Each year, the Social Security trustees evaluate the financial status of the Social Security trust funds, and the most recent report included some bad news. The trust funds could be insolvent by 2034, one year earlier than previously expected.
The accelerated timeline comes on the heels of a historic cost-of-living adjustment (COLA). To keep benefits in line with inflation, Social Security recipients got an 8.7% COLA this year, their largest raise since the early 1980s. But the trustees had used assumptions last year that include a COLA between 3.9% and 5.1%.
To be clear, Social Security is not on the brink of bankruptcy, and the odds of the program disappearing are virtually nonexistent. Social Security is funded in large part by payroll taxes, and that income stream will continue even if the trust fund becomes insolvent. Unfortunately, payroll taxes alone would cover just 80% of scheduled benefits in 2034, meaning extensive benefit cuts would be necessary in the absence of legislative action.
That would be a serious problem. Millions of Americans depend on Social Security. Benefits are often the primary source of income for retired workers, and Social Security payments play a pivotal role in keeping seniors out of poverty.
Not surprisingly, some workers are opting to start Social Security as soon as possible to maximize their benefits ahead of any cuts. Here's why that strategy is risky.
Workers are starting Social Security early for fear of benefit cuts
Workers who start retirement benefits before reaching full retirement age (FRA) get a permanently reduced benefit. Despite that drawback, more than half of newly eligible retirees started Social Security early in 2021, and a recent write-up in The Wall Street Journal indicates that the accelerated timeline for trust fund insolvency is driving more workers to make the same decision.
Those workers generally rationalize their decision like this: "I paid a lot of money into Social Security during my career, so I need to get as much income as possible back from the program before benefits get cut." That might seem logical, but workers should think twice before locking in a lower monthly income for life.
Starting Social Security early could backfire
The Social Security program faces a $22.4 trillion funding shortfall over the next 75 years, but the problem could be overcome if benefits were cut by 25.2% in 2034. That is the worst possible scenario. So if claiming Social Security before FRA entails a benefit reduction greater than 25.2%, it simply does not make sense to start claiming early. Readers can use this calculator to determine how much their benefit would be reduced in that situation.
However, starting Social Security early is still risky for workers with a benefit reduction of less than 25.2%, according to economists and financial advisors interviewed by The Wall Street Journal. Past legislation has generally included measures that effectively resulted in benefit cuts for future recipients, so it stands to reason that any future legislation will take the same approach despite promises to the contrary from both political parties.
But any future legislation is also likely to include changes that increase revenue for the Social Security program. That makes it impossible to guess how extensive the actual benefit cuts will be. But readers can confidently assume the worst-case scenario (i.e., a benefit cut of 25.2% across the board) is unlikely.
Also noteworthy: A recent study published by the National Bureau of Economic Research indicates that virtually all workers aged 45 to 62 should delay claiming benefits beyond age 65. In fact, over 90% of that cohort should wait until age 70 to start Social Security. Doing so would increase their median lifetime discretionary spending by $182,370.
Of course, the researchers can't be certain how extensive future benefit cuts will be, so the study does not directly address that issue. But the results are still significant because they represent the most informed decision workers can make today.