You're liable to make a lot of important decisions in life. Some examples might include whether or not you should go to college, and, if you do, what degree should you attain? Deciding whether or not to buy a home is another often important decision many Americans face. However, deciding when you'll take your Social Security benefit could arguably be the most important decision you'll make in your golden years.
Signing up for benefits can be confusing
The Social Security Administration allows seniors to file for Social Security benefits as early as age 62 and as late as age 70. While most seniors are aware that their Social Security benefit will grow over time if they delay signing up, the scope of that benefit remains mostly a mystery.
Back in 2012, AARP and Knowledge Networks conducted an online survey of more than 2,000 people between the ages of 52 and 70 who planned to file for Social Security benefits within the next 15 years. The duo found that 89% knew their benefits grew over time, but only 29% were able to estimate, within 10%, how much more their benefits could grow if they waited. Furthermore, only 34% of respondents were able to identify the percentage increase in benefits within two percentage points for waiting an additional year (which happens to be 8%), and just 29% of respondents correctly identified age 70 as the year where their benefits would max out.
In other words, there's a perception among seniors and pre-retirees that waiting to claim benefits is good, but most don't have a solid bead on what it'll really do for them in the end.
The most important Social Security chart you'll ever see
With this in mind, here is the most important Social Security chart you'll ever see:
What you see above is the Social Security retirement benefit schedule for someone born between 1943 and 1954 who happens to have a full retirement age of 66. A full retirement age, or FRA, is a dynamic number that defines when you are entitled to receive 100% of your retirement benefits. Retire before your FRA, and you'll receive less than 100% of your what your monthly benefits would have been at FRA. Retire after your FRA, and your benefits can exceed 100% as shown above. You'll note that your benefit doesn't just increase on a year-by-year basis, but also on a month-by-month basis.
How does the FRA work? It's based on your year of birth as follows:
As you can see, most current retirees have an FRA of between 65 and 66 years of age, whereas the FRA for baby boomers, who were born between 1948 and 1964, will be split between ages 66 and 67, with a gradual two-month increase observed for those born between 1955 and 1959.
Why this data matters
The reason the retirement benefit schedule is so important relates to the imminent cash shortfall of the Old Age, Survivors and Disability Insurance (OASDI) Trust by 2035, according to the latest Social Security Trustees' report.
To briefly summarize, two demographic shifts are expected to turn what is a cash inflow into the OASDI into a cash outflow that'll ultimately exhaust the reserves. First, the retirement of baby boomers in greater numbers is weighing on the worker-to-beneficiary ratio. As this ratio falls, the amount of payroll tax revenue being brought in to cover a growing number of eligible beneficiaries simply won't be enough. The other issue here is that life expectancies are on the rise, meaning seniors can draw a benefit payment for a longer period of time.
How will lawmakers fix this Social Security dilemma? No one is entirely sure, even though there are more than a dozen solutions available to Congress. However, a number of ideas that have been circulated could include a cut in benefits. In fact, a 21% cut in benefits could be necessary in 2035 to preserve the solvency of the program through 2087 should Congress do nothing over the next 19 years. That's bad news for the 41% of men and 46% of women who apply for Social Security benefits as early as possible according to The New York Times.
For those choosing to take benefits early with a birth year between 1943 and 1954, you could be taking up to a 25% reduction from your FRA. Future retirees with a birth year of 1960 or later could see their benefits reduced by up to 30% from their FRA. Now, imagine if Congress chooses to do nothing and your benefits get sapped another 21% in less than two decades. That could be a big problem, especially for low-income seniors.
This is why it's important for seniors and pre-retirees to really understand how their choice to file for Social Security benefits could affect them. It's not enough to just understand that waiting is better if you want your benefits to rise. You need to understand the specific amount you'll be paid relative to your unique FRA so that you can appropriately plan for your retirement and successfully manage your retirement nest egg. Understanding these basic Social Security concepts could truly go a long way to helping you maximize your benefits.