Everyone seems to know that Social Security is a retiree benefit. Anyone 55 or older today, who is not wealthy, generally counts on these benefits to assist with retirement – even if worried whether Social Security will still be around when s/he retires.
Counting on benefits and knowing how they work, however, is another thing. For example, most may know that a person may claim benefits at age 62 for a lesser amount compared to getting benefits at age 66. The difficulty is that many claimants are unaware of how much less it will be and what the consequences are for retirement income. For surviving spouses and divorcees facing a reduced income, it is essential that they understand the options for when and how to claim their benefits.
Divorcees and surviving spouses often struggle financially. In either case, their income is usually reduced and their lifestyle has probably not changed. 80% of widows living in poverty were not poor when their husbands were living (LIMRA International, 2005). Social Security, often the only fixed income source, becomes an essential planning tool that typically is overlooked. Yet, this is the only income source most retirees can count on for their lifetime. This article touches on some of the ways a divorcee or surviving spouse can maximize Social Security benefits.
Social Security became law at a time women were generally not in the work force. When their husbands died, it left most women in serious financial straits. To provide a measure of financial security in old age, Congress provided spousal benefits equaling one-half of their husband’s worker benefit. Fortunately, Social Security benefits are gender neutral. Any benefit applying to a woman, applies equally to a man.
Three major Social Security benefits apply to retirees. We start with lifetime benefits. Until the structure is changed, Social Security benefits last a person’s entire lifetime. While it may replace only 25 – 33% of a retiree’s needed income, it represents a sizable income component. Suppose your benefit is $2,000 at the start of retirement. If you live just 10 more years, you will receive $304,256 in lifetime benefits. Because annual payment increases are compounded, the benefit more than doubles in 20 years to $673,256, and reaches almost $1.2 million if you live 30 years. That is far more than the $74,900 average 401(k) balance in 2011 (Bloomberg, 05/11/2011).
The second benefit is inflation protection. Unlike most remaining company pension plans, Social Security has an inflation protection mechanism. Social Security benefits generally increase annually based on a Cost Of Living Adjustment (COLA) calculation. The intermediate cost scenario done by the Social Security Trust Administration forecasts an annual increase averaging 2.8% through 2085. While we cannot be sure what the actual yearly increases will be, it is a fair number to use based on historical data. With a 2.8% COLA, the $2000 monthly benefit discussed above will be worth $2,636 in 10 years and $3,474 in 20 years.
Survivor benefits comprise the third retiree benefit. When a spouse dies, the surviving spouse and dependent children may receive benefits based on a deceased spouse’s work record.
The average age for new widows is 56. Thus there are many younger widows and many have young children. Survivor benefits are especially important for families with young children if a breadwinner dies. However, they are keenly important for retirees, too, as they represent the largest group of spousal survivors. (The definition of a spousal survivor is someone who has been married to a person of the opposite sex. At this time, the Federal government only recognizes marriages between a man and a woman.)
If a deceased spouse qualifies for a higher benefit than the surviving spouse, the survivor’s benefit will be increased to equal that of the deceased partner. For example, if the deceased spouse was eligible for a $2,000 benefit and the surviving spouse qualifies for $1,200 per month, the surviving spouse’s benefit becomes $2,000. To most surviving spouses, eight hundred dollars a month is a meaningful sum.
Effective survivor planning must include Social Security. Most surviving spouses need at least two-thirds of the income enjoyed when they were part of a couple. When one person dies, the survivor experiences an important income loss, even when it is the smaller check that is lost. Survivor planning and Social Security benefit planning should be part of an overall retirement plan.
What if a person is divorced at the time an ex-spouse dies? If a marriage has lasted at least 10 years, a divorced person has two work records to consider – his and hers. Most divorcees are unaware the ex-spouse’s work record could serve them, too. In fact, multiple exes of the same person may participate in a Social Security benefit. The ex’s own benefit is not affected one penny. Nor is the benefit diminished for the current spouse. As an additional plus, the ex-spouse need not die for the divorcee to receive benefits. Many divorcees find it quite helpful that the ex-spouse need never know they are claiming benefits on the ex’s work record.
Rules for Receiving Benefits as a Divorcee or Surviving Spouse
There are a few simple rules for receiving benefits as a divorcee or surviving spouse. S/he must have been married for 10 years to the same person and must not be remarried. If a remarriage occurs, the benefit stops.
For either a surviving spouse or divorcee, the survivor must be at least 60, or 50 if disabled. If the survivor applies for benefits prior to the survivor reaching full retirement age, benefits will be reduced.
A key planning consideration is determining when to apply for benefits. Should s/he take early benefits? Can s/he afford to wait? As importantly, on whose work record should the divorcee or surviving spouse claim benefits? To determine answers to these questions requires a complex set of analyses based on factors such as whether the claimant is working, relative benefits derived from a spouse’s work record, personal health status and the availability of other income sources.
There are, however, some general observations that may influence one’s decision to claim benefits. Taking early benefits can decrease a benefit by 25 – 30%. This loss is not erased when a person reaches full retirement age. It is carried throughout one’s lifetime. COLA adjustments apply – but on a smaller benefit base.
For persons born between 1943 and 1954, waiting until age 70 to take benefits increases the payout by 32%. If it is possible to wait, then the income realized is substantially higher. A $2,230 monthly benefit at age 66 will increase to $2,943 at age 70. Not everyone can delay this long, either due to financial considerations or health concerns. Nonetheless, it should be part of the discussion of not only when to take benefits, but also how to make any delay work financially. When considering survivor benefits, delayed benefits can have a significant impact on the survivor’s quality of life.
Is it worth the wait? We have seen that the benefit check is higher. What about all those missed checks? Wouldn’t it be better to take benefits early? The answer is highly individual. On average, the breakeven point – the point where waiting for benefits exceeds the benefit of taking benefits early – is about age 77 or 78. If you believe you will live longer than the breakeven point it can be worth waiting.
Underlying this discussion is the point there is not one benefit available, but many. For couples engaged in survivor planning as part of their retirement strategy, there are ways to increase the family income and certainly the future survivor’s benefits. For divorcees, options exist for which work record to use and when to use it. These choices can also increase income.
The Social Security Administration is not prepared to help claimants determine the strategy that best serves the persons receiving benefits. Their job is to provide the highest benefit on the day the claimant applies. The highest benefit is based only on the work record the claimant intends to use – her own, her deceased spouse’s or the ex-spouse’s record. The claiming strategy needs to be determined before applying for benefits. Optimally, five years prior to retirement future retirees will seek financial counsel that includes Social Security planning. This gives time not only to build a strategy, but to implement it, too. Because Social Security is given short shrift, most people do not begin the planning process at the optimal time, if at all. The last day to put a Social Security strategy in place is the day before applying for benefits. After benefits are granted, making changes is difficult and not assured.
Ora R Citron, MBA, Financial Consultant, Oak Tree Wealth Management, 3189 Danville Blvd., Alamo, CA 94507. 925-314-8100. Ora Citron is a registered representative with and securities offered through LPL Financial, Member FINRA/SIPC.
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