Social Security is a vital source of income for most seniors, but many do not understand how the program works. You owe it to yourself to research the program so you can make the best financial decisions.
Here are five important rules you absolutely need to know before making any big decisions regarding your retirement benefits.
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1. Your benefits shrink if you claim them early
The first and most important thing to know is that you can have your monthly Social Security permanently lowered depending on how old you are when you receive your first payment.
Look, you’ve been given a full retirement age (FRA) based on your year of birth. It’s between 66 and four months and 67 if you were born in 1956 or later. If you do not wait for FRA to start receiving benefits, you will be charged a monthly early filing penalty for each month prior to that age at which you receive Social Security benefits.
You can first claim Social Security at age 62, so you could potentially face fines for many months. The monthly fines add up over time, reducing the checks by 6.7% per year for each of the first three years of benefits coming before FRA. If you file a return even earlier, you will receive an additional 5% annual discount.
2. Your benefits increase if you claim them too late
Once you reach full retirement age, you should know that you still have the opportunity to grow your monthly Social Security income.
You can earn deferred filing credits worth 2/3 of 1% per month up to age 70. The effect of these credits is that your standard Social Security benefit increases by 8% per year.
If you’re hoping to take home the most Social Security money, you’ll want to wait a long time to get your first check.
3. Your benefits are calculated based on an employment history of 35 years
The benefit you would receive if you were to claim a benefit at retirement age is called your primary insurance amount (PIA). It is this PIA that is adjusted up or down by early filing penalties.
That means you also need to understand how your PIA is calculated to make informed choices about Social Security. This benefit amount is determined on the basis of a percentage of the average wage in the 35 years that your income was highest.
The Social Security Administration always takes into account a 35-year employment history. If you have fewer years in your job, you just have some years where your pay was $0, which are included in your average. On the other hand, if you manage to work for more than 35 years, some years in which you didn’t earn that much will not be part of your average and you can increase your benefits.
4. You may lose some benefits if you work before full retirement age
Once you decide to apply for benefits, you can assume that you can top up your Social Security checks by working. But choosing to take home a salary can affect your Social Security income if you have not yet reached full retirement age.
If you work before FRA, you will lose $1 for every $2 earned above $19,560 in 2022 if you don’t make an FRA at all during the year. Or you’ll lose $1 for every $3 earned over $51,960 this year if you hit FRA sometime in 2022, but work before that happens.
You will eventually see your check recalculated at FRA and raised to account for forfeited benefits. But you still need to know this rule or else your income could be lower than expected when it turns out you can’t double and earn as much as you want while taking home a Social Security check.
5. You can be taxed on your benefits
Finally, you should know that if you are a single taxpayer with a provisional income of more than $25,000 or a joint filer with a provisional income of more than $32,000, at least a portion of your Social Security benefit will be taxed. Provisional income is all taxable income, part of countable untaxed income, and half of your Social Security.
Understanding these rules is crucial so that you know when to claim benefits and be prepared for what will happen if you work or if your income exceeds a certain threshold. Now that you know the rules, you can make informed choices about one of your main sources of retirement income.