Claim Social Security earlier than full retirement age and you'll get smaller payments for a longer period of time. Wait to claim Social Security until you're 70 and you'll get bigger checks for a shorter period of time. Choosing which of these options is best can be tough, but if you're considering waiting until you're 70 to begin collecting Social Security, knowing when that decision will break even with a decision to claim at age 62 could make your choice a little easier.
What are my options?
Most Americans accumulate enough worker credits to qualify for Social Security over a 10-year career, and if you're among them, you should know a couple things about how Social Security works.
First, you should be aware that Social Security calculates the amount that you'll receive in Social Security by using a formula that's based on your highest 35 years of earnings. If you work for fewer than that, your benefit will be based on however many years you did work. If you work for more than 35 years, your high income-earning years will replace your low income-earning years, thereby boosting the size of your Social Security check.
You should also know that you can choose to begin receiving Social Security at any point between the age of 62 and 70, but your full retirement age, or the age at which you'll receive 100% of your benefit, varies depending on the year you were born.
Also, Social Security is designed to pay out the same amount of money to you over your lifetime regardless of when you claim your benefit. Therefore, early claimers get less money per month than people who wait.
For example, if your full retirement age is 66 and you take Social Security at 62, you'll receive 75% of the benefit you would have received at age 66. Claim Social Security after age 66 and you'll get an 8% increase for every year you wait up to age 70. Thus, if you start receiving benefits at age 70, you'll get 132% of the amount you would have received at age 66.
Your Social Security breakeven point
Your precise breakeven point will vary depending on your full retirement age and your exact age when you begin receiving Social Security payments, but you can still estimate your breakeven point.
For instance, if your full retirement age is 66 and you wait to claim Social Security until age 70, then the breakeven point to claiming at age 66 is age 78, and the breakeven point for claiming at age 62 is age 80. It's at those ages that the total amount you collect in Social Security from 70 onward would eclipse the amount that you would have collected if you claimed at those two other ages.
The following chart from fellow Fool Dan Caplinger provides a great visual representation of the breakeven points for three scenarios: claiming at 62, 66, or 70.
Fly in the ointment
There's one big problem with relying too much on breakeven analysis, though: It doesn't take into consideration the time value of money or the ability to earn a return on Social Security income.
Retirees with retirement income from other sources can invest their Social Security checks and, depending on their annual return, that investing can push back their breakeven point deep into their 80s.
For instance, let's assume Jim can receive $750 per month in Social Security at 62, $1,000 per month at 66, and $1,320 at 70. If Jim takes Social Security at age 62 and stashes his $750 per month into an investment returning a hypothetical 6% annually for 20 years, Jim would end up with a portfolio worth more than $331,000 at age 82. If Jim waits until 70 and then invests his $1,320 per month in that same investment, his portfolio would be worth about $267,000 at age 82 and he wouldn't break even until his mid-80s.
Breakeven analysis also doesn't take into consideration potential changes to Social Security to shore up its own finances. The Congressional Budget Office estimates that, absent legislative changes, a 29% across-the-board cut in Social Security benefits would be necessary in 2030 to bring Social Security outlays in line with payroll tax revenue.
Tying it together
If you're single and you pass away before reaching your breakeven point, relying on breakeven analysis to decide to wait to claim Social Security at 70 could be a mistake. If you're married, survivor's benefits paid to your spouse could still make waiting pay off, but only if your spouse lives long enough. Also, if you have the financial flexibility to invest your Social Security dollars, rather than use that income for day-to-day expenses, then breakeven analysis is even more guesswork. Overall, breakeven points are useful, but they shouldn't be the sole factor in determining when to claim Social Security.