For nearly eight decades, Social Security's importance in terms of providing a financial foundation for retired workers has grown. Today, it's a program that more than three out of five seniors lean on to provide at least half of their income, and which 34% of retired workers essentially relies on for all of their monthly income (90% to 100%). It's also responsible for keeping millions of seniors out of poverty.
Because of its relative importance, there's arguably no decision more important to senior citizens than deciding when to claim Social Security benefits. After all, this claiming decision can have a marked impact on what they'll receive each month during retirement.
How your Social Security claiming decision affects your payout
For those unaware, Social Security retirement benefits can begin at age 62, or any point thereafter. There are, however, some pretty big variables involved that can impact how much the Social Security Administration will pay you once you sign up, assuming you've qualified for benefits. In particular, your work and earnings history, birth year, and claiming age, play a critical role in determining how much you'll be paid.
The Social Security Administration takes your 35 highest-earning, inflation-adjusted years into account when calculating your retirement benefit. This means if you've worked fewer than 35 years, a zero ($0) will be averaged in for each year short of 35. In simple terms: earn as much as you can and work at least 35 years if you want to maximize what you'll receive from Social Security.
Your birth year is what determines your full retirement age, or the age at which the Social Security Administration deems you eligible to receive 100% of your payout. Simply, if you claim benefits prior to reaching your full retirement age, which for many Americans is likely between ages 66 and 67, you accept a permanent reduction in your monthly payout. The opposite -- waiting to claim until after your full retirement age -- can produce an even larger monthly benefit.
The final factor is your claiming age. Beginning at age 62, and ending at age 70, your benefit will grow by approximately 8% for each year you hold off on signing up. Depending on your birth year, claiming benefits at age 62 could permanently reduce your monthly benefit by between 25% and 30%. Meanwhile, waiting until age 70 to enroll could mean receiving an extra 24% to 32% on top of your full retirement benefit, depending on your birth year.
This Social Security trend is great news
Now that you have a better understanding of the variables involved in determining your Social Security payout, you'd probably assume that most folks choose to wait and collect as large of a monthly benefit as possible. The reality, however, has been the exact opposite.
In 2004, according to data from the Social Security Administration, 50% of men and 55% of women were filing for Social Security retirement benefits at age 62. Even though the full retirement age in 2004 was 65 years and six months, it still means that more than half of all newly eligible retirees at the time were accepting up to an 18.1% permanent reduction in their payout.
Social Security claiming data from the Center for Retirement Research at Boston College, culled in 2013, showed improvement, but still a penchant for early claiming. Its data showed that 42% of men and 48% of women claimed benefits as early as possible at age 62.
However, newer data from the Social Security Administration in 2016 shows a marked shift is underway -- and it's truly excellent news. As of 2016, just 32% of men and 37% of women were claiming benefits at age 62. Meanwhile between 2004 and 2016, the share of men and women claiming benefits at their full retirement age rose to 17.9% for men and 12.6% for women from 11.5% and 7.5%, respectively. This suggests that around one out of six retired workers is netting their full payout. The number of folks waiting until after their full retirement age to claim benefits rose as well, but remains a small component of total enrollments. As a whole, though, it means that folks are angling to receive more from Social Security, at least on a monthly basis, when they retire.
Why are Social Security recipients waiting longer to claim benefits?
Why the shift, you wonder? As noted in a 2017 report from the Center for Retirement Research (CRR), and via Reuters, two factors look to be responsible. First, the current generation of retirees is in better health and living longer than those folks who were entering retirement a little over a decade ago. Therefore, there's the belief that the current generation will live longer and need a more bountiful Social Security benefit each month.
The second factor appears to be an ongoing shift away from workers being covered by defined benefit pensions and toward defined contribution plans like 401(k)s. The CRR suggests that since defined benefit plans work similarly to Social Security -- i.e., you receive a full pension once you reach a certain age -- and pay a benefit for as long as the person lives, there tends to be an incentive for workers to retire once they hit a certain age. Since this money won't run out, the incentive to keep working just isn't there.
Comparatively, defined contribution plans like a 401(k) have the opposite effect. The money within these plans isn't guaranteed for life, so it incentivizes those folks who are offered a 401(k) plan by their employer to keep working and saving. As 401(k)s have become more prominent, so has the push toward claiming Social Security at a later age.
Social Security's "X-factor"
The big concern, though, is what'll happen to Social Security in the years to come. America's most important social program is facing a monstrous cash shortfall of $12.5 trillion between 2034 and 2091, primarily as a result of boomers leaving the workforce, increased longevity, and growing income inequality. By 2034, the program's $3 trillion in asset reserves are projected to be completely exhausted. Should this happen, Social Security benefits may need to be cut by up to 23% for current and future retirees.
On one hand, senior citizens who are choosing to wait longer to claim benefits could be setting themselves up to better handle a reduction in their payout should lawmakers in Washington, D.C., be unable to raise additional revenue for the program. By no means is a 23% reduction in benefits negligible, but if an individual waits until after their full retirement age to claim benefits, they could still be receiving a healthy monthly benefit, even after 2034.
On the other hand, waiting all those extra years to receive a larger monthly payout could prove to be a foolish move if the federal government slashes benefits to retain program solvency. Giving up those extra years of reduced income could prove costly.
The X-factor among all of this is Washington, D.C. If lawmakers can't figure out how generate additional revenue for Social Security, and/or reduce expenditures, then this positive trend in claiming age may all be for naught.