Estimating the impact of early retirement on Social Security benefits

One of the most common questions I receive from financial advisers concerns the impact of early retirement on future Social Security benefits. They wonder if the estimated benefits statement that their clients receive accurately portrays future benefits if their clients stop working before full retirement age.

In general, the statement assumes you will continue earning about the same amount of money as you did in the previous year until you reach retirement age. Every adult with an earnings history should set up a personalized Social Security account to get access to their estimated benefit statement 24/7.

Retirement benefits are based on your highest 35 years of earnings and your age when you start receiving benefits. If you stop work before you have 35 years of earnings, SSA uses a zero for each year without earnings to calculate your retirement benefits. Even if you have 35 years of earnings, some of those years may be low earnings years when you first started working. Those low earnings years will be averaged in, creating a lower benefit than if you had continued to work.

Social Security benefits are available as early as age 62, but, depending on your birth year, they are​ permanently reduced​ by 25% or more and may be subject to earnings restrictions if you continue to work and claim benefits before your full retirement age. If you wait until your full retirement age, which ranges, depending on your birth year, from 66 to 67, you will receive 100% of your promised benefit even if you continue to work. But if you’re willing to be patient, you can earn up to 32% in additional delayed retirement credits if you postpone claiming up to age 70.

The Social Security benefit estimates do not include annual cost-of-living adjustments, which means your future benefits could be higher than the estimate. You are eligible for COLAs starting in the year you become eligible for benefits at age 62, even if you do not claim benefits until age 70. The COLAs for each of those intervening years will be applied once you claim benefits.

“Generally, the older you are and the closer you are to retirement, the more accurate the retirement estimates will be because they are based on a longer work history with fewer uncertainties such as earnings fluctuations and future law changes,” the Social Security Administration notes in the official boilerplate language that appears on every estimated benefits statement.

A financial adviser from Vancouver, Wash., wrote to me last week with a question about a client who retired from the local police force at age 55, but who does not expect to collect Social Security until his full retirement age of 67.

“He has 37 years of earnings, including his most recent annual salary of $90,000, but he will have no earned income for the next 12 years,” the adviser wrote in an email. “I’m not sure how to estimate his future Social Security benefit.”

I recommended that the adviser have his client use the Retirement Estimator on the Social Security website to obtain a more accurate benefits estimate by including the age when he plans to stop working (55) and his average annual future earnings ($0).

To use the Retirement Estimator, you must log into a secure website that retrieves your personalized benefit estimate. You can use the Retirement Estimator if you have enough Social Security credits — generally at least 40 credits based on at least 10 years or earned income — and you are not currently receiving Social Security benefits on your own record.

You cannot use the Retirement Estimators if you are 62 or older and receiving Social Security benefits as a spouse or survivor based on someone else’s earnings record or if you are eligible for a public pension that is based on work not covered by Social Security.

If you cannot access that site, the more generic quick calculator allows clients and their financial advisers to create a reliable estimate of future benefits based on their most recent year of earnings and projections for future years with little or no earned income.

The adviser used the quick calculator and was delighted with the results. “It was great,” he wrote. “I think this will be a very valuable resource.”