Financial advisers and their clients are getting used to hearing me preach the gospel of delaying Social Security benefits as a way to increase guaranteed income in retirement. But delaying benefits does not necessarily mean delaying retirement.
When you stop working and when you claim Social Security benefits are two separate things. Of course, you need other sources of income, such as a pension, investments or a spouse's earnings, to support you during the years in between collecting a paycheck and claiming Social Security benefits.
Several advisers have asked me what would happen to their clients' Social Security benefits if they stopped working several years before claiming them. Would those multiple years of zero earnings reduce their retirement benefits?
In most cases — particularly for men with a long work history — it would have little or no impact on their benefits, says Andrew Biggs, Resident Scholar at the American Enterprise Institute in Washington and former principal deputy commissioner of the Social Security Administration.
Retirement benefits are calculated using an average of the worker's 35 highest years of earnings. So retirement benefits would only increase if the last few years of work replaced one of the highest 35 years of earnings. Plus, the benefit formula replaces a larger portion of pre-retirement earnings for workers with lower average earnings and a smaller portion for those with higher earnings.
The bottom line: For most of your above-average earning clients, working an extra year or two may boost their income and allow them to increase their retirement savings, but it will have no measurable impact on their Social Security benefits.
In fact, Biggs said, for the typical worker, an additional year of work at the end of his career translates into about 2.5 cents of additional retirement benefits for every additional dollar of payroll taxes. And for about one-third of men, according to a research paper that he co-authored in 2009 on “Social Security and Marginal Returns to Work Near Retirement”, an additional year of earnings and tax payments at the end of the work life results in no increase in benefits.
For many women, it may be a different story, depending on their work history. Single women and married or divorced women who are entitled to retirement benefits based on their own work history could boost their benefits by working longer if the additional years of higher-paid work replace some of the lower-earnings years in the benefit calculation.
And individuals who are ineligible for retirement benefits because they did not work long enough may qualify for Social Security benefits if the additional years of work satisfy the minimum ten-year requirement.
But for many women with little or no work history who qualify for retirement benefits based on their spouse's or ex-spouse's earnings record, or who are entitled to survivor benefits because their spouse or ex-spouse died, working longer and paying additional payroll taxes may have no effect on their Social Security benefits. Their so-called “auxiliary benefits” based on their mate's work history will still be higher than any retirement benefit they could accrue on their own.
To get an idea how your benefits may be affected by a few more years of work or leisure, try out the Social Security Administration's Retirement Estimator (www.socialsecurity.gov/estimator ). The tool allows you to estimate your retirement benefit and create multiple “what if” retirement scenarios by modifying your stop-work date or future earnings amount.