Social Security has been the bedrock of American retirement security since 1940, and it continues to be a vital element of every individual's retirement-income plan. Yet, even as Social Security is central to retirement planning, the program remains a mystery to many.
Do your clients really understand how Social Security works? Do they know how much income Social Security will provide when they retire, or how they can maximize the return on their contributions?
Social Security warrants a closer look from everyone. As an adviser, you can use conversations about retirement planning to educate your clients about Social Security. You can start with three facts they would benefit from knowing.
1. Social Security works like an annuity. In addition to Social Security benefits, a good plan for retirement income has several key components, which could include Social Security, pensions or defined benefit plans, retirement savings accounts and non-Social Security annuities. While few people think of Social Security as an annuity, the program operates similarly, providing a stream of lifetime income individuals cannot outlive.
2. Taxes and inflation may reduce benefits. Social Security payments are taxable, depending on how much income individuals receive from other sources, including employment. The amount of Social Security benefits that are taxable rises as income rises. As a result, Social Security will provide a smaller percentage of overall retirement income if an individual has a variety of retirement income sources.
Inflation comes into play when calculating Social Security payments. Each year, the Social Security Administration determines whether recipients will receive an increase in benefits (also known as a cost-of-living adjustment, or COLA). Although the formula used to calculate the COLA includes inflation, it may not always keep up with actual spending, so retirement plans should account for any anticipated increases in living expenses.
3. Rules may change. Social Security rule changes can be meaningful and may happen with little warning. For instance, a recent law, passed in November 2015, phased out certain strategies used by married couples to claim benefits. This change significantly reduced expected benefits for many.
ADJUST FOR CHANGES
Given the importance of Social Security income in retirement, it's essential to help your clients stay up to date on related policy changes and adjust their plans as needed. This is especially true for younger or mid-career workers, as they may have to adjust if policy changes reduce the amount of their anticipated Social Security income. Clients closer to retirement age should also pay close attention to policy changes, although workers approaching retirement are frequently excluded from changes.
By helping your clients better understand how Social Security factors into their retirement income strategies, you can help them establish a plan to meet their expenses.
Your clients may also want to consider purchasing an annuity to supplement or replace part of their Social Security income in case policy changes reduce the value of Social Security in the future or higher income results in a reduction of benefits due to higher taxes.
As a source of guaranteed retirement income, Social Security will be a key part of most Americans' personal retirement plans. For your clients to get more out of Social Security, it's important for them to understand key features of the program, including their expected benefits and claiming strategies.
While Social Security is always subject to potential policy changes, planning ahead can help your clients anticipate how Social Security will affect their incomes and give them time to adjust to any changes. With a personal plan for retirement income that aligns Social Security with other income sources, your clients will be well-prepared to enjoy their retirement years.
Tom Streiff is senior managing director and head of retirement income and product distribution integration at TIAA.