How to fund a Social Security delay

Several strategies can cover the gap to help clients claim a bigger benefit later

The math is simple: For every year a person postpones claiming Social Security beyond full retirement age, benefits increase by 8% per year up to age 70, boosting benefits by up to 32%. The catch: What to do for income until then?

For an increasing number of older workers, the answer is easy: Keep working.

Not only does that allow people to delay claiming Social Security benefits until they are worth more later, but it also may postpone the need to tap their retirement savings, allowing investment balances to keep growing. By delaying withdrawals, retirement nest eggs don’t have to last as long.

But frankly, working longer may not be the answer many of your clients want to hear.

“My research has shown that many people could increase the lifetime value of benefits by delaying Social Security, but most claim before their full retirement age,” said Sita Slavov, an expert on the economics of aging at George Mason University’s Schar School of Policy and Government.

“Most claim benefits when they stop working,” Ms. Slavov said. “Some claim early because they worry about future benefit cuts,” she said. “However, any viable Social Security reform plan exempts those who are close to retirement.”

Delaying Social Security benefits until age 70 can boost monthly benefits by 76%. For example, an individual whose full retirement age benefit is $2,000 per month at age 66 would receive just $1,500 per month if he claimed at 62, versus $2,640 per month if he waited until age 70 to claim. A larger benefit also creates a bigger base for future cost-of-living adjustments. And in today’s post-pension world, Social Security benefits represent one of the few sources of income that a retiree can’t outlive.

One strategy to help married couples delay claiming Social Security: Divide and conquer.

“The real benefit comes from delaying the primary earner’s benefit,” Ms. Slavov said. “It can make sense for the spouse with the smaller Social Security benefit to claim at full retirement age or earlier to bring some cash flow into the household while the spouse with the larger benefit delays claiming, up to age 70.”

A larger retirement benefit for the primary earner also translates into the largest possible survivor benefit for the remaining spouse.

Another option is to tap retirement savings first to provide income while they wait to claim Social Security. Researchers William Meyer and William Reichenstein, principals of software program Social Security Solutions, have consistently shown that tapping retirement savings first and scaling back withdrawals later, when Social Security benefits kick in, can extend portfolio longevity by up to seven years.

“When viewed from an investment perspective, the decision to delay Social Security actually represents an astonishingly valuable investment return based on the internal rate of return of the cash flow that it provides over time,” said Michael Kitces, partner and director of research at Pinnacle Advisory Group, wrote on his Nerd’s Eye View blog.

Increased longevity and lower interest rates also bolster the case for delaying Social Security benefits.

“Lower interest rates today mean that we should expect lower returns on other types of investments,” said Wade Pfau, professor of retirement income at The American College of Financial Services and director of retirement research at McLean Asset Management. “That favors delaying Social Security as a way to actually obtain higher overall returns for the assets on the household balance sheet.”

Purchasing an immediate annuity for a fixed number of years is another way to fund the income gap until Social Security benefits begin. For example, a 65-year-old women could purchase a five-year period certain annuity for $140,000 today to generate about $2,400 per month for the next five years until her maximum Social Security benefits begin at age 70, based on quotes from Immediate Annuities.com.

Finally, rather than using assets to purchase an annuity, some retirees may want to tap their home equity through a reverse mortgage. The bonus of reverse mortgage payouts is they are tax-free.

“This strategy may have the biggest impact for typical Americans approaching age 62 with few financial assets and most of their net worth tied up in their home,” Mr. Pfau wrote in “Reverse Mortgages: How to Use Reverse Mortgages to Secure Your Retirement” (The Retirement Researcher’s Guide Series). “Home equity could provide a way to build that bridge to Social Security delay.”

(Questions about Social Security? Find the answers in my new ebook.)