How to make a retirement plan and Social Security work together
As much as it would help, there’s no one “rule of thumb” Americans can utilize when it comes to determining when to collect Social Security benefits. There are a number of factors that dictate when you should take Social Security, with life expectancy being one of the biggest. A person in ill health or with a family history of early passing may want to consider taking Social Security at an earlier age than their full retirement age to maximize their benefit. But for someone in good health and with longevity running in their family, claiming at full retirement age, or better yet—waiting until age 70 to collect the check, will maximize their Social Security benefit and give them the best chance of not having their money run out in their lifetime.
Social Security benefit claiming strategies
Let’s break it down. The chart below shows someone collecting their Social Security benefits at age 62 compared with someone waiting until age 70. Since current life expectancies give a person reaching age 65 about a one in five chance of living to 90, we’ll take a look at both new retirees’ account balances until they reach that age. We’ll also assume the two recipients have identical retirement account balances of $250,000 and each have yearly expenses of $30,000. For purposes of the illustration, we will not take into account the impact of investment gains/losses, inflation, taxes, or the Social Security COLA.
There are many ways to claim social security but for this example we will try and keep it simple, as the underlying principals generally remain the same regardless of the claiming strategy used.
Let’s look at the table above. At age 62, both individuals retire and have the same retirement plan balance. Our claimant who took their benefit at age 62 receives $16,800 per year in Social Security and has to make up the $13,200 difference needed to cover their $30,000 in expenses out of their retirement account. Our claimant who waits to age 70 to take their benefit will have to withdraw $30,000 from their retirement plan every year to cover their expenses until age 70—when they start receiving Social Security. At age 70, our age 62 claimant will still have $127,600 in their retirement plan while our age 70 claimant, who is just starting to take their Social Security benefit of $2,480 per month ($29,760 per year), has drawn their retirement account down to just $10,000.
On the surface, it looks like the recipient who took the benefit at age 62 is better off. But this is where life expectancy becomes important. Our age 70 claimant receives $29,760 per year in Social Security benefits, which basically covers his/her yearly expenses, while our age 62 claimant is still short by $13,200 every year. By age 80, our age 62 claimant has exhausted their retirement savings and will have to make a drastic lifestyle change while our age 70 claimant is still doing fine, barely touching the remaining balance in their retirement account. Even at age 90, our age 70 claimant will still have money left over in his/her retirement account.
As you can see in the illustration, when to take Social Security is a bet on life expectancy. The individual who took the benefit at 62 would be better off than the second individual, as long as they died before age 80. But our age 70 claimant comes out ahead with this strategy every year they live past 80. In this example, if both individuals lived to age 90, our age 70 claimant would receive $129,600 more than our age 62 claimant.
Why it’s important to plan ahead for retirement
The importance of saving for retirement early and often cannot be stressed enough. Having a goal and following through is the only way to achieve retirement readiness. Once that goal has been achieved, it’s important to utilize your retirement plan to maximize income by pairing personal savings with Social Security benefits. Social Security was not designed as an income replacement source but as an income supplement instead. Pairing it with a retirement plan that has been funded over a long period of time is the key for plan participants to achieve their retirement readiness. And picking the right claiming strategy can put extra hundreds or even thousands of dollars into a retiree’s pocket, helping insure against longevity risk in retirement.
Kent Wright – Due Diligence and De-accumulation Analyst – firstname.lastname@example.org – 800.236.7400 Ext. 3252
Kent is a subject matter expert on 401(k), retirement accounts, investments, and financial services. Kent is also a published author.