- 3 Ways Social Security Penalizes Early Claimants
- If you claim benefits early, Social Security can penalize you three ways
- 1. A permanently reduced monthly payout
- 2. A potentially reduced or withheld payout via the retirement earnings test
- 3. A reduced survivor benefit for your loved ones
- Here are 3 great reasons to take Social Security benefits at 62
- 1. You can afford to
- 2. Your health is in bad shape
- 3. You have no other steady source of income
3 Ways Social Security Penalizes Early Claimants
When you retire, there's a very good chance that your Social Security income will become vital to making ends meet.
Social Security Administration data shows that 62% of current aged beneficiaries lean on their monthly check to comprise at least half of their income.
And while future retirees expect to be less reliant on the program, some 84% still intend to lean on Social Security in some capacity during retirement, according to an April 2018 Gallup survey.
With that being said, there's perhaps no decision that's more important to qualifying senior citizens than deciding when to claim their Social Security benefit. For those unfamiliar, benefits can begin at age 62, or at any point thereafter.
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If you claim benefits early, Social Security can penalize you three ways
Data culled from the Center for Retirement Research at Boston College finds that roughly 45% of claimants take their entitlement at age 62, with approximately 60% claiming between ages 62 and 64. Beyond these early claimants, close to 30% take benefits at either age 65 or 66, while the remaining roughly 10% take benefits between ages 67 and 70.
Though there are plenty of valid reasons for claiming Social Security benefits early, there are also three penalties that you should be aware of if you do so.
1. A permanently reduced monthly payout
The most front-and-center penalty for claiming benefits early — let's define “early” as any point prior to your full retirement age — is that it'll permanently reduce your monthly benefit.
As noted, benefits can begin at age 62. There is, however, a pretty big incentive to wait to begin taking your entitlement.
For each year an individual waits to take their benefit, it increases by approximately 8%, up until age 70.
Assuming we were looking at two identical individuals with the same income and work history, as well as birth year, the one claiming at age 70 could net up to 76% more per month than the one claiming at age 62.
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your full retirement age — the age at which you'll receive 100% of your retirement benefit, as determined by your birth year — this means claiming early can reduce your monthly take-home by as much as 25% to 30%, depending on your birth year.
For example, the Social Security Administration (SSA) notes that the average retired worker brought home $1,414.73 in July 2018. If an individual turning 62 in 2018 claims their payout as soon as possible, they would see a permanent reduction of 26.
7% relative to what would have been their full retirement age benefit. Assuming this was the average retired worker, we're talking about a monthly pay $1,037, or $12,444 a year.
That's more than a $4,500 annual reduction from what a person born in 1956 would receive if they'd waited to take their entitlement at their full retirement age of 66 years and four months.
Although waiting doesn't work for everyone, those claiming early need to understand the consequences of doing so.
2. A potentially reduced or withheld payout via the retirement earnings test
A second way your Social Security benefit could take a hit when claiming early is by being exposed to the retirement earnings test.
In its simplest form, the retirement earnings test allows the Social Security Administration to withhold some, or all, of your retired worker benefit if your income exceeds a certain level.
Please note that the retirement earnings test applies only to workers claiming benefits prior to their full retirement age (also known as “normal retirement age” by the SSA).
If you've claimed early and reached or surpassed your full retirement age, or simply waited until later to claim benefits, then the retirement earnings test has no bearing on you.
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If an individual won't reach their full retirement age in 2018, $1 in benefits will be withheld for every $2 in earnings above $17,040. Thus, an individual who wishes to continue working but also claim benefits at age 62 may not be able to double dip and receive both sources of income. If you earn too much, the SSA may just withhold some, or all, of your benefit.
For individuals who will be hitting their full retirement age in 2018 but have yet to do so, the SSA can withhold $1 in benefits for every $3 in earnings above $45,360.
If there is a silver lining here, it's not as if the withheld benefits are forfeited or lost forever. You'll get them back once you hit your full retirement age in the form of a higher monthly payout.
3. A reduced survivor benefit for your loved ones
Lastly, early claimants can be indirectly hurt since their enrollment could impact the earning potential of their loved ones.
If you're single and have no young children, then your claiming decision really is all about you. But if you have a wife or husband and/or school-age children, then your claiming decision becomes a little more complicated — especially if you're the income breadwinner of the household.
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You see, if you happen to pass away prior to your spouse, the survivor benefit that your spouse may receive as a result of your earning and work history could be reduced if you claimed benefits prior to reaching your full retirement age. The SSA bases the surviving recipients' payout on what the deceased worker was receiving each month. Or in simpler terms, claiming early could mean putting your loved ones on shakier financial footing after you're gone.
To reiterate, claiming early does make sense for some retired workers. But if you're going to take your benefit before reaching your full retirement age, you need to fully understand the consequences.
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Here are 3 great reasons to take Social Security benefits at 62
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In the ever-popular “when to claim Social Security” debate, you'll often hear age 62 tossed around as a viable option. That's the earliest age seniors can file for benefits, though claiming them at that point means reducing them in the process.
Here's a quick refresher on how those benefits are calculated.
The Social Security Administration (SSA) takes your average wages over your 35 highest-paid years in the workforce and adjusts them for inflation.
Then, a special formula is applied to what's known as your AIME, or average indexed monthly earnings, to determine how much money you'll be eligible to collect at full retirement age, or FRA.
FRA isn't the same for everyone; it's a function of your year of birth. Anyone born in 1960 or later has an FRA of 67. If you were born from 1943 to 1954, your FRA is 66.
If you were born after 1954 but before 1960, it's 66 and a certain number of months. Filing at 62 therefore means claiming benefits early, so if you choose to go that route, the SSA will reduce your benefits by 6.
67% a year for the first 36 months you file ahead of FRA, then by 5% a year for each 12-month period thereafter.
This means that if your FRA is 67 and you file at 62, you lose 30% of your benefits, and usually on a lifelong basis. The only way that reduction won't be permanent is if you undo your benefits by withdrawing your application within 12 months and paying back the SSA every dollar it paid you.
Clearly, a 30% reduction in benefits is serious business, especially for those coming into retirement with little savings or outside income of their own. As such, you'd think filing for Social Security at 62 would be a terrible idea. But under the right circumstances, it can be a very smart move. Here are three such examples.
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1. You can afford to
If you plan to rely on Social Security as your primary source of retirement income, a massive reduction in benefits could be catastrophic.
If you enter retirement with plenty of savings and expect to work in some capacity to continue generating income, filing at 62 could make a lot of sense.
Those benefits could give you the option to travel, start a business or meet any number of goals you'd rather achieve early in retirement. If you can afford to take a hit on your benefits, you might as well enjoy them when you want to.
2. Your health is in bad shape
Social Security is supposed to pay you the same lifetime total regardless of when you initially claim benefits. Here's the logic: Filing early will reduce your benefits on a monthly basis, but you'll collect a larger number of individual payments. Filing at FRA means you'll get your full benefit, but fewer individual payments.
Things should even out if you live an average lifespan. If you pass away sooner than the typical senior, you could lose out on lifetime Social Security income by waiting to file.
Imagine you're entitled to $1,500 a month in benefits at your FRA of 67. Filing at 62 will reduce each payment you get to $1,050, but you'll collect 60 more payments. You'll break even in both filing scenarios if you live just past 78 1/2. If you pass away at 72, you'll come out $36,000 ahead in your lifetime by virtue of having filed early.
That's why your health should be a major factor in determining when you claim benefits. If it's poor, and you're unly to live a long life, filing for Social Security at the earliest possible age of 62 often makes sense.
3. You have no other steady source of income
If you reach age 62 and are let go from your job, you may have no choice but to file for benefits in the absence of outside income to pay your bills.
Granted, you do have the option to charge expenses temporarily on a credit card while you look for new work or to take out another type of loan. But doing so is risky, because unfortunately, finding a job can be difficult when you're older, what with age discrimination rampant in the workforce.
The longer you carry any sort of debt, the more interest you accrue on it. A better bet may be to file for Social Security as soon as you can to get your hands on the money you need to keep functioning.
That way, you'll avoid debt, and if you do find a job shortly after claiming benefits early, you can undo them as discussed earlier and file again later to avoid a lifelong reduction.
Many seniors file for Social Security at 62 simply because they can. Although that's a decision that can backfire, there's nothing wrong with claiming benefits at 62 if you have a well-thought-out reason for doing so.
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