When it comes to Social Security benefits, there is such a thing as a do-over.
The majority of Social Security beneficiaries claim early reduced benefits. But a little-known part of the law allows retirees who started collecting benefits to change their minds, start over and reapply for a greater benefit. The only hurdle — they must repay past benefits.
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Rolling Over Retirement Accounts
A June survey by AARP found that Americans age 44 to 75 fear running out of money more than they fear death. More than half of people age 44 to 54 are afraid they won't be able to cover basic living expenses in retirement.
Resetting your Social Security benefits is essentially a safeguard against outliving your savings.
"That's the biggest worry we have — clients living past normal life expectancy and running out of money," says Brett Horowitz, a certified financial planner and principal at Evensky & Katz. "If they're going to live to 90, you have to make sure that they'll have enough money in inflation-adjusted dollars." Resetting your benefits is easiest way since it's like having an annuity that's guaranteed for your lifetime and your spouse's lifetime and has a cost-of-living adjustment included, he says.
Retirees are allowed to draw Social Security benefits at age 62. However, according to the Social Security Administration, "full retirement age" — when you're eligible to receive full benefits — is 65 to 67. Until then, the Social Security Administration (SSA) will deduct $1 from the benefits you were to get for every $2 you earn above the annual wage limit, which is $14,160 in 2010.
However, most retirees start their benefits the earliest they can: 42.5% of men started taking Social Security benefits at age 62 in 2008, while 48.3% of women started claiming benefits at age 62, according to the SSA. (Just 7% of men claimed benefits at age 63, and 6.9% of women claimed at age 63.)
Paying It Back
Here's an example from Kotlikoff:
• Husband and wife — he's 68, she's 62. He started collecting benefits at age 62.
• He's now getting about $21,489 a year in Social Security payments. (She gets spousal benefits of $9,815 because she also collected at 62.)
• He withdraws at 68, waits two years, then reapplies at age 70.
• He repays $117,354 (which is tax deductible).
• At 70, his new yearly benefit amount comes to about $37,111, a more than 70% increase.
• This raises their sustainable spending (how much the couple can spend each year assuming he lives until 100) from $63,505 to $72,908, a 13.5% increase, according to Kotlikoff's calculations.
If you can afford it, refiling could be like "found gold," says Laurence Kotlikoff, an economist at Boston University, who has modeled the potential returns involved in the reset strategy on ESPlanner.com.
But it doesn't make sense for everyone. Consult with a financial planner or tax adviser to figure out if it's worthwhile.
Who Should Consider a Reset?
If you started taking benefits previously, you have the cash to pay it back, and you're worried about long life expectancy, this is something to consider, says Horowitz. Someone who started claiming benefits at 62, for example, and reapplied at 70, could see a more than 70% bump in payments, he says. It also protects against the risk of inflation.
"You want to hedge for a long life," says Kotlikoff. "You have to plan that you live until your maximum age of life, because you may."
For a married couple, there are other considerations as well. If there's a strong chance one spouse will continue to be in good health and live a long time, the higher-wage earner might consider exercising that reset option and refiling for benefits at the maximum age of 70, says Christine Fahlund, senior financial planner at T. Rowe Price. That way, when the first spouse dies, the surviving spouse will receive the larger of the two spouses' benefits for the remainder of his or her life — which in this case would be the highest amount for which either spouse would have been eligible, she says. (The guideline for married couples is that when the first spouse dies, the surviving spouse receives the larger of the two spouses' benefits.)
In Horowitz's calculations, when comparing a beneficiary filed at age 62 vs. someone who filed at age 62 and then reset at 70, the payback period (the time it takes to recoup the money you paid back) is about eight years.
Who Shouldn't Reset?
Your health outlook is important, so if you're in poor health, resetting makes little financial sense, says John Scherer, a certified financial planner at Trinity Financial Planning in Middleton, Wis.
And there's also the question of affordability. Depending on how long you've been collecting benefits, you could be writing a big check to the government. "We're sometimes talking about six-figures that you have to pay back. That's a big chunk of money," Scherer says.
Resetting also isn't suitable for those intentionally taking early benefits with the expectation of using this strategy later, Horowitz says. The SSA is looking at many ways to shore up its deficit, and this is one of them, particularly because it's essentially an interest-free loan from the government. So resetting might not be around when you're hoping to take advantage of it — or the administration might make it more expensive to repay and reapply for benefits. "Not only could you be stuck with your current low benefit, but your spouse — when you die — could be stuck with the low benefit, too," Horowitz says.
The withdrawal form is available on the SSA's web site.