Social Security speak has advisers lost in translation

I received an interesting question from an InvestmentNews reader recently asking me to clarify the difference between the “file and suspend” strategy and the voluntary suspension of benefits.

The confusion between the two similar terms is understandable. In both cases, you must be at least normal retirement age to exercise these strategies. The difference is one strategy turns benefits on for family members and the other one turns benefits off temporarily for the retiree.

Here’s how it works.

Let’s say you decide to claim retirement benefits early at age 62, even though it means you must accept a 25% reduction in benefits. That may have sounded great at the time, but now that you’ve turned 66, you wish you received a bigger benefit each month.

There’s a way to rectify the situation.

Once you reach your normal retirement age, you can voluntarily suspend your benefits–but not repay them. Your benefits will increase by 8% per year between ages 66 and 70.

If you wait until age 70 to resume claiming, the resulting monthly benefit will be worth 99% of what you would have received if you had waited until 66 to collect benefits in the first place.

Here’s how the math works. Assume you are entitled to collect $2,000 per month at your normal retirement age of 66. But you decide to go ahead and collect benefits early at age 62. So your benefits are reduced by 25% and you collect $1,500 per month.

At 66, you can voluntarily suspend your Social Security benefits. Using the $1,500 monthly amount as the base, your benefits will grow by 8% per year between ages 66 and 70. At age 70, they will be worth 32% more. That’s $1,980 ($1,500 x 1.32) which happens to be 99% of your original full benefit amount.

Now let’s look at the other strategy known as “file and suspend”.

If you wait until your normal retirement age to first claim Social Security benefits, you can file and suspend, triggering benefits for a spouse and/ or dependent child while your own benefit continues to accrue delayed retirement credits. This can be a great strategy if your spouse has little or no earnings of his or her own or if you have children under 18 (or under 19 if still in high school).

But you can’t file and suspend benefits before your normal retirement age. This can be a tough call if you’re 62 and you have two kids who are 14 and 16 years old, for example. If you wait four years until you reach normal retirement age to file and suspend, your kids would have aged out of the dependent child benefit.

But if you’re still working and claim Social Security benefits for you and them, you’re still subject to the earnings test. Earn more than about $45,000 this year and virtually all of your retirement benefits will be clawed back for you and your dependents.