Around a third of Americans expect that Social Security will be a major source of retirement income. And they're right. Since Americans have saved far too little for retirement, a majority of retirees depend on Social Security to provide at least half their household income.

Here's the problem. Not only is Social Security not designed to replace so much of your pre-retirement income, but many people end up making their Social Security benefits smaller than they should be. This happens because Americans don't understand how to maximize the money they'll receive from Social Security. 

You may be one of those Americans -- unless you're aware that these three things will make your Social Security benefits smaller. 

Social security card sitting on top of money

Image source: Getty Images.

1. Working less than 35 years

Social Security calculates the standard benefit you'll receive by using a formula that determines your average wages over your career, adjusted to account for inflation. The period of time Social Security looks at is 35 years. If you've worked less than 35 years when your average is calculated, your average wage will be much smaller.

For simplicity's sake, say you earned the equivalent of $50,000 a year over your entire career. If you worked for 35 years, your benefits would be based on a $50,000 average wage. But if you worked for 28 years, you'd have seven years of $0 wages factored in. Your average wages instead would be $40,000, and your benefits would be lower because of it. 

Since you could end up with much smaller benefits, you may want to stay in the workforce a little longer. In fact, if you're earning much more at the end of your career than you did at the start, working an extra year or two could give your benefits a big boost since you could knock out some years when you earned a low salary and replace them with years when you're making big bucks. 

2. Retiring before your full retirement age

Another major way your Social Security benefits could end up being reduced is if you claim them early. The Social Security Administration formula determines the benefits you'll receive at your full retirement age (FRA). FRA is 67 if you were born after 1960; it's earlier if you were born before. If you retire before FRA, benefits are reduced by 5/9 of 1% for each month for the first 36 months and by an additional 5/12 of 1% for each additional month before. Here's what the math looks like:

Up to 36 months x 5/9 x 1% + number before 36 months early x 5/12 x 1% 

If you retire at 62, when FRA is 67, the formula would be:

   36 months x 5/9 x 1% + 24 months x 5/12 x 1%

In total, benefits would be reduced by 30%. This 30% reduction remains in effect for your whole retirement. Your benefits don't just go up once you reach 67 -- you'll keep receiving the lower amount. If the math is complicated for you but you want to understand how much your benefits could be reduced, this chart can help

Age

Change in Benefits Compared to FRA

62

30% reduction

63

25% reduction

64

20% reduction

65

13.3% reduction

66

6.7% reduction

67

No change

If you retire after FRA, you actually can earn delayed retirement credits, which means you'd have extra money added onto your Social Security check. You earn these credits until age 70.

Of course, by delaying and not claiming benefits as soon as you're allowed -- which is age 62 -- you miss out on years of benefits. You'll want to calculate how long it takes you to break even for foregone benefits by using this formula:

Lower annual benefit 
x Extra years of benefits 
/ Difference between higher and lower annual benefit

If you'd have received benefits of $1,404 at full retirement age (the average benefit in 2018), your benefits at 62 would be equal to 70% of $1,404, or $983. You'd get benefits for an extra five years compared with retiring at 67, so you'd have $58,980 in benefits you wouldn't have received if you'd delayed. Divide this by the extra $5,052 you'll get by claiming at 67 instead of 62 to discover that you'd break even in 11.7 years at age 78.7.  There's a helpful chart here that shows how long you'd need to live to break even, depending on the age you retire

There is, of course, no guarantee of how long you'll live. But one thing is definite -- if you claim benefits early, the monthly Social Security you receive will be smaller than if you'd waited. 

3. Living in a state where your Social Security benefits are taxed

Social Security benefits sometimes are taxed at the federal level, but only if your countable income exceeds $25,000 if you're single or $32,000 if you file taxes as married filing jointly. Countable income equals half your Social Security benefits, taxable non-Social Security income such as 401(k) withdrawals, and some tax-free income. If benefits are taxed by the federal government, this happens no matter where you live, but only between 50% and 85% of your benefits end up being taxed, depending on earnings. 

However, it may not just be federal taxes you need to worry about. There are 13 states that tax Social Security benefits: Colorado, Connecticut, Kansas, Minnesota, Missouri, Montana, Nebraska, New Mexico, North Dakota, Rhode Island, Utah, Vermont, and West Virginia. Rules differ by state regarding how much income you need to earn for benefits to be taxable. But if you live in one of these states and you're subject to tax, the amount of benefits you receive will be smaller. 

While moving to avoid Social Security tax may not make sense for your situation, if you're struggling to live on your benefits, you may want to look into areas with a low cost of living where you won't have to worry about a state government taking part of your hard-earned Social Security income. 

Make sure to understand your Social Security benefits

Sometimes, there's not much you can do about your benefits being made smaller. If you're forced into retirement at 62 and don't have savings, you may have no choice but to claim benefits early. But it's important to understand how much your decision can reduce Social Security income -- especially if you'll be counting on benefits to provide the bulk of your support as a senior.

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