Retirement, like so many other aspects of our lives, is uncertain. The financial equation of retirement certainly lends itself to constant uncertainty because we do not know how long we are going to live, our health, future market returns, economic inflation or policy, or even personal events that change our trajectory. Will we be raising a grandchild? or be divorced or widowed? or suffer from a chronic health situation making it difficult to continue in the work we do? or rely on the premise of a large inheritance from a relative who defies the odds of longevity and uses those very same funds to pay for that?
There are 10,000 baby boomers retiring every day. What this tells us is that the U.S. population is aging, rapidly. As of 2022, only 24% of all Americans who have not yet retired today can expect to receive a guaranteed source of income in the form of an employer pension. The last of the Baby Boomers will be retiring over the next 6 years and the oldest of the Gen Xers will be on the cusp of leaving the workforce. Retirees need sustainable income streams from workplace retirement accounts, savings/investments accounts, inheritances or the sale of a business to carry them through their retirement years. These streams need to be coordinated with Social Security benefits. As a result, most soon-to-be retirees are seeking help in structuring their own pension-type streams, through Social Security benefit optimization and the use of lifetime income strategies. Seeking a seasoned CFP® can be the best place to find this help.
The decision a middle-income American individual or couple makes about claiming Social Security can be the most impactful single financial decision they face. Unlike decades in the past, deciding on the year to begin drawing Social Security benefits does not have to be the same year that one retires. According to a paper published by the NBER (National Bureau of Economic Research) in 2022, optimizing the choice of when to claim Social Security benefits can produce a 10% increase in the average worker’s lifetime income. Most are not aware that COLA (cost of living adjustments) are added to the calculation of one’s estimated monthly benefits from the year they turn age 62 on, to the year they begin claiming (which could be as late as age 70). The NEBR analysis found that virtually all workers ages 45 to 62 should wait until age 65 or beyond to start collecting Social Security, while more than nine in ten should wait until age 70. While no single claiming strategy fits all, maximizing social security benefits can improve the financial welfare of retirees; if not raise living standards by a good bit.
A break-even analysis is a simplified calculation that looks at the age one needs to attain, when total sum benefits received claimed at FRA (Full Retirement Age) meets the total sum benefits received had they been claimed earlier, before FRA.
Studies show that the Social Security system is designed so that individuals will receive approximately the same total dollar of benefits, regardless of the age they begin drawing benefits, upon reaching average life expectancy. Said another way: the present value of the sum total of benefits received early, upon reaching average life expectancy proves to be approximately the same amount one would have received, in total, had they begun claiming benefits later at FRA and reached average life expectancy.
This may lead people to quickly make the mistake of concluding “Well, then, there really is no benefit to holding off from claiming early”. Not true. This is a good example of why taking the advice of your neighbor is not wise; especially for middle-income earners.
Here is what most people miss: for it to turn our financially beneficial to draw benefits early (say age 62) one has to reach and live beyond “average life expectancy”. It is anyone’s guess as to how long each of us will live.
If one draws benefits early and passes away before reaching life expectancy, drawing early could have proven to be a financial advantage. If one lives a long life, say to age 90, living longer makes a higher benefit payment (from delayed claiming) much more valuable, during the years they need it the most. Because women live longer than men, delaying claiming provides a much higher benefit to women.
Many seniors today are taking great risk in their later years by retiring early, exiting the workforce and relying on a sharply reduced SS benefit to cover their monthly retirement expenses. At the same time, most people are not aware of the potential strain on their investment accounts if they pull out of their retirement accounts at the onset of retirement for the purpose of delaying claiming SS benefits. They do not know how to determine this.
A simplified Break-Even Analysis only considers the sum of a single stream of benefits (namely SS) beginning at a certain age. That is what makes it simplified. It is not able to answer the more important questions.
There can be a meaningful financial trade-off to receiving a reduced benefit early versus receiving a higher benefit in later years…..this is particularly so for those with higher incomes and assets. Bridging the gap between retirement and drawing Social Security, and doing this right, can result in greater retirement wealth and a more secure lifetime income position. Retirees who have different sources of income (starting/ending at different years early in their retirement) and access to robust cash or other investment savings upon retirement have much more flexibility in choosing the most optimal age to draw Social Security benefits. A retirement analysis prepared by a CFP® who uses a more sophisticated analysis tool is able to incorporate one’s annual income needs, consider all investment assets to be relied upon for future years, take into account other income sources and planned for withdrawals. …and reveal a clear determination of the most economically beneficial age to claim.
