If you’re like most Americans, you’ll one day claim Social Security retirement benefits, if you haven’t already. These are benefits earned and maximizing the amount can be critical to your financial security in retirement.
That’s why it’s so important for everyone to understand these four important rules that apply to the Social Security program.
1. What is your full retirement age and how a claim before or after affects benefits?
One of the most important rules to be aware of is the regulation that determines when you receive your standard retirement benefit.
The Social Security Administration sets a full retirement age (FRA) for everyone. It used to be 65, but now it depends on your year of birth and is between 66 and 2 months and 67. And when you apply against your FRA, it is very important in determining the amount of your monthly pension benefit.
- If you qualify with FRA, you will receive your standard benefit.
- If you apply before FRA (you qualify at age 62), benefits will be reduced by 5/9 of 1% per month for the first 36 months. This results in an annual decline of 6.7% for each of the first three years.
- If you file more than 36 months before FRA, the benefit will be reduced by 5/12 of 1% per month for each additional month. This results in an additional payment reduction of 5% per year.
- If you file a tax return after FRA, you will receive a benefit increase of 2/3 of 1% per month until the age of 70. This equates to an annual benefit increase of 8%.
Retiring before FRA can lead to a benefit of as much as 30% if you start checking at 62 when your FRA is 67. In contrast, waiting from age 67 to 70 can increase your checks by 24%. It’s easy to see why knowing this rule is so essential, so take a look at the table below to see what your FRA is.
|If you were born in:||Your full retirement age is:|
|1955||66 and 2 months|
|1956||66 and 4 months|
|1957||66 and 6 months|
|1958||66 and 8 months|
|1959||66 and 10 months|
|1960 or later||67|
2. The Social Security formula that determines your benefit
Speaking of your standard benefit, you also need to know how it is determined. It is based on a percentage of the average wage during your 35 highest earning years. This average is called your average indexed monthly earnings or AIME. In concrete terms, your benefit is equal to:
- 90% of AIME to a first inflection point
- 32% of AIME between a first and second inflection point
- 15% of AIME above the second inflection point
The inflections are income thresholds, and the ones that matter to you are those that are in effect when you turn 62. In 2021, the first inflection point is $996 and the second is $6,002. Your inflection points will differ if you turn 62 in a different year.
Knowing this formula is especially important because you need to know that working less than 35 years lowers your AIME and thus lowers your average benefit. And working longer Over the age of 35 your AIME can increase if you earn more later in life and so can replace some lower income years with higher ones in the AIME calculation.
3. When you are entitled to a partner’s or survivor’s benefit
Spouse and survivor benefits may be worth more than your own retirement income if you didn’t earn much or didn’t work enough to earn Social Security on your own. But you need to know when you are entitled to it.
If you are married when you retire or when your spouse dies, survivor or partner benefits are obviously an option for you. However, you can also receive these allowances if you have been divorced after at least 10 years of marriage and you have either not remarried (in the case of spousal maintenance) or did not remarry before the age of 60 (in the case of a survivor benefit). .
4. Which tax rules apply to social security?
Finally, you need to know what taxes (if any) are being deducted from your distributions. At the federal level:
- Up to 50% of your distributions are subject to tax if your provisional income is $25,000 to $34,000 as a single filing or $32,000 to $44,000 as a married joint filing.
- Up to 85% of your distributions are subject to tax if your provisional income exceeds $34,000 as a single filing or $44,000 as a married joint filing.
Provisional income is all taxable income, plus half of your Social Security benefit, plus some non-taxable income such as interest earned on municipal bonds. If you are concerned, you are subject to these taxes. Investing in a Roth IRA rather than a traditional one can help you avoid them, as Roth distributions don’t count as provisional income.
At the state level, you don’t have to worry about taxes on benefits regardless of income if you live in one of the 37 states that don’t tax Social Security. In the remaining 13, you’ll need to know your state’s rules to see if you’ll lose some of your retirement benefits to local taxes.
Understanding all of these rules will help you make an informed choice about maximizing your benefits and get a better idea of how much you can keep after tax. This way you are much better prepared for your retirement.