Social Security is a crucial source of income for most seniors, yet many don't understand how the program works. You owe it to yourself to research the program so you can make the best financial decisions.
Here are five key rules you absolutely need to know before making any big decisions regarding your retirement benefits.
1. Your benefits shrink if you claim them early
The first and most important thing to know is that you can cause your monthly Social Security to permanently decline depending how old you are when you get your first payment.
See, you've been assigned a full retirement age (FRA) based on your birth year. It's between 66 and four months and 67 if you were born in 1956 or later. If you do not wait until FRA to begin benefits, you'll be hit with a monthly early filing penalty for every month prior to that age that you get a Social Security payment.
You can first claim Social Security at 62, so you may potentially face many months of penalties. The monthly penalties add up over time, shrinking checks by 6.7% per year for each of the first three years benefits come before FRA. If you file even earlier than that, you're subject to an additional 5% annual reduction.
2. Your benefits increase if you claim them late
Once you've reached full retirement age, you should know that you still have the chance to make your monthly Social Security income grow.
You can earn delayed filing credits worth 2/3 of 1% per month until age 70. The effect of these credits is that your standard Social Security benefit increases by 8% per year.
If you're hoping to bring home the most Social Security money possible, you're going to want to wait a long time to get your first check.
3. Your benefits are calculated based on a 35-year work history
The benefit available to you if you were to claim payments right at full retirement age is called your primary insurance amount (PIA). It's this PIA that's adjusted up or down by early filing penalties.
That means you also need to understand how your PIA is calculated to make informed choices about Social Security. This benefit amount is determined based on a percentage of average wages in the 35 years your earnings were highest.
The Social Security Administration always considers a 35-year work history. If you have fewer years on the job, you'll simply have some years when your wage was $0 that are included in your average. On the other hand, if you can manage to work longer than 35 years, some of the years when you didn't earn as much won't be part of your average and you can boost your benefit.
4. You could lose some benefits if you're working before full retirement age
Once you decide to claim benefits, you may assume you can supplement your Social Security checks by working. But the choice to bring home a paycheck can affect your Social Security income if you haven't yet reached full retirement age.
If you work before FRA, you will lose $1 for every $2 earned above $19,560 in 2022 if you won't hit FRA at all during the year. Or you'll lose $1 for every $3 earned above $51,960 this year if you are going to hit FRA sometime in 2022 but work before that happens.
You eventually see your check recalculated at FRA and increased to account for forfeited benefits. But you must still know this rule because otherwise your income could be smaller than anticipated when it turns out you can't double dip and earn as much as you want while bringing home a Social Security check.
5. You could be taxed on your benefits
Finally, you should know that if you are a single tax filer with a provisional income above $25,000 or a joint filer with a provisional income above $32,000, at least part of your Social Security benefit will be taxed. Provisional income is all taxable income, some countable non-taxed income, and 1/2 of your Social Security.
Understanding these rules is crucial so you can know when to claim benefits and so you can be prepared for what happens if you work or if your income goes above a certain threshold. Now that you're aware of the rules, you can make more informed choices about one of your most important retirement income sources.