It's no secret that too many people are falling behind on their retirement savings. A whopping 56% of Americans have less than $10,000 stashed away in their retirement funds, according to a study from GOBankingRates, and of those people, a third have nothing at all saved.

The fact is that many people will need to consider working at least part-time during retirement. In fact, 74% of Americans say they plan on working past retirement age, according to a Gallup poll. That doesn't necessarily need to be a bad thing (after all, you can always pick up a fun part-time job you've always been curious about but never had the time to try while you were busy with your career), but it's important to understand how working during retirement will affect other parts of your financial life -- like Social Security benefits.

Social Security card and statement

Image source: Getty Images.

Social Security is a fantastic benefit for people whose savings may not be where they envisioned as they near retirement. But if you continue working after you claim Social Security, you may be in for a shock when your benefit check is smaller than you had anticipated.

The ins and outs of working during retirement

If you're working during retirement, your Social Security benefits may be (temporarily) reduced if you meet two conditions:

  1. You've claimed retirement benefits before reaching your full retirement age (FRA), or the age at which you'll receive 100% of the benefits you're entitled to.
  2. You earn more income than the annual limit set by the Social Security Administration.

That means the first step in figuring out whether you'll receive a cut in benefits is to determine your FRA. Your FRA is between 65 and 67 depending on the year you were born, and you can start claiming Social Security benefits as early as age 62.

Then you need to see whether your income exceeds the threshold. In 2018, if you won't reach your FRA this year, then the limit is $17,040. For every $2 you earn above that limit, $1 will be deducted from your Social Security benefits. During the year in which you reach your FRA, the annual earnings limit is $45,360, and the Social Security Administration only counts your earnings up to the month you reach your FRA. For every $3 you earn above that limit, your benefits will be reduced by $1.

Once you reach your FRA, your benefits will no longer be reduced, and the Social Security Administration will recalculate your benefits to account for the months or years that you received smaller checks. You'll get a boost in your benefits that will, in theory, repay you for the forfeited benefits over the remainder of your life. So if your benefits were reduced by, say, $3,000 per year for three years, then you're still entitled to the $9,000 you forfeited. Once you reach your FRA, the Social Security Administration will adjust your checks so that you'll receive all $9,000 back by the time you reach your life expectancy. (Of course, if you don't reach your life expectancy, then a portion of those forfeited benefits will be lost forever.)

Estimating your Social Security benefits: An example

Figuring out how much your benefits will be reduced (or whether they'll be reduced at all) may sound like a complicated process, but it's easier than it looks.

For example, let's say you retire and claim Social Security benefits at age 65, and your FRA is 67. Let's also say you're entitled to $1,200 per month (or $14,400 per year) in benefits, and you're earning $55,000 per year.

Because you haven't reached your FRA yet, your benefits will be reduced at age 65 and 66 because you're earning more than the $17,040 limit. The amount you're earning is $37,960 over that limit, so your benefits will be reduced by half that amount, or $18,980. Because you're only entitled to $14,400 per year in benefits, that means you'll have your entire benefit amount withheld that year.

In this scenario, it may be best to avoid claiming Social Security in the first place. You're probably earning enough to pay the bills, and if you delay claiming until after you reach your FRA, you can receive a permanent increase in your benefit. So not only do you earn extra income by continuing to work after you reach retirement age, but you'll also receive fatter Social Security checks.

In the year when you'll reach your FRA, your benefits will look a little different. Let's say you will reach your FRA in November, and from January through October you earn $47,000 while working. That would put you just $1,640 above the annual earnings limit of $45,360. Because your benefits are reduced by $1 for every $3 you earn above the limit, your benefits will be cut by roughly $547 that year, leaving you with $13,853.

Once you reach your FRA, your benefits will no longer be reduced no matter how much you're earning at work, and you'll also start receiving adjusted checks that take into account how much you had deducted since you've been working.

Working during retirement may not have been part of your original plan, but for many Americans who are falling behind on their savings, it's a necessity. While the bad news is that you may see your Social Security benefits reduced by a few hundred or thousand dollars per year, the good news is that you'll be able to recoup that money once you reach your FRA -- and the extra money you're earning by continuing to work certainly won't hurt either.

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