Archives for November 2012

A reader writes in, asking:

“I am 66 years old and if I took SS now, my monthly benefit would be $2,241. I’ve read on the SSA website that there’s a maximum benefit for 2012 of $2,513. If I wait to take my benefit, will I hit the limit before 70?”

In short, no, you will not hit a maximum benefit limit as a result of waiting to claim your Social Security retirement benefit.

The maximum benefit figure you see on the SSA website is not really a maximum benefit. Rather, it’s a maximum primary insurance amount. That is, it’s the maximum retirement benefit a person could receive if he/she claimed that benefit in 2012 at his/her full retirement age.

If a person’s primary insurance amount was already at the maximum level, then she waited four years (from her full retirement age of 66 until age 70) to claim that benefit, the amount she would receive per month would be 32% greater than the $2,513 maximum benefit figure provided on the website.

Why Is There a Maximum Primary Insurance Amount?

The fact that there’s a maximum primary insurance amount isn’t the result of a separate rule specifically imposing a maximum. Rather, it’s a result of the fact that, each year, there’s a maximum amount of earnings that are subject to Social Security taxes (e.g., $110,100 for 2012). In other words, the $2,513 figure for 2012 is simply the primary insurance amount that you would have if you had earned (at least) the maximum amount subject to Social Security tax for the last 35 years.

Earlier this month, I attended a CPA continuing education course about Social Security. I was surprised to find the following statement in the course’s text*:

“The most overlooked benefit in two-earner situations is the possibility of both spouses electing a spousal benefit. This requires each spouse to have claimed his or her own retirement benefit so the other can claim the spousal benefit.”

The book then provides an example:

“Jack and Jill are both 66. Jack has a PIA of $2,500, Jill a PIA of $2,000. [Mike’s note: “PIA” stands for “primary insurance amount,” and it refers to the size of your retirement benefit if you claimed it precisely at your full retirement age.] Jill can claim and suspend yet receive a spousal benefit of $1,250. Jack can claim and suspend and claim a spousal benefit of $1,000.”

The book then explains that each spouse can thereby allow his/her own retirement benefit to continue growing until age 70, at which point they can ask to have payments unsuspended.

Unfortunately, this strategy doesn’t work. And by trying to implement it, the couple could lose out on $60,000 of benefits that they could have collected between age 66 and 70 if just one spouse (ideally, Jack) had filed and suspended while the other spouse had filed a restricted application (for just spousal benefits) at full retirement age.

Why This Strategy Doesn’t Work

The reason the strategy proposed above does not work is that you cannot collect a spousal benefit if you are “entitled” to a retirement benefit or disability benefit and your primary insurance amount is greater than 50% of your spouse’s primary insurance amount.

To be “entitled” to a benefit in the way the Code of Federal Regulations uses the term, you must have filed for the benefit. And, after you have filed, even if you ask to have payments suspended, you are still “entitled” to that benefit (even though you will not be receiving the actual payments).

So, in the book’s example of Jack and Jill, both spouses — having filed for their retirement benefits — would be entitled to a retirement benefit that is based on a PIA that’s greater than 50% of their spouse’s PIA. As a result, neither spouse would be eligible to receive a spousal benefit.

In contrast, if you haven’t filed for your own retirement benefit (and you’ve reached your full retirement age), it’s possible to file a restricted application for just spousal benefits, while allowing your own benefit to grow. In other words, in the book’s example, if only one spouse had filed and suspended, the other spouse would be able to file a restricted application for just spousal benefits — thereby allowing both retirement benefits to grow until age 70 while one spouse receives a spousal benefit in the meantime.

*I’m intentionally omitting the name of the course provider and the book. My goal is not to criticize but simply to make sure that people know not to try this strategy.

This week I came across a recent survey by Wells Fargo which found (among other things) that when middle class Americans were asked how much savings they would need in order to support themselves in retirement, the median reply was just $300,000. That’s a much lower savings target than you typically hear discussed in financial media. And the press release about the survey sure seemed to indicate that the figure wasn’t high enough.

But just what kind of lifestyle can $300,000 of retirement savings support? I suspect it’s a higher standard of living than much of the financial services industry would have you believe.

What Level of Income Could We Expect?

With $300,000 in savings, if we assume a withdrawal rate of 4% per year, we get just $12,000 of annual spending. Fortunately, personal savings is not the sole source of income for most retirees.

As of 2012, the average monthly Social Security benefit for a retired worker is $1,230. In the case of a married couple, we can add $615 (half of $1,230) to account for a spousal benefit. (Of course, for unmarried people, there would be no second benefit. On the other hand, in a married couple in which both spouses worked, the total benefit would likely be higher.)

When we multiply the sum of those two monthly benefits by 12, we get a total of $22,140 in annual Social Security benefits.

$22,140 of Social Security, plus $12,000 in spending from savings gives us $34,140 of annual income.

And It’s Probably Tax-Free

Unlike the wage income and self-employment income that most people earn throughout their working years, Social Security benefits and investment income are not subject to payroll taxes.

In addition, at that income level, none of the Social Security benefits would be included as taxable income for federal income tax purposes. And the $12,000 of spending from savings — even if we assume it’s coming entirely from tax-deferred accounts — would be free of federal income tax as well because it would not exceed the standard deduction and personal exemptions.

How Far Does $34,000 Go?

Admittedly, given the high price of medical expenses and other day-to-day costs, $34,000 of income for a married couple doesn’t leave a lot of room in the budget for taking the family on cruises around the world — even if the $34,000 is tax-free.

On the other hand, it’s not poverty either, especially when we account for the facts that:

1. There’s no need to carve a piece of that income out for retirement savings, and
2. Many retirees (roughly 53% of U.S. citizens age 65 or older, as of 2009 [1][2]) own their homes and carry no mortgage debt.

There’s Still Cause for Concern

In my opinion, the primary cause for concern here isn’t that the $300,000 goal is too low. The bigger problems are that:

1. Many savers won’t meet that goal due to insufficient savings rates, poor investment decisions, and unplanned early retirements, and
2. Many retirees — even if they do meet their savings goals — will spend from their savings at too high a rate. (According to the study, when asked what percentage of their savings they expect to withdraw annually in retirement, the median answer was 10%.)