20 Jul Will Social Security’s health hurt my retirement?

 Q. I’m only 50 but thinking about Social Security strategies. “File and Suspend” sounds good, but I’m wondering if it won’t be allowed by the time I retire. Exactly how does it work, and will it still be around?

A. We love when our readers plan ahead.

The health of the Social Security system is talked about a lot, and the next year or so will be no different as the presidential race heats up.

Experts from both sides of the aisle agree changes need to happen.

While the trust fund was approximately $2.76 trillion at the end of 2013 (according to the 2013 Social Security Trustees Report), this excess is projected to be depleted by 2033, said John Zeltmann, a certified financial planner with RegentAtlantic Capital in Morristown. At that point, Social Security retirement benefits will be paid solely from tax revenues in the same year, essentially becoming a “pay-as-you-go system.”

Once the reserve is depleted, the 2013 Social Security Trustees Report projects that only 77 percent of benefits will be paid, Zeltmann said, so unless changes are made, future benefits collected will not align with today’s expectations.

So what sort of changes would allow for current retirement benefit expectations to be met in the future?

You mentioned one of them . Eliminating “creative” Social Security collection strategies, such as File and Suspend, would reduce the amount of Social Security retirement benefits paid out over time, therefore helping restore solvency to the Social Security system, Zeltmann said.

“File and suspend is a popular Social Security collection strategy that can potentially provide higher lifetime Social Security retirement benefits through the use of a combination of spousal benefits and the delayed retirement credits one receives by delaying collection of his or her retirement benefit from age 66 to 70,” he said.

Zeltmann offered this example:

Pete, 66, and Mary, 66, both have Social Security retirement benefits. Mary, being the higher income earner of the two, has a monthly benefit at her Full Retirement Age (66) of $2,400 per month. Pete, having stayed home to raise the kids, only has a Full Retirement Age benefit of $700 per month.

To take advantage of the File and Suspend strategy, Mary would file for her benefit at age 66 and immediately suspending collection of her benefit. Mary’s act of filing for her benefit allows Pete to step in and begin collecting a 50 percent spousal benefit off of Mary’s record, which would be approximately $1,200 per month.

Over the next four years, Mary’s benefit would increase by 8 percent for each year she delays taking her benefit. Once Mary reaches age 70, her monthly benefit — not accounting for any inflation adjustments — is $3,168.

“The primary advantages to the strategy include getting the higher income earner to delay until age 70 and therefore collecting maximized benefits during her lifetime as well as the economic unit of the couple in this example still being able to collect some level of Social Security retirement benefit when one of them reaches age 66,” Zeltmann said.

Although File and Suspend is popular to put on the chopping block when discussing saving Social Security, it wouldn’t necessarily have as big of an impact as some anticipate, Zeltmann said.

According to the Urban Institute, more than 95 percent of retirees collect their Social Security retirement benefits before full retirement age. In other words, only 5 percent of retirees are waiting until age 66, the age at which you can even think about implementing File and Suspend. That means eliminating the File and Suspend strategy wouldn’t provide the boost in tax revenue or drop in expenses the Social Security system truly needs in order to restore solvency, Zeltmann said.

Zeltmann said there are several reforms that would actually take what he calls “meaningful steps” towards restoring solvency to the Social Security system. Of course some are hot-button political issues, but here are Zeltmann’s thoughts on the options:

Increase Revenue:

• Increase Payroll Tax Rate: The current tax rate for Social Security is 12.4 percent, with 6.2 percent paid by the employee and 6.2 percent paid by the employer. The 2013 Social Security Trustees Report indicates that an increase of 2.83 percent to the payroll tax rate would restore solvency to the Social Security system.

• Increase the Social Security Wage Base: The Social Security wage base, currently at $118,500 in 2015, determines the amount of a worker’s salary that is subject to payroll tax. A wage base increase would have no effect on individuals making below the current base, but would impact earners above this threshold. The highest income earners would be the most effected as more of their income would be subject to tax.

• Changing the Taxation of Benefits: A percentage of an individual’s Social Security benefits are subject to federal income tax, dependent on the size of a recipient’s income. Currently, the percentage of benefits subject to taxation are zero percent, 50 percent or 85 percent, depending on a series of formulas which take into account an individual’s income level versus specific income thresholds. Eliminating these income thresholds would allow complete tax coverage of recipient’s benefits, regardless of how high or low his or her income is. Under such a reform, taxes paid by beneficiaries with a total income over the current income threshold would remain the same, assuming the percentage of benefits subject to taxation does not change.

Lower Costs:

• Modify Social Security Payout Formula: The Social Security payout formula’s progressive nature benefits low income earners proportionately greater than high income earners. This is accomplished through earnings bend points, where an individual’s highest 35 years of income, up to the wage base, indexed for inflation, are averaged monthly and determine the benefit amount. Modifying these earnings bend points would lower the amount of benefits received by the system’s highest earners.

• Change Cost of Living Adjustments (COLA) Formula: Social Security benefits are adjusted annually to maintain purchasing power in the face of inflation. This adjustment is made using the Cost of Living Adjustment (COLA), which is tied to the Consumer Price Index (CPI). Because the CPI has been known to slightly overstate inflation due to the fact that consumers will substitute cheaper alternatives as opposed to continue to buy the basket of goods on which the CPI is calculated, tying COLA to a more conservative inflationary measure may more accurately account for changes in purchasing power and decrease program costs. Should a more conservative measure be used, all Social Security beneficiaries would see a slight drop in their benefits.

• Increase Full Retirement Age: The Social Security full retirement age is the age at which an individual may begin receiving the full amount of benefits to which he or she is entitled. The FRA changes depending on the year a person was born. For those born between 1943 and 1954 the FRA stands at 66 years old. As a result of increasing life expectancies, many retirees have been collecting benefits longer than anticipated, resulting in proposals to increase the FRA.

• Change in Auxiliary Benefits: Many beneficiaries of Social Security receive benefits based on another individual’s working record. These auxiliary benefits include provisions for low income or non-working spouses, widows, or for beneficiaries with dependents. Spouses can currently receive as much as 50% of their partners’ Social Security benefits if they are living and 100% if they are deceased. Potential reforms seek to lower program costs by lowering these auxiliary benefits.

“The elimination of File and Suspend as a collection strategy has frequently been cited as an effective way to reduce the burden imposed by Social Security on our country’s finances,” Zeltmann said. “In fact, the reforms mentioned above would go much further towards helping restore solvency to the Social Security system.”

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This story was first posted in July 2015.