If you ask your 60-something-year-old clients what financial wisdom they wish to pass on to their children and grandchildren, chances are the “benefits of delayed gratification” is near the top of the list. “Kids these days have to have everything right now!” they will lament, as you “tsk, tsk” in agreement.
Of course, when provided the opportunity to walk the walk by postponing delivery of their Social Security checks, many of these same seniors share their offspring's preference for a lone bird in the hand — no matter how many are in the bush. Government figures say almost three-quarters of retirees take benefits before reaching “normal” retirement age. (Starting with taxpayers born after 1937, the government has been raising “normal” retirement age; for those born after 1943, it is 66 and will rise to 67 for people born in 1960 or later.)
Given the prevalence of headlines predicting the imminent demise of the program, the urge to take the money today is understandable. But for clients with longer life expectancies and multiple sources of retirement income, delaying Social Security payments can provide a gain far greater than the pain of postponement. Here are three reasons why waiting can be worthwhile.
Live Longer and Prosper
The Social Security Administration takes a carrot-and-stick approach to encourage people to delay taking benefits. Beneficiaries who initiate payments at 62 receive monthly checks that are about 25 percent less than what they would have received had they waited until “full” retirement age. Those who hold off until age 70 get about 32 percent more per month than what they would have received if they had started taking payments at full retirement age.
In other words, a retiree who takes his first check at 70 will receive around 75 percent more per month than he would have gotten if he had initiated payments at 62. And this gap may be even larger if the early retiree works while collecting Social Security. In 2006, if a Social Security recipient earns more than $12,480 from a job and is below full retirement age, he will lose a dollar in benefits for every two earned above $12,480.
“Ah,” you say. “But from 62 to 70, the early recipient is at least getting money to spend and/or invest, while the ‘delayer’ gets nothing!” (Very perceptive of you.) It does take several years of larger, deferred payments to catch up to what would have been received starting at age 62. Let's say your client is born in 1943, and has the following options:
| Age | Monthly check |
|---|---|
| 62 | $960 |
| 66* | $1,281 |
| 70 | $1,690 |
| *full retirement age | |
If your client delayed taking Social Security until 66, he would have to live to be 77 years and 11 months before he would break even with payments taken at 62. And if he waits until age 70 to start his checks, he would have to make it to 80 years and six months to beat what he would have received starting at 62 (you can find this example and a nifty “breakeven” calculator at the Social Security Web site: www.ssa.gov/retire2/breakeven-example.htm).
Then There Are the Taxes
Many retirees are surprised to find out that their Social Security benefits can easily be taxed:
| Filing status | Combined income** | % of SS that could be taxed |
|---|---|---|
| Individual | $25,000 to $34,000 | 50% |
| Individual | $34,000 and up | 85% |
| Joint | $32,000 to $44,000 | 50% |
| Joint | $44,000 and up | 85% |
| **Combined income = AGI + Nontaxable interest + 1/2 Social Security payments | ||
| Source: www.ssa.gov | ||
But your clients may be able to reduce their overall tax bill during retirement without cutting their net income. First, they have to delay taking benefits, choosing instead to rely on any other available pension, interest/dividends and retirement-plan withdrawals. Once they begin drawing (a now larger) Social Security check, the amount of income needed — and available — from the other sources will be lower, keeping them in a lower tax bracket and making it less likely that their benefits will be subject to taxation.
A Compromise
If you're still having trouble convincing your clients that it pays to wait for their benefits, there's a way they can have some of their Social Security and delay it, too. The strategy gives them a way to “game” the system.
Say you have a retiring couple in their early 60s. He was the primary breadwinner for the last 40 years, while she either stayed home with the kids or worked part time. His only choice on Social Security is “when to take it.” She, however, can choose when to take her check and opt for either benefits based on her earnings history or half of his payment (known as the “spousal benefit”).
Depending on their particular numbers, it may make sense for her to choose the higher-paying option now, while he delays his until he hits 70. Presuming he precedes her in death (sorry fellas, but it's the most likely scenario), she can then choose to continue taking her own benefit or get the delayed-and-therefore-higher spousal benefit — whichever is greater. Here's a hypothetical case from a white paper at www.incomebridge.com (see below):
| Both collect at 62 He dies at 62 | She collects at 62 He delays until 70 He dies at 82 | |
|---|---|---|
| Initial benefit for husband | $12,000 | $26,172 |
| Initial benefit for wife | $12,000 | $12,000 |
| Benefit that will continue for surviving spouse | $20,000 | $36,444 |
The example presented is hypothetical and for illustrative purposes only. It assumes the death of the husband in 20 years at age 82. Cost-of-living adjustments are projected using Social Security Administration projections as of January 2006.
Many clients on the cusp of retirement are particularly fond of the “security” part of their Social Security. You may be more successful at convincing them to delay taking benefits if you can come up with a reliable alternative. An obvious solution would be to replace postponed payments with an immediate annuity that stops when the Social Security checks start.
Prudential Financial is taking this concept one step further with its Income Bridge Annuity product (which I do sell). James Mahaney, vice president of retirement-income solutions at the company, says that his specialized calculations will help retirees understand the benefit of taking out an immediate annuity now and leaving Social Security for later. He and co-creator Peter Carlson are even attempting to patent the system.
The Income Bridge is not widely available yet, although Mahaney says advisors may soon be able to offer the product on a fee-based platform. But in the meantime you can study up on it (and pore through a plethora of information on maximizing Social Security) at www.incomebridge.com.
Writer's BIO: Kevin McKinley is a CFP and vice president of investments at a regional brokerage and author of Make Your Kid a Millionaire — 11 Easy Ways Anyone Can Secure a Child's Financial Future. kevinmckinley.com