that study.
Miller: And we can put up a link to this later, but there has been some great
research looking at that interplay of Social Security and portfolio life. Most of the
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research suggests that that delaying tactic actually is very positive for the
long-term portfolio health, even though it sounds counterintuitive for the reason
that the reader suggests. But what happens is that huge increase in benefits that
Mary Beth talked about a minute ago takes so much pressure off the need to draw
down the portfolio as you move down that path that it's extremely positive. It can
extend portfolio life anywhere from three to 10 years, depending on all the
variables that would come in there.
Franklin: It can actually help your taxes in retirement later on because keep inmind if you are drawing money from a traditional IRA, you are paying taxes on
every dollar you are taking out. But with Social Security, depending on your
income, a portion of it is going to be tax-free. So, as you replace more of your
income as you get older with Social Security benefits that are not fully taxable and
reducing the amount of IRA withdrawals, which are taxable, you could actually end
up paying less in taxes.
Miller: And it gives you maybe more flexibility in managing that mix.
Franklin: Exactly.
Stipp: Lots and lots of questions about couples strategies, so we have some
couples planning basic key concepts, and, Mary Beth, you had supplied this
information for us, so thank you for that. Again, you can download these slides in
the chat module that's below the viewer. But let's talk about some of the key
concepts behind couples planning before we dig into some scenarios. What's the
basic framework for how couples' Social Security benefits work?
Franklin: The basic concept is, as a worker who has at least the minimum amount
of 10 years of work, they're going to qualify for Social Security benefits on their
own work record. Their spouse, let's say, this spouse never worked and I'm going
to say it's the wife, but its gender neutral, the spouse qualifies for benefits equal
to 50% of what the worker gets. That's in addition to the worker's 100%.
Now a lot of it is age-based. Id like to call 66, the current retirement age, full
retirement age as the magic age for three reasons. If you wait unti l 66, you get
your full retirement benefit. If you wait until 66 and you continue to work, you get
your full benefits without any reduction from the earnings cap, which we can talk
about in a minute. And most importantly, if you wait until the magic age of 66, you
can exercise some of these strategies, which for married couples, and that can
even include widows and divorced spouses in some cases, you can really maximize
your benefits. So maybe you want to give us the question and we will give an
example of how it works.
Stipp: So there are several long questions. So the question from reader, Steph.
"My husband is retired. When I turn 62 in three years, can I collect his Social
Security and wait to collect on mine until at least my full retirement age?"
Franklin: Greatquestion, and the short answer is no. Yes, she can collect at age
62. She will get that permanent 25% haircut on her own. But anytime you collect
benefits before the magic age of 66, you can't separate it. You have to take the
highest benefit to which you are entitled, whether it's your own benefit on your
own work record, or as a spouse. If she waited until 66, she can exercise this
wonderful strategy called "restricting a claim to spousal benefits only." She could
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say, my husband is collecting his benefit, I'm 66, tell Social Security I just want my
spousal benefit, which is half of his. My own benefit is going to keep growing by
8% a year, and at 70 I'm going to switch to my own. And it's going to be worth a
132% of what it would have been at 66. This can be an enormous strategy for
couples trying to maximize the retirement income.
Stipp: Another question, another scenario: "I have just turned 66," so thats that
magic age. "I am working full-time at a job with a six-figure salary, which I plan to
continue," so making a good salary. "I'd like to start receiving my full SocialSecurity benefit right now, but I hesitate because I wonder about my spousal
benefit from my wife, who is retired, versus my benefit. Is it better to take the
spousal benefit first and wait until 70?" So, there are, obviously, some variables
here.
Franklin: It's exactly the scenario we just described, because he is 66, magic age.
He's at full retirement. He can keep working. He wont lose money to the earnings
cap, and he can say to Social Security, "Restrict my claim to spousal benefits only,
give me half of what she's getting, and mine is going to keep growing at 8% a
year."
Miller: One other thing about that situation thats interesting is, he's in a situation
where he could trigger problems with Medicare because if hes got a high income
plus Social Security, he is going to be above the $85,000 for individuals, and Im
forgetting the number.
Franklin: $170,000.
Miller: $170,000 [for couples filing a joint tax return]. It's possible you could trip
the number that pushes you into the high-income Medicare premium surcharges,
which are very large. So, if you have high ordinary income from work, you really
want to watch your strategies for additional income coming in for Social Security
for these other reasons, outside of just maximizing Social Security.
Franklin: This is not your grandfather's retirement. It's gotten really complicated.
Stipp: On that point, so there are a lot of different variables to keep in mind here.
Are there any tools that you guys like to try to figure this out? Because everyone s
situation is different; we are taking some questions from readers now, and I would
advise them as well to really think through these issues. We don't have all of their
information, but there are a lot of variables, lot of moving parts here. Where can
people go to get a better sense of what's a good plan essentially?
Franklin: Do you want to start first, Mark. I mean, there is a lot of great stuff outthere.
Miller: Yeah. We probably agree on some of them. There are a variety of tools
online that are both free and some that have some small fees attached. In the free
category, you can go on the Social Security website to just get an estimate of your
own benefit, and also a play with different retirement ages. It's fairly basic. The
AARP website also has a pretty good free tool that lets you play with different
scenarios for your filing.
Franklin: It's a good educational tool.
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Miller: It's a good educational tool. AARP also launched recently that's I think
terrific is an online searchable database of most frequently asked questions. It's
sort of the technology version of Mary Beth. She knows all this in her head.
They've got it in the database. Slightly more sophisticated, but also involving a fee,
one that I think is terrific and I think [Mary Beth likes], too, is called
socialsecuritysolutions.com.
Franklin: Absolutely, yeah.
Miller: Launched by a couple of people who are actuarial experts and academics in
this area. For a reasonable fee, it ranges depending on what level you take, from
$80 to a couple of hundred dollars. You put in a very small amount of information,
the work required on the front end is small, one of the reasons I like it. You put in
your and your spouse's birth dates, Social Security numbers, and a couple of other
things.
Franklin: And your estimated benefits.
Miller: And your estimated benefit, you go get that from the Social Security site. It
then spits back a 20-page PDF document outlining different strategies you mightconsider for maximizing benefits. I think that's pretty slick, and for a couple
hundred dollars, boy, is that a possible big return on your investment.
Franklin: I think it's one of the best things out there for consumers. There's other
software out there for financial advisors. But I really think this is the best for
consumers, and they actually have a Step B section to that software called
retireeincome.com. It's affiliated with Social Security Solutions, and for those
people who want to look at their whole retirement-income picture, including the
tax efficiency of drawing down from different accounts and how their Social
Security fits into it, I think it's well worth the money involved. It s not a big
expense, and you are talking perhaps a difference of $100,000 over the jointlifetime of a married couple.
Miller: And what's so great about that, too, is just that it doesn't require a ton of
work on the front end. Some of the tools that are out there, you can spend a whole
weekend just inputting data, and this is very, very slick and simple.
Franklin: One other point mentioning the Social Security site itself, a lot of people
do not realize that the Social Security benefit is no longer in the mail. Because of
budget cuts, Social Security is no longer mailing these out.
Miller: You mean the statement, the annual statement?
Franklin: The statement, I'm sorry. The statement, correct. So if you want your
information, which I encourage everyone to get, they need to go to ssa.gov and set
up their own, it's called My Account, and it's actually your personalized statement
just like the old paper one used to be, but online.
Stipp: Mark, I heard Mary Beth mention a $100,000 figure. These are important
decisions, and you mention that there is big implications for getting this right. So
these are some great tools that you've mentioned, but we are talking about a lot of
money here to make sure that you make this a good decision.
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Miller: Yes, and it's surprising. This is a big deal for middle-class households. It's a
big deal for what you might call mass affluent households, and even for wealthier
households. I did a column recently on this subject. We took this question of, all
right, what if 2033 rolls around and the unlikely happens, that benefits were cut
25%, just because you hear this discussed so much in the press. It's like, well,
everybody should be discounting their benefits because we know this problem is
coming.
So, working with a financial planner we actually created scenarios for different sort
of levels of wealth with some hypothetical households, and it was really interesting
to see the implication of a cut in benefits even on fairly well-off households
because of these issues of longevity, portfolio exhaustion that can incur in the
far-out years, particularly with woman living longer than men, there is this issue of
running out of money, and that's the thing that Social Security is so good at. So,
one way of looking at your question is a benefit cut, the other is making the best
decision plus/minus 10%, lifetime 15% of your benefit can be a very big deal, and
I was surprised to see how far up the affluence ladder this impact actually goes.
Franklin: Following on that point. Mark mentioned the importance of survivorbenefits. This is what a lot of people don't understand that when a husband and
wife are making their decision of when they are going to claim their benefits, their
main goal for most people should be to get the biggest benefit possible for the
surviving spouse, and the way Social Security benefits work, we talked about a
spousal benefit is 50% of the worker's benefit; a survivor benefit is a 100% of the
worker's benefit including those 8%-a-year delayed retirement credits. So, for that
higher-earning husband who delays taking his benefits until 70, he is not just
getting the biggest bang for his buck, but if he dies first and sorry guys that's
actuarially the way it is going to work, she will have this bigger benefit for the rest
of her life, the smaller benefit will disappear at that point, but the household will
maintain the biggest benefit.
Miller: I think that point ties back to what we were talking about earlier on
break-even, this notion of the break-even point, because when you look at married
couples there is a pretty good chance that one member of the household will far
exceed
Franklin: Make it until 92, yeah.
Miller: the break-even point. So, these strategies become so important. It's
timely to be talking about married couples right now too because the Supreme
Court [is hearing] the issue of the Defense of Marriage Act, and I think we even
got a few questions about civil union and so on. This is an issue I've written some
about, whatever gets decided on the Defense of Marriage Act will have a big
implication for Social Security benefits for same-sex couples. Civil union is not a
relevant concept to Social Security because of DOMA. DOMA essentially, as we
know, defines a marriage between a man and a woman. So, Social Security and
any other federal program that has its hands tied can only look at a married couple
under that definition.
If that changes, then Social Security will change, and it will then recognize any
married couple. So if you live in a state with same-sex marriage, you will, to Social
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Security, look the same as a traditional hetero marriage. So, that's going to be a
big deal, and a lot of people are watching it closely. And because of all things we
talked about, the importance of these spousal strategies, the implications for
retirement security for same-sex couples is huge. It also has applications for
Medicare, 401(k), IRA, it goes way down the path.
Stipp: Another question that involves the spousal benefits and the survivor
benefits we got from the reader, what if one spouse has not completed 40 quarters
of work? How does that work as far as spousal benefit or the survivor benefit?
Franklin: Well, remember, as long as you are married to someone who qualifies
for Social Security, you qualify for spousal benefits. This was designed for Ozzie
and Harriet back in the 1930s when most women did not work. So as long as one
member has Social Security benefits then the spouse can get it.
The other thing I'd like to mention, when I go around the country talking about
this, the question I get the most is from divorced spouses. So many people do not
realize that if they were married to the same-spouse for at least 10 years and are
currently not married, they too are entitled to spousal benefits just as if they were
married. And what's really important is that ex-spouse doesn't even have to file forbenefits. They just have to be old enough to file for benefits. So, they can't say
"I'm never going to retire; I'm never get die." As long as that ex-spouse is 62 and
you are at least 62 and you are married for 10 years you can quality for spousal
benefits, but more importantly, you could use one of these strategies that wait
until 66. And [then you can say] to Social Security "I want to restrict my benefits
to spousal benefits only," collect on the ex, and let your own benefits grow 8% a
year up to age 70.
Stipp: Since you brought up the issue of divorce, we did get a reader question.
What about in the case of re-marriage, how do benefits work there?
Franklin: If you are divorced, you must be unmarried to collect on an ex-spouse,
but if you are a survivor, you're a widow or a widower, and you wait until after age
60 to remarry, you can continue your survivor benefits. Even if you were divorced
and the ex died and you waited until after 60 to remarry, you can collect. Believe
it or not, I get calls from people, "I've been married three times," as long as they
each lasted at least 10 years, you get to pick the benefit of the highest benefit. It's
like tic-tac-toe.
Stipp: So let's move on to what you call Magic Strategies, Mary Beth. We have
some information here for readers that you provided for us. And these are
strategies where couples can essentially maximize their payments. Some folks
have heard a little bit, we got a few questions about them, but let's walk through
the basics of the Magic Strategies, the first is called file and suspend. How does
that work? When would you use it?
Franklin: And again, this is the idea. You must wait until 66, the current normal
retirement age to do this. But let's say you have an Ozzie and Harriet situation
when the man has worked his whole life and the wife has little or no earnings on
record. He wants to keep working until 70 because he knows he wants to maximize
that survivor benefit; she, frankly, would like some money now.
If he waits until 66, he can say to Social Security, "I want to file and suspend." For
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that purpose, that triggers her spousal benefits, so she can collect, as long as she's
at least 62; he does not collect his. His continues to grow 8% a year up to age 70.
This is the best of both worlds. It allows a couple where there's a major earner and
maybe one with little or no earnings to get some income now, collecting spousal
benefits and then delaying the biggest benefit until later, and this works not just
with spouses, but with minor children. We have so many older men who have
second marriages, pushing the baby carriage with their AARP card. What a lot of
people don't realize is if a parent is collecting Social Security retirement benefits
and there are minor dependent children in the household, the children each get
benefits up to 50% of the amount of the retirement benefit subject to a family
maximum. So, you have two kids that are 12 and 14, dad gets retirement, they do
too.
Stipp: Let's take a scenario here and you can talk through and see how this
applies potentially. So, Richard asked, "My wife and I are interested in maximizing
our Social Security. I don't plan to start drawing Social Security until I get the
maximum amount. We are both in good health. We have enough saved so that we
won't need to begin withdrawing from our accounts until later. I've heard the
younger spouse applying for spousal benefits when they turn 62 then changing to
their own benefits when they turn 70."
Franklin: That doesn't quite work that way. They've got it a little confused. Yes,
she could collect as early as 62 with that permanent reduction, she'd get 75% of
her benefits, but any time you collect benefits before your normal retirement age,
you lose the opportunity for these other strategies like file and suspend or
whatever. So, she couldn't just turn 66 and say "I want my own benefits now."
She's given up that opportunity, but again, when you look at a married couple as
an economic unit, in many cases it does make sense for one to claim early even
though it's reduced and for the other to claim later to get the maximum benefit,
because here's something else people don't understand. Social security retirement
benefits and survivor benefits are two separate pots of money.
Even though she takes Social Security benefits at 62 and the retirement benefits
are permanently reduced, if he dies she steps up to a survivor benefit 100% of
what he got, and as long as she is at least normal retirement age when she collects
a survivor benefit, there is no reduction. So, she really has her cake and eat it too,
get the reduced benefit now, step up to bigger retirement benefits when he claims
and then step up to unreduced survivor benefits.
Stipp: So, in the case where someone might be taking at 62, that would usually be
the lower-income earner, because the higher-income earner you are wanting to
wait until at least that normal retirement age?
Franklin: Right. And then here is what I'd like to do for power couples, they both
have substantial earnings on their own record. They can do a combination. Now
this assumes they are both roughly the same age. At 66, the higher earner can say
to Social Security, "I want to file and to suspend." That triggers benefits for the
spouse, who is also 66 and says, "I want to restrict my claim to spousal benefits
only."
What happens is, one gets zero for right now, one gets a spousal benefit worth
50%, both of their benefits continue to grow 8% a year, and at age 70 they both
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get their maximum benefits. To give you an idea how much money we are talking
about, if both of their normal retirement age benefits were about $2,000 a month,
by the time they got their maximum benefits, that works out to about $72,000 a
year combined. And thats cost of living adjusted for the rest of their lives.
Stipp: A question from Andrea, she asked about civil unions, but she also said
what criteria should one consider when deciding if marriage is more advantageous
for Social Security versus if both people remain single. So, it sounds like married
couples do have access to other strategies.
Franklin: Exactly.
Stipp: A good idea if you are so inclined anyway to go ahead and get married if
you're not already, versus some sort of separate benefits?
Franklin: I'm sure Social Security is reason enough to get married, but I would
like to see marriage vows change to say and in the event death does not do us
apart make it at least a decade because people who are married nine years and get
divorced can't use these divorce strategies. So, I would like every divorce attorney
in the country to be aware that marriages need to last 10 years in order for an
ex-spouse to get benefits.
Miller: Yeah, setting aside the relationship side of things, marriage is very
beneficial in Social Security. The rules are designed very much around helping
married couples.
Stipp: Let's just review, you already talked a bit about the divorce rules, but we
have a slide for folks, you mentioned collect on your ex. So, let's just review what
the rules are again so folks are clear. If you are divorced, when can you collect,
when can't you collect, and what do you need to really keep in mind about that?
Franklin: The first rule is you must have been married to the same spouse for atleast 10 years. Now, you could have been married three years, gotten divorced,
remarried the same person for seven years, that works. You're married at least 10
years to the same spouse; you're divorced and currently unmarried--that's the
other key. Then you can claim spousal benefits equal to half of the worker's full
retirement age benefit as early as age 62, but anytime you collect before age 66
and you're still working, you're going to lose some benefits to the earnings cap,
and you can't get fancy with your strategies.
But since so many divorced women have to keep working, if they wait unti l 66,
they can a file restricted claim for spousal benefits only, collect half of their ex's
benefit, and he doesn't even have to know about it. It doesn't take money awayfrom him. He could be remarried to another wife. It doesn't affect her. You still get
this benefit. And then wait until age 70 and collect your own benefit which at that
point is going to be worth 132% a year. And again remember spousal benefits are
50%, survivor benefits are 100%. If your ex dies you may be entitled to get a
survivor benefit, even if he is remarried worth 100% of what he was entitled to.
Stipp: So, these are very important things to keep in mind for folks who had been
married before. I think you covered some of these survivor benefit key topics that
you had listed. We had a few questions on survivor benefits from some of our
readers that we got when they were registering.
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So, Benny asks, "My wife's family lives a long time, often into their 90s. My wife
has been a housewife almost all her wife and she has almost no Social Security. I
am two years younger than my wife. How can I make sure we maximize our Social
Security for both before and after I am gone?" So, a lot of topics we have already
talked about could come into play here, but what would you suggest in a scenario
like this?
Franklin: Right. Now, it does get harder when the lower-earning spouse, often thewife, is older because she often has to wait for him to file to trigger her benefits. If
she had any work history of her own, she probably wants to go ahead and take it
at 62 even though it's reduced because she has got to step up to a survivor benefit
later. If she has no benefits on her own, she can't claim. She has nothing to claim
on. So, he might want to wait until he is 66, she would be 68 at that point, he
would file and suspend for the purpose of triggering her benefits. He would delay
collecting his own until age 70 when they are worth 132%. That way they have
this big chunk of money as a couple and whoever dies first whether it's a husband
or a wife, the largest benefit is going to survive, the smaller benefit will disappear.
So, it's a great strategy for couples.
Miller: Especially, when you have expectation of a great deal of longevity.
Stipp: Another question, we got a couple of questions like this as folks were
registering for the event. "My question is one of timing and benefits of taking
Social Security for both spouses. I am age 66 and my wife is 55. I plan to begin
taking Social Security at age 70. Her retirement benefit would be smaller than
mine at any of her ages 62, 66 or 70. Is there an effect to my spouse on when she
claims her Social Security benefit once I have passed? I have to assume that I may
or may not have passed by her ideal age to take Social Security."
Franklin: Good point that you raised because we keep talking about the early
retirement benefit at age 62, but it's different for survivors. Widows and widowers
can collect as early as age 60. So perhaps in this scenario, he has died, she can get
survivor benefits as early as age 60. Now, they will be reduced compared with
what they would have been at her normal retirement age, and again, we
mentioned earlier that retirement and survivor benefits are two different pots of
money. So depending on what her own benefit was, she could take survivor
benefits at age 60 until age 66 when her own retirement benefits could kick in at
the full benefits. There's lots of ways they can play around with that.
Miller: Could she then go back to survivor benefits at a later point or once you've
done that, you're done?
Franklin: Probably you would only do which would be higher.
Miller: Which would be higher, yeah.
Franklin: And the other thing to keep in mind is, if you collect benefits before 66,
and you're still working, you're going to lose money to the Earnings Test, and
maybe that's something we should talk about now. We keep referring to the
Earnings Test without explaining it. [Mark,] do you want to go into it?
Miller: Go ahead.
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Franklin: The Earnings Test says if you collect benefits before your normal
retirement age and continue to work--this is money from a job, not from
investments--in 2013 there's an earnings cap of $15,130 a year, I think. If you
earn more than that, basically you lose $1 in benefits for every $2 you earn over
the limit. Effectively that means if you earn more than $45,000 a year, all your
benefits go away. They're not gone forever. They're actually deferred. What
happens is, "I took benefits at 62. I kept working, I earned, and I've to give money
back." When I get to my normal retirement age, Social Security looks back at myrecord and said, "Well, you claimed at 62, but you gave back two years' worth." So,
it's really as if you claimed at 64, so you get a smaller haircut in benefits than you
would have otherwise.
Stipp: We have about five minutes left. We got a lot of other questions I'd like to
try to get to. Hopefully they will be a little bit easier and not quite as complicated
as all the scenarios, but we have a few questions on Social Security and Social
Security disability, and I think that there is some confusion here about these
benefits. So, one is, "I am 62 and receive Social Security disability payments.
When Social Security retirement benefit payments begin at age 66 will I receive
the same amount as my Social Security disability payment?"
Franklin: Yes. Basically, it's an accounting change. You get the same check; it's
just now called "retirement" rather than "disability."
Stipp: I think we touched on some of this before, when we were speaking of
taxation issues, but when again are Social Security benefits taxable? What tax do
you pay on them, and what should folks keep in mind about tax liabilities with
Social Security benefit?
Franklin: [Mark,] would you like to go into this?
Miller: I'm struggling remembering the number now; you probably have it at yourfingertips.
Franklin: Anyone who is single, whose provisional income, which I will explain in a
second, is above $25,000, some of their Social Security benefits will be taxed, and
for married couples, it's above $34,000 joint income. But it's not income the way
you normally think of it for taxes. It's all of your taxable income plus all of your
tax-exempt income like if you invest in municipal bonds, plus half of your Social
Security benefits. And when you add that together, if you're single and that adds
up to more than $25,000, some of your benefits are going to be taxed. If you're
married, if it's over $34,000, it would be taxed. There are two levels. Up to half of
your benefits could be taxed and then when you hit the second tier, 85% could betaxed. But if you look at it the other way, you're guaranteed that at least 15% of
your Social Security benefits will not be taxed under any circumstances compared
with taking money out of a traditional IRA where everything is taxed.
Miller: This gets more interesting as more people work longer. So, this is going to
become a more important issue, the same as Medicare, some of these things we
were talking about earlier with these high-income surcharges. So, work and
retirement is going to get to be a much more interesting and complex planning
topic.
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Franklin: And the other thing, this was a result of the big changes to Social
Security in 1983 when they taxed benefits for the first time, but those levels have
never been indexed for inflation. So, every year as people's incomes rise more and
more people are paying taxes on their Social Security benefits.
Miller: Another point here is that some states levy taxes on Social Security
benefits and some do not.
Franklin: Right. I think about 36 states do not tax Social Security benefits at this
point. So, when you're looking at where to retire, it's one of the things to think
about.
Miller: [Mary Beth,] you'd know this. States that do [tax], do they use the same
formula that you described the federal level?
Franklin: It's sort of all over the lot. Some use the federal income tax as the base
and some don't.
Miller: OK.
Stipp: So, when you were laying that out, you included investment income as part
of that calculation? We had a question about someone who had inherited a 401(k)
and has to take payments from that 401(k).
Franklin: That's taxable income.
Stipp: So, that will considered as in part of the calculation?
Franklin: Yes.
Miller: That's ordinary income.
Stipp: A question, an interesting one, "Does the spouse need to have a SocialSecurity number to get spousal benefits?" The spouse is on a dependent visa, the
question says. Do we know about how works?
Franklin: That's a really good question. I don't know the answer to be honest, and
rather than guess wrong, I'll just say I don't know.
Miller: We'll get back to you.
Stipp: And lastly, I think we have just about a minute left. Mary Beth, you
recently wrote about something called lump sum; the lump sum option in Social
Security, how does that work?
Franklin: Basically, once you've reached your normal retirement age of 66 and
you choose to delay at some point beyond that, when you start your benefits, you
can request up to six months of retroactive benefits as a lump sum. But you can't
double count. Let's say, if I were planning to start my benefits at 66 in six months,
and I say give me six months of a lump sum, they're going to calculate my future
benefits as if I claimed at age 66. So you can't do both. But some people like to
look at this as a bonus: "This is how I afford that trip to celebrate retirement."
Miller: Have you looked at how that decision would impact your future trajectory
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of income?
Franklin: Certainly, it's going to reduce your base amount compared with not
taking it, which of course will reduce the amount you get in cost-of-living
adjustments going forward. So, it's probably a feel-good upfront hit, but if you're
going to delay anyway, you might as well just get it for the rest of your li fe.
Stiff: Well, unfortunately, we're going to have to wrap it up and call it a day there.
I want to thank my panelists for, as last year, bringing some really great insightsand some really, really useful information on this very important topic. Social
Security income is going to be a hot topic for retirees for a long time to come.
So, Mary Beth Franklin from InvestmentNews; thanks for joining me. Mark Miller,
Morningstar columnist, author, and retirement expert, thanks for being here.
Miller: Thank you, Jason.
Franklin: Thanks a lot.
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