Given the important role Social Security will eventually play in so many future retirees’ lives, you’d think more people would have a basic knowledge of how the program works. But recently, as many as 72% of Americans could not pass a basic quiz on Social Security. That lack of knowledge, however, could end up costing today’s workers an untold amount of money in retirement — money they can’t afford to pass up. With that in mind, here are a few basic Social Security rules you should know about, as they’ll help guide you toward the right filing decision when it’s your turn to take benefits.
1. Benefits are earnings-based
Not all recipients collect the same amount of money from Social Security each month. Though there is a minimum and a maximum benefit, your monthly payments are calculated based on your 35 highest years of earnings. This means that if you don’t have 35 years of earnings on record, you’ll have a $0 factored in for each year you went without earning money. That’s why it’s often a good idea to work longer if you’re nearing retirement but are missing a few of those 35 working years. Replacing a $0 with an actual salary could boost your monthly payments, thus ensuring a higher income stream throughout retirement.
2. But the age at which you first file for benefits can cause your payments to change
Although your earnings history is used to establish your monthly benefit amount, that number can change based on when you first file for Social Security. You’re eligible for your full monthly benefit upon reaching full retirement age, which, depending on your year of birth, is either 66, 67, or 66 and a certain number of months. You’re not required, however, to file for benefits at your precise full retirement age. Rather, you get an eight-year window to sign up that begins at age 62 and closes at 70.
Because 62 is the earliest possible age to claim benefits, it’s been the most popular filing age in recent years. But you should know that if you take benefits before full retirement age, you’ll lower them in the process. Now the extent of that reduction will depend on how early you file, but if you’re looking at a full retirement age of 67 and you file at 62, your benefits will get cut by 30%. And that’s a lot of money to forgo on a monthly basis throughout retirement. On the other hand, if you hold off on filing past full retirement age, you’ll boost your benefits by 8% a year up until age 70.
Of course, there are plenty of different filing scenarios you might play around with before deciding when to pull the trigger on benefits. Just be sure you understand the implications of taking benefits at various ages.
3. You’ll get the same lifetime payout regardless of when you file — but only if you live an average life expectancy
The interesting thing about Social Security is that it’s technically designed to pay you the same total lifetime benefit regardless of when you initially file. How is that possible? The logic is that filing early will reduce your benefits, but you’ll collect more individual payments. Filing after full retirement age will boost your benefits, but you’ll get a smaller number of payments in your lifetime. This formula, however, assumes you’ll live an average life expectancy, so if your health isn’t great, it generally pays to file for Social Security as early as possible to get the highest lifetime payout.
Here’s an example. Imagine you’re entitled to a $1,500 monthly benefit at age 67, only you file at 62 and reduce that number to $1,050. You’ll lose out on $450 of income a month in retirement, which is a lot, but if you end up living until just over 78-1/2, you’ll come out with roughly $209,000 in total lifetime benefits, which is the same amount you would’ve gotten by filing initially at 67. If you pass away at 76, however, you’ll lose out on over $14,000 in your lifetime by waiting until 67.
And that’s why your health should probably be the single greatest factor you consider when choosing a filing age — because even if you don’t have much savings and want to boost your benefits as much as possible to compensate, at the end of the day, if you don’t expect to live very long, you won’t be doing yourself any favors by holding off on benefits. And the opposite is also true — if your health is fantastic and you think you’ll well outlive the average retiree, waiting as long as possible to claim benefits will generally result in the highest lifetime payout.
Social Security certainly comes with its fair share of rules and nuances, but as long as you cover the basics, you’ll be well-positioned to file wisely. So keep reading about the program and how it works, and with any luck, you’ll end up armed with just the right amount of knowledge.
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