From a distance, Social Security seems like a pretty simple program. You pay into the system while you work. Then, as soon as you retire, you will collect this. While that’s generally true, the specific way it’s designed means you have some flexibility in how you collect it and how you use the money in your retirement plan.
With that in mind, there are several strategies you can use with Social Security to help fund your retirement. However, some of them require advance planning, so it’s best to get started well before you’re ready to collect. These three strategies should give you some great ideas on how to use Social Security as part of a bigger plan.
No. 1: The default setting: take the money and spend it
If you don’t do a lot of planning, pretty much standard, you’ll end up filing a Social Security claim to spend the money that comes in. While that’s a perfectly acceptable use of the money, it can also be extremely limiting. The average retiree currently receives about $1,671 a month from Social Security.
If that’s enough to cover your lifestyle, congratulations, you’ll probably be fine. It is enough to keep one person above the poverty line in all 50 states. As long as you don’t have high base costs or expect a particularly lavish lifestyle, that may be enough to get through your retirement.
Of course, Social Security was never intended to be the sole source of your retirement money. So if you have a way to get another source of money, better Social Security strategies may start to become available to you.
No. 2: Postpone filing and increase your monthly income throughout your life
You have a choice when you start collecting your Social Security. You can start your payments anytime as soon as you turn 62, and the longer you wait — until age 70 — the higher your monthly benefit will be. This helps in two ways.
First, as long as the program’s trust funds last, Social Security payments provide a guaranteed source of income for the beneficiaries. Even if those trust funds are empty and nothing else changes, the program expects to pay out about 75% of what the recipients expect.
Second, Social Security offers its recipients an annual inflation adjustment based on their previous benefit level. The higher your monthly benefit, the greater the absolute dollar boost you will get from that inflation adjustment.
The trade-off, of course, is that the longer you wait to collect Social Security, the longer you’ll have to work or the more early retirement costs you’ll have to cover from your other finances. In addition, if you end up with a shorter-than-average lifespan, deferring your claim may cause you to receive less money over your lifetime than you originally hoped.
No. 3: Submit early and use the money to help with Roth IRA conversions
If you have a decent balance in your traditional retirement accounts, then power want to get some of that money into a Roth IRA before you reach age 72. This is because once you are 72, you are subject to the required minimum distributions from most of your retirement accounts, but not your Roth IRAs. In addition, once the money is in your Roth IRA, it can be compounded tax-free for the rest of your life and passed on to your heirs in a more tax-efficient way than a traditional retirement account.
The challenge with a Roth IRA conversion is that you have to pay taxes on the money you convert. If you can pay those conversion taxes from a cash source Outside from your IRA itself, you can make so much more work for you in that tax- and RMD-free Roth IRA. As a result, withdrawing your Social Security money early and using it to cover your Roth IRA conversion taxes is a great way to get more money into your Roth IRA earlier in retirement.
Again, there are trade-offs. First, by taking your Social Security early, your monthly benefit will be lower than if you had deferred your payments. Second, there is a five-year waiting period after you first fund a Roth IRA (directly or through conversions) before you can tap your earnings tax-free if you plan to spend them. As a result, it helps if you have a pre-existing Roth IRA or if you can be sure you won’t have to tap the account until five years have passed.
The choice is yours if you plan ahead
If you plan ahead, you can choose to simply spend your Social Security benefits, try to maximize it by deferring your claim, or use it to increase the amount you can keep from your Roth IRA conversions. Whatever choice you make, the sooner you get started with your end-to-end retirement plan, the better your chances of success. So get started now and maximize your ability to use Social Security to fund your retirement.
The $18,984 Social Security Bonus Most Retirees Completely Overlook
If you’re like most Americans, you’re a few years (or more) behind on your retirement savings. But a handful of little-known “Social Security secrets” can give your retirement income a boost. For example, one simple trick could save you as much as $18,984…a year! Once you know how to maximize your Social Security benefits, we think you can retire with confidence with the peace of mind we all strive for. Click here to learn how to learn more about these strategies.
Chuck Saletta has no position in any of the listed stocks. The Motley Fool has no position in any of the listed stocks. The Motley Fool has a disclosure policy.