Americans are fascinated with making the most of Social Security, but many retirees are making a strategic mistake that could cost them tens of thousands of dollars in lifetime benefits, according to new research from economists at Boston University and the Federal Reserve Bank of Atlanta.
The analysis examines the issue of the optimal age to claim Social Security to maximize retirees’ lifetime discretionary income, or money after taxes, living expenses and other essential expenses. The Social Security Administration pays an employee’s full benefit at what it calls “full retirement age,” which ranges from 66 to 67, depending on your year of birth.
But people can also claim Social Security once they turn 62, in exchange for a 25% discount on their monthly checks. On the other hand, if employees wait to take Social Security until they turn 70, they get a 32% increase in their payments in exchange for deferring.
The reality, however, is that only 6% of U.S. workers wait until they turn 70 to claim Social Security, though the vast majority would be better off waiting until then to activate their retirement benefits, the researchers found.
There is a very real price tag on claiming Social Security too early, as the average worker leaves about $182,000 in discretionary income on the table for life by claiming before they turn 70, the report noted — an income that the most Americans could really use them, given that many don’t have enough spares to carry them through old age.
According to Social Security Administration data, nearly half of Americans claim Social Security before reaching full retirement age, and about a quarter at age 62.
Americans “need to change their thinking,” Laurence J. Kotlikoff, one of the study’s co-authors and a professor of economics at Boston University, told CBS MoneyWatch. “They think they’re going to die tomorrow, and that leads people to curse themselves” by claiming too early.
Some people decide to claim Social Security early based on the average life expectancy for 65-year-olds, which is 83 for men and 85 for women. But a better rule of thumb is to consider what Kotlikoff and his co-authors call “the worst outcome, financially speaking” — living to one’s maximum age, which could be in the 90s or even 100 years old.
The bottom line is that “we can’t count on dying on time,” says Kotlikoff, who writes about retirement at Maximize My Social Security and co-authored ““A guide to the Social Security program. Instead, Americans should use financial strategies that can help them delay claiming Social Security, which will increase their lifetime discretionary income,” he said.
“Find a Job”
Nearly half of Americans over age 55 have no retirement savings, meaning those workers will be more dependent on Social Security in their old age and may be tempted to claim early retirement once they turn 62.
But Kotlikoff said people who stay physically active when they turn 62 should stay in the workforce rather than claim Social Security because they’ll be better off in the long run by maximizing their benefits. The only people for whom it might make sense to claim early are people with terminal illnesses or people with disabilities, he added.
“Most people who retire early are healthy, so for those people it’s a fantastic job market – they should get a job and work,” he said. “The fact that we’re retired longer than we’re working is crazy.”
Aside from working longer, there are a number of other strategies employees can use to delay claiming Social Security until full retirement age or older. First, people with retirement savings in a 401(k) or other accounts can withdraw that money first, he noted. Cost-cutting measures, such as moving in with relatives or taking out a loan from a relative, can also help you until you turn 70.
Of course, one downside to waiting to claim Social Security is a reduction in potential cash flow when one is in their early to mid-sixties, the paper noted. But the analysis found that the impact of Social Security deferrals on household cash flow may not be as great as some fear.
“We’ve found that [waiting to claim Social Security] reduces people’s spending at the median by 7% — the message is that people think they have nothing to live on, but many people have resources” outside of Social Security, Kotlikoff said.
In general, Americans also need to set aside a lot more money for their old age, he added. People think they need $1.25 million in savings to live a comfortable life in their golden years,to a recent Northwestern Mutual study. And yet, the typical American retirement account holds less than $87,000.
“People relied on Uncle Sam and their employer to take care of them, and we’ve seen the consequences,” Kotlikoff said. “It’s time for tough love.”