How is my Social Security Benefit Calculated?
The Social Security benefit amount is calculated based on a formula that takes into account your average earnings over your working career, the age at which you start receiving benefits, and the number of credits you have earned.
Here is a step-by-step guide on how your Social Security benefit is calculated:
- Average Indexed Monthly Earnings (AIME): The Social Security Administration (SSA) calculates your average indexed monthly earnings (AIME) by adjusting your highest 35 years of earnings to account for changes in average wages since the year you earned the income.
- Primary Insurance Amount (PIA): The Social Security Administration uses your AIME to calculate your primary insurance amount (PIA), which is the amount you would receive if you claim Social Security benefits at your full retirement age.
- Benefit Amount: The benefit amount you receive depends on the age at which you start receiving benefits. If you start receiving benefits before full retirement age, your benefits will be reduced. If you start receiving benefits after full retirement age, your benefits will be increased.
- Delayed Retirement Credits: If you delay receiving benefits past your full retirement age, you will receive delayed retirement credits, which will increase your monthly benefit.
It’s important to keep in mind that Social Security benefits are based on your earnings over your entire working career, not just your earnings in your final years of work.
In conclusion, the Social Security benefit amount is calculated based on a formula that takes into account your average earnings over your working career, the age at which you start receiving benefits, and the number of credits you have earned. Understanding how your Social Security benefits are calculated can help you make informed decisions about your retirement planning.
When does drawing Social Security early make sense?
Drawing Social Security benefits early can be a good option for some people, but it also means a lower monthly benefit compared to waiting until full retirement age or later. Here are some reasons why you might consider drawing benefits early:
- Financial Need: If you need the income from Social Security to cover your living expenses and don’t have enough savings or other sources of income, you may need to start drawing benefits early.
- Health Concerns: If you have a serious health condition and don’t expect to live a long life, drawing benefits early can provide you with a source of income for as long as you live.
- Early Retirement: If you plan to retire before full retirement age and don’t have enough savings or other sources of income, you may need to start drawing Social Security benefits early.
- Reduced Benefits: If you are eligible for both Social Security and a pension, some pensions may reduce the amount you receive if you are also drawing Social Security benefits. In this case, you may choose to start drawing Social Security early in order to maximize your overall benefits.
It’s important to keep in mind that drawing Social Security benefits early will result in a lower monthly benefit compared to waiting until full retirement age or later. In addition, the amount of the reduction will depend on the number of months before full retirement age that you start drawing benefits.
In conclusion, whether to draw Social Security benefits early is a personal decision that depends on your individual circumstances and financial situation. It’s important to consider your expected lifespan, current financial situation, and retirement plans when making this decision.
When does delaying my Social Security Benefit make sense?
Delaying Social Security benefits can be a good strategy for some people, as it can increase the amount of your monthly benefit. Here are some reasons why you might consider delaying benefits:
- Long Life Expectancy: If you expect to live a long life, delaying benefits can be a smart financial decision. By waiting, you can receive a higher monthly benefit for a longer period of time, which can provide you with more income throughout your retirement.
- Healthy Retirement Fund: If you have a healthy retirement fund and don’t need the income from Social Security to cover your living expenses, you may choose to delay benefits in order to increase your monthly benefit.
- Working Past Full Retirement Age: If you plan to continue working past full retirement age, delaying benefits can also be a good option. This allows you to continue earning an income while your Social Security benefit continues to accrue delayed retirement credits.
- Spousal Benefits: If you are married and your spouse has already started drawing their benefits, you may be eligible for spousal benefits based on your spouse’s record. Delaying your own benefits can increase the amount of your spousal benefits.
However, it’s important to keep in mind that delaying benefits is not the right choice for everyone. If you need the income from Social Security to cover your living expenses, you may need to start drawing benefits as soon as possible, even if it means a lower monthly benefit.
In conclusion, whether to delay Social Security benefits is a personal decision that depends on your individual circumstances and financial situation. It’s important to consider your expected lifespan, current financial situation, and retirement plans when making this decision.
How does my Social Security benefit effect my taxes?
The taxation of Social Security benefits depends on your income and filing status. Here are some general tax considerations to keep in mind when drawing Social Security:
- Income Thresholds: If your combined income (including your Social Security benefits) is above a certain threshold, a portion of your benefits may be taxed. For the tax year 2021, if you are a single filer with a combined income between $25,000 and $34,000, up to 50% of your benefits may be taxable. If your combined income is above $34,000, up to 85% of your benefits may be taxable. For married couples filing jointly, the threshold is $32,000 to $44,000, and above $44,000, up to 85% of benefits may be taxable.
- State Taxes: In addition to federal taxes, 13 states tax Social Security benefits to some extent: Colorado, Connecticut, Kansas, Minnesota, Missouri, Montana, Nebraska, New Mexico, North Dakota, Rhode Island, Utah, Vermont, and West Virginia.
- Impact on Other Taxes: Receiving Social Security benefits can also affect other taxes, such as the Medicare Part B premium, which is based on your income.
- Strategies to Reduce Taxes: There are strategies you can use to reduce the amount of taxes you owe on your Social Security benefits. For example, if you have other sources of income, you may be able to withdraw from those sources in order to keep your combined income below the threshold for taxation of benefits.
It is important to consult a tax professional or use tax software to determine the impact of Social Security benefits on your tax situation. The rules and thresholds can be complex, and the tax implications of drawing benefits will vary depending on your individual circumstances.
How can Pensions effect my Social Security?
Pensions can have an effect on your Social Security benefits, as some pensions may reduce the amount you receive if you are also drawing Social Security benefits. Here are some ways pensions can impact your Social Security:
- Windfall Elimination Provision (WEP): If you receive a pension from work not covered by Social Security, your Social Security benefit may be reduced by the WEP. The WEP is designed to prevent people from receiving a higher Social Security benefit than they would have if they had earned all their income from covered employment.
Here is an example to help illustrate how the WEP works:
Let’s say John worked for a private company for 20 years and earned $40,000 per year. He then worked for a government agency for 20 years and earned $50,000 per year. Because the government agency did not pay Social Security taxes, John is eligible for a pension from that employment but not for Social Security benefits based on those earnings.
Without the WEP, John’s Social Security benefit would be calculated based on his highest 35 years of earnings, which would be $40,000 per year. But because of the WEP, John’s Social Security benefit would be reduced based on a formula that takes into account the number of years he worked in non-covered employment. In this case, John’s Social Security benefit would be reduced by approximately half of the difference between the average national wage index and his own indexed earnings, multiplied by the number of years he worked in non-covered employment.
- Government Pension Offset (GPO): If you receive a pension from a federal, state, or local government agency and are eligible for Social Security benefits as a spouse or widow(er), your Social Security benefits may be reduced by the GPO.
- Impact on Benefits: The impact of pensions on Social Security benefits can be complex, and the reduction in benefits will depend on a number of factors, including the type of pension, the amount of the pension, and the amount of your Social Security benefit.
It’s important to keep in mind that these provisions apply only to pensions from non-covered employment, not to pensions from covered employment (employment in which you paid Social Security taxes).
In conclusion, pensions can have an effect on your Social Security benefits, and it’s important to understand how your pension may impact your benefits.
Presented by the Financial Planning Committee of Lake Street, an SEC Registered Investment Adviser
The information contained herein constitutes general information and is not directed to, designed for, or individually tailored to, any particular investor or potential investor. This report is not intended to be a client-specific suitability analysis or recommendation, an offer to participate in any investment, or a recommendation to buy, hold or sell securities. Do not use this report as the sole basis for investment decisions. Do not select an asset class or investment product based on performance alone. Consider all relevant information, including your existing portfolio, investment objectives, risk tolerance, liquidity needs and investment time horizon. Diversification does not ensure a profit or guarantee against a loss. There is no assurance that any investment strategy will be successful. Investing involves risk and you may incur a profit or a loss.
