Social Security should be easy enough to manage. Sadly, it's not. The rules that determine your benefits are complicated enough to create some tricky, and possibly expensive, pitfalls.
Here's a look at four Social Security mistakes that could cost you tens of thousands in retirement.
1. Working fewer than 35 years
If you plan on collecting Social Security based on your earnings history, and not your spouse's, it's critical to understand how the benefit formula works. First, you qualify for benefits by earning 40 Social Security credits. You can earn up to four credits per year, based on your income. Since the income threshold for the full four credits is low ($5,640 in 2020), most workers reach 40 credits after 10 years of work. Once you hit that threshold, you're eligible to claim Social Security as early as age 62.
Here's where a costly slip-up can happen. Your Social Security benefit will be based on your average monthly income from your highest-paid 35 years of working. If you've worked fewer than 35 years, the missing years are included in the average calculation as zeros. So while you can claim Social Security after working only 10 years, you probably don't want to. In that scenario, you'd have 25 years of zero income on your record that will reduce your benefit.
Even five or 10 years of zero income can make a difference, too. Consider a 62-year-old who's worked 35 years and makes $60,000 a year. That individual qualifies for an early benefit of $1,169 monthly. But the benefit for a 62-year-old who's only worked 30 years is $1,072 -- despite having the same current salary. That's a difference of $97 monthly or $1,164 per year. Over your entire retirement, that could add up to $30,000 or more -- possibly enough to weigh the pros and cons of extending your career for a few years.
2. Receiving benefits before FRA if you're still working
It's tempting to claim Social Security as soon as possible, particularly if you could use the extra income. Filing early has its drawbacks, though. If you start receiving Social Security before your Full Retirement Age (FRA), your benefit is automatically reduced by up to 30%. That's $500 on a $1,500 benefit.
On top of that, you may see another benefit reduction if you are still earning an income. In the years before you reach FRA, your benefit is trimmed by $1 for every $2 you earn above an annual limit. In 2020, the limit is $18,240. In the year you reach FRA, your benefit is reduced by $1 for every $3 above a higher annual limit. In 2020, that limit is $48,600.
Say you've claimed your benefit at age 62 in 2020 and your earnings history qualifies you for $1,130 monthly. If you also earn $25,000 this year, your annual benefits would be adjusted down by $3,380. To be clear, you'd be eligible to receive a somewhat higher monthly payment at full retirement age because of these forfeited benefits, but not everyone is able to catch up from the initial loss.
3. Waiting too long to claim
Claiming early will lower your monthly benefit, but claiming late can reduce your lifetime benefit. If you are in poor health or from a bloodline that lives fast and dies young, it can work against you to hold out for a larger monthly payment. A $1,200 monthly benefit that you receive for 15 years adds up to $216,000 cumulatively, not accounting for inflation or cost-of-living adjustments. But a $1,500 monthly benefit that lasts for 10 years, using the same math, only amounts to $180,000.
The takeaway? Claiming late for a higher benefit isn't right for everyone. Given your health and desired quality of life, claiming early may be the better strategy.
4. Getting divorced after just under 10 years of marriage
Divorce situations are hard, and staying in a marriage for financial reasons often simply isn't possible. But if it's an option, reaching the 10-year mark gives you some extra options with Social Security. As long as the marriage lasts 10 years or more, you have the option to claim your own benefit, calculated from your earnings record, or a spousal benefit based on your ex's benefit -- whichever is higher. Walk away from the union at nine years and 11 months and you lose the option to collect that spousal benefit.
That could be a significant financial blow if you've earned far less than your ex or haven't qualified for Social Security on your own at all. The average spousal benefit is about $787 monthly, which could be worth $280,000 or more throughout your retirement.
Protect your annual and lifetime benefits
Your Social Security benefit lasts as long as you do. Missteps with respect to timing, working, or staying married could drastically reduce your annual and lifetime Social Security benefit. Don't take that risk. Use your Social Security statement to confirm that you have 35 years of working under your belt, be strategic about when you claim, and collaborate with your spouse -- even if you don't like each other much -- to ensure you'll have options when it's time to retire.