You may not realize it now, but there's a very good chance that, when you retire, you're going to be reliant on Social Security income to make ends meet. In the latest national Gallup poll of nonretirees, a record 88% of respondents expected their Social Security payout to be a necessary part of their retirement income. For context, this annual Gallup poll dates back to 2001.
This strongly suggests that there isn't a more important decision to be made by our nation's seniors than deciding when to take Social Security benefits.
How is your Social Security benefit determined?
Although there are more than a half-dozen factors that can ultimately affect how much you'll receive and get to keep of your monthly Social Security retirement benefit, there are four factors that stand head-and-shoulders above the rest. The first two -- earnings history and work history -- are inextricably tied at the hip. The Social Security Administration takes a workers' 35 highest-earning, inflation-adjusted years into account when calculating their monthly benefit at full retirement age. For every year less of 35 worked, $0 is averaged into their calculation.
Third, there's your birth year, which is what's used to determine your full retirement age -- i.e., the age when a person is entitled to 100% of their monthly benefit. Put simply, claiming benefits before hitting your full retirement age means accepting a permanent reduction to your monthly payout. Conversely, claiming benefits after your full retirement age can enhance your payout above 100% on a permanent basis.
Fourth and finally, there's your claiming age. Payouts can begin at age 62 for retired workers, but they increase by as much as 8% annually for every year a beneficiary waits to claim them, up until age 70.
Here's how much the typical 62-year-old beneficiary receives each month
Given this information, you might be under the impression that most seniors wait a bit before taking their Social Security benefits. However, the data shows otherwise.
A majority of Americans (around 60%) claim their payout prior to reaching their full retirement age, and the single-most-popular claiming age is 62. Please note that when I say "single-most-popular claiming age," I'm referring to situations where retired workers get to choose when to begin taking their payouts. This removes folks who are automatically transitioned to retired worker benefits from disability benefits at age 66 (i.e., their full retirement age).
The question is, what can the typical retired worker expect to receive from Social Security at age 62? According to payout statistics from the Social Security Administration in June 2020, the average Social Security benefit at age 62 is $1,130.16 a month, or $13,561.92 a year. That's only $800 above the federal poverty line for a one-person household in 2020, and well below the average retired-worker benefit of $1,514.13 a month in June 2020.
Why would retirees be willing to accept an up to 30% permanent reduction in their monthly payout from Social Security just to take their benefit a couple of years early? For some folks, the answer is simply that they don't have any other sources of income. For others, it could be a strategic move, such as a lower-earning spouse wanting to generate income for their household. But I'd be willing to bet that a lack of understanding of the Social Security program has played a role in these early claims, too.
Statistically speaking, waiting to claim benefits makes a lot of sense
To be clear, there are viable reasons to claim Social Security early. Being in poor health or having a substantially lower lifetime income than your spouse are both good reasons to consider an earlier claim.
However, statistically speaking, waiting to take Social Security is going to be the optimal decision for a majority of retired workers. An optimal claim is one where a beneficiary maximizes the amount of money received over their lifetime from Social Security.
In June 2019, United Income released a study -- "The Retirement Solution Hiding in Plain Sight" -- that used data from the University of Michigan's Health and Retirement Study to map out optimal claiming decisions versus actual claiming decisions for approximately 2,000 senior households. Fewer than 1 in 10 claiming decisions made between ages 62 and 65 were considered optimal. By comparison, 57% of optimal claiming decisions would have come at age 70, and more than 80% of all optimal claiming decisions would have been between ages 67 and 70. In other words, most retirees will earn more over their lifetime by waiting to take their payout.
There's another advantage of waiting, too, that isn't reflected in these figures. Spouses who claim benefits prior to reaching their full retirement age are potentially handicapping their significant other. If a high-earning spouse passes away first and began taking their benefit early, the surviving spouse's payout is based on what the now-deceased spouse was receiving each month. In short, it means a reduced survivor benefit. Waiting to take your payout, if married, means ensuring your significant other has the opportunity to maximize their survivor benefit.
Claiming benefits at age 62 is very popular -- but I'd surmise the reward doesn't necessarily outweigh the risks for a majority of early filers.