Your Social Security benefits are a huge perk of getting older. Whether you claim as soon as you blow out your 62nd birthday candles or you hold out until you reach septuagenarian status, it's hard to think of a better gift than guaranteed paychecks for life.
But the rules surrounding your benefits can get tricky. Here are four mistakes that could derail your retirement.
1. Assuming you can undo your decision at any time
The difference between claiming early at 62 instead of holding out until 70 can reduce your monthly benefit by about 76%. If you claim too early, it's not a decision you can easily reverse.
You have two options for reversing your Social Security decision, but they're both pretty limited. If it's been less than 12 months since your benefits started, you can withdraw your application. In that case, Social Security will demand that you repay whatever benefits you received, including Medicare premiums and withheld taxes. If you've reached your full retirement age, or FRA, which is between 66 and 67 depending on the year you were born, you can also suspend your benefits and resume them later. Social Security pays you an extra 8% for each year you wait past your FRA until you reach 70.
But if you claim early and don't suspend your benefits within 12 months, you're permanently reducing your benefits. You should only start benefits early if you're OK with lower payments for life.
2. Not planning with your spouse
If you're married and you're not planning your Social Security strategy together, you're potentially leaving money on the table. One strategy that often makes sense when one spouse earns significantly more is to have the higher earner wait as long as possible, while the lower earner starts benefits early. Then the lower earner can switch over and take 50% of the higher earner's full retirement benefit. This approach is especially recommended if the lower earner is younger, because if that spouse outlives the higher earner, the lower earner can receive 100% of the higher benefit.
3. Forgetting about taxes
Hopefully, Social Security won't be your only source of income in retirement. Just don't forget that the tax man cometh for at least part of your benefits if your income is above certain limits.
If you're single with an income between $25,000 and $34,000, or married with an income between $32,000 and $44,000, up to 50% of your benefit may be taxable. Up to 85% of your benefit could be taxable if your income is above these thresholds.
4. Counting on COLAs to keep up with actual costs
In 2021, Social Security recipients will get a 1.3% cost-of-living adjustment, or COLA. For the average retiree, that will amount to $20 extra per month. If you're expecting your COLAs to keep up with your actual living costs, you're in for a rude awakening. In fact, Social Security benefits have lost about 30% of their purchasing power since 2000.
One reason these increases are so pitiful: They're calculated based on changes to the Consumer Price Index for Urban Wage Earners and Clerical Workers (CPI-W), which only measures costs for households where at least one person is working. It's not an accurate measurement of cost increases for seniors, who spend a disproportionate share of their incomes on healthcare and housing. Both of these costs rise faster than inflation.
The best way to combat low COLAs is to build healthy retirement savings while you're still working. If you're behind on saving, it's important to hold off on Social Security as long as possible to get bigger monthly checks.