Paul Winkler: Hey folks, this is Paul Winkler. Welcome to the Investor Coaching Show podcast. Over the next three days, we’re going to be focusing on the Social Security system. How does it work? Is the system solvent? How should you take benefits? When should you take benefits? How can you make the most of your Social Security benefits? Hope you enjoy.
Social Security Background
Okay. We’re going to be talking about Social Security today and Social Security planning. What baby boomers need to know about retirement income. A lot of my different financial designations had to do a lot with studying Social Security in great depth. One of the things that I’m really adamant about is having advisors that work for our firm be well-educated because I find that, you know, the investment industry is notorious for not requiring much of any education to call yourself a financial advisor. And I think that’s a shame that it’s that way, but that’s the way the industry is. So a lot of times people will talk about Social Security and they’ll talk about investment topics without a whole lot of background.
And I want to share some of the background because I think it’s really important to understand it’s a lot more complex than people make it out to be. So we’re going to be talking about that now, starting off with a Social Security brain teaser. In life, would you rather be early or delayed? My father used to say, if you show up on time for a job you’re late. I don’t know if any of you had a dad like that. That’s the way he was. But you know, there’s early and delayed with Social Security. We’re gonna talk a little bit about that. Do we want a penalty or do we want a bonus? You know, how do we look at life in that particular way? So we’ll be talking about the penalties and bonuses associated with the Social Security program.
The problem is that a lot of people are hurting themselves with decisions about Social Security, where they’re making decisions about it, not necessarily knowing, you know, how it works. And many times people will go to the Social Security Administration. They think, well, I’m going to the Social Security office, they’ll know everything. And I’ll talk about this a little bit more later on, but you’d be surprised how little they can share with you. And many times how little they actually understand the program themselves, they’re trained to actually help you get benefits, but not necessarily how to work with the system. And in fact, if they’re told not to give you any advice about it as a matter of fact, so we’re not necessarily under that same, that same restriction.
So, you know, you’ll hear me talk a little bit more in an advisory. You know, an advisory stance when I deal with the public or when I deal with teaching on it, you’ll hear me get a little bit more adamant about certain things that you ought to be thinking about. Some of the things that you want to know about claiming options, decisions have far reaching consequences. It’s amazing. The difference between taking Social Security benefits at different points, how much in benefits it could actually cost you to take it at the wrong time. Then how choice impacts both spouses. If you’re married and you’re looking at filing Social Security benefits, should I take hers first? His first, both together, same time. Do I need to retire at the same time that I actually take benefits?
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Will Social Security Still Be There?
Or are there other options? A lot of times people say all Social Security is not going to be there anymore. It’s gone. It’s going to bankrupt like a Ponzi scheme. I even jokingly call it a Ponzi scheme, but it’s not technically a Ponzi scheme, but we’ll talk a little bit about that. Benefits likely helped a family member and you know, your friends, aren’t experts. You know, people talk about how their family members did things and it’s not necessarily the right way of doing things. So they just hear what other people do. And they think, well, you know, I’m going to do what everybody else does. And then friends often will say, well, this is how I think you ought to do it. Maybe they read something on the internet and they went to Google university and got a degree in it, but it’s really doggone complicated.
So what baby boomers typically want to know, they want to know are the benefits going to be there? How much are they going to receive? How do they apply for benefits? How do they maximize benefits? Is it going to be enough to live on in retirement? So these are some of the topics I’m going to talk about right here. Now you have the Social Security Administration. You can go online, ssa.gov, and you can actually look at the benefits there. We’ll talk a little bit more about that. I’ll give you some more specific websites that you can go to. Is it going to be there? There is a trust fund and where the trust fund comes from is for many, many, many years, you might have had a hundred people working for every one person on social security. So literally you have so much money coming out of people’s paychecks just to pay one person’s benefits that there was extra money.
And what they did is they said, we got to take this extra money and do something with it. Well, they had to buy government bonds with it. They had to put it into something secure. Supposedly as we call it a, there have been talks about taking the Social Security money and investing in the stock market and doing those types of things. There are countries that do that, like Chile, they actually have two systems private and in public, but it was demagogue. It was killed here in the United States. And it went nowhere, George Bush. And I think it was, I wanted to do that. Yeah, it was Bush that I wanted to do it and went nowhere. They said you can’t gamble Social Security. So they weren’t able to do that. However, in Chile, when they did it, actually the people that went on the privatized system that was allowed to be invested in the stock market, they did much better just for the record, but what they do so that they take the extra money and they stick it in government bonds.
Basically what happens now with government bonds, of course, you get little bits of interest and all of that. So they built up this huge trust fund. And what is happening is, as people are getting older, instead of a hundred people working for every one person in retirement, now it’s more like less than three to one. So you have like 2.7 to one people working versus people in retirement. So what they’re having to do is they have money still coming out of people’s paychecks, you know, to pay benefits, but they will have to actually start taking money and selling the bonds as time goes on. Now, if you look at it, we still had a net increase in assets last year, believe it or not.
So it’s actually the trust fund because people are saying, we’re going to start spending this thing down, or actually there’s a net increase in assets in the, in the trust fund. So it’s not going down or being drawn down yet about $2.9 trillion, as it says here in the trust fund. Now what you’re seeing here is a good little chart that shows you see that red line that’s income coming in. And basically what you see is the amount of money that they’re going to be expending on the program is going to be increasing. And the expectations about 2035, if everything just goes to heck and a hand basket, and it just all falls apart and this trust fund is spent down and there’s no more trust fund, you’ll see that they’re expected to be able to at least pay 79% of benefits that are promised.
And you’ll actually see that on your statement. When you get your statement from Social Security, that actually says that that number changes from year to yea—one year is 2034, and I’ve seen 2038. I’ve seen all different numbers. It just changes. They don’t know exactly when it would actually run out, but somewhere in that neighborhood is what the estimate is currently. Now, what would it take to restore the system? What would it take to get it back to normal? Well, what happens with Social Security? When you earn income, you pay taxes, Social Security taxes on your income up to a certain point. Now that point we’re after your income goes above that you don’t pay Social Security taxes anymore is $142,800.
So if your income is 200,000, let’s say approximately $60,000 of your income, you’re not paying Social Security taxes nor is the employer matching. So, and why, because those people above those income levels don’t get any benefits from Social Security. What they could do is increase that and they have been actually increasing that number right there at faster than the CPI, the consumer price index. I think the number would be somewhere around $50,000 is what the, you are paying taxes on Social Security, about $50,000. If they just had to keep pace with the CPI.
So that’s part of what’s happening is those hidden taxes are starting to creep in by increasing that threshold a little bit faster than the inflation rate. If that makes any sense. The other thing you could do is raise the normal retirement age. Hey, let’s face it. People are living longer. Thankfully we’re having longer life expectancies. And because of that, we could actually increase retirement ages. Now that is controversial because you have some people that are working in jobs where I can’t work past the age of 65 or 67 or 66, because my body is worn out. If you’re in a, in a job where it’s very labor intensive, that may be a problem. So there may be some controversy there, or you could have lower benefits for future retirees.
You can basically, you know, say, Hey, you know, baby boomers, you guys are going to get your full benefits, but gen X-ers, you’re not going to get as high of benefits in the future. Maybe lower the cost of living allowance is another thing that could be done. So there are lots of little things. They could actually increase the payroll tax. It’s not on this particular sheet, but that’s another thing that’s talked about where they have 6.2% of the payroll tax. They could increase that. I’ve heard people saying, you know, 1%, you know, 0.1% or whatever, and they could make this the system solvent for longer. So the bottom line for baby boomers, there are a lot of things that can be done to fix the system, Social Security reform.
So tell people, I wouldn’t really worry about it. Politically. It’s really hard to take away something when the people that they’re taking that benefit away from tend to show up at the voting votes. So probably not anything that’s gonna happen with Social Security. Is there a clear way to think about Social Security? Now, a couple insights here. I’m going to walk through some insights that I have in the workshop here. Number one, Social Security is inflation protected income. Typically, when you get a pension, you don’t get an increase for inflation, Social Security. You do get an increase for inflation, or if you do get increases in pensions, they’re limited.
Typically private employers. You’ll never see it. If you work for the government, sometimes you do see inflation protected pensions, where it goes up. So the beauty of Social Security is you do have that inflation protection. So, you know, you’ve paid a premium and every paycheck. And you really want to think about when you collect and how you collect the benefits. Let’s say that you have a $2,000 benefit and you’re going to live 10 more years with a small cost of living allowance. You have, you’re looking at about $276,000 benefits. You live 20 years and you think about it. Most people, if you live to the age of, of, let’s say 67, let’s say that’s your full retirement age.
The odds being around at 77 are pretty doggone high and really high. If you’ve got a husband and wife, if you’re going to be around 20 more years, it’s about $600,000 with benefits for 30 more years. And that is completely doable though. The modal age for people dying, which is where the most, the greatest number of people pass away is age 89. So if you look at that and you go, wow, you know, that is a great likelihood to be around at least that long. And you see people living up to a hundred all the time. Now, let’s say that if you have a benefit of 2008, your cost of living adjustments are 2% per year. And you know, you look at 10 years, your $2,000 benefit is now $2,400 a month.
It kept up with inflation. If you have 20 years down the road, you’ve got almost $3,000 a month. And if you’re around 30 years from now, it’s $3,600 a month in benefits. So you can see that cost of living increases. Although it’s only 2%. My example here, that’s pretty significant. 2% happens to be the fed target for inflation, by the way. Now, how much can you expect to receive now? Your benefits are going to depend on how much you earned over your working career and the age at which you apply for your benefits. So those things are going to drive it, what your income was. And we’ll talk a little bit more about that in a lot more detail, the Ben points as we call them in just a second.
How Social Security Benefits Are Calculated
Now, how they are actually calculated is, is, is this at age 62, each year’s earnings are tallied up and index for inflation. So what they do is they take 35 years of data and they go back 35 years and they say the income you earned 35 years ago, how much is that in today’s dollars? So they take your highest 35. So let’s say you have five years of no income whatsoever, but you have 40 years worth of data. What they’re going to do is they’re going to go back and take the data prior to that, the most recent 35 years, they’re going to actually include that.
And so they’re going to use whatever your 35 highest years are. And then they come up with what’s called an average index, monthly earnings AIMA and you have these bend points that I was just talking about and what your bend points are, is how they calculate the manifest. And we’ll talk out, I’ll be more specific in just a second. So what happens is they calculate your benefits based on approximately your first $10,000 of income. I’ll just round what happens is, so they take all your income from all of your history. They bring it to today’s dollars. So let’s say that your average index, monthly earnings on average, you know, you did really well in your career and you had about $11,000 in income her month, all the way from when you started working until now.
And again, that’s all the inflation index till now. What’s your benefit going to be? Well, what they’re going to do is approximately your first $10,000 of income in a year or $996 a month. Really? So it’s a, it’s a little bit more than $10,000 in a year. They’re going to replace that at 90%. So another way of thinking about it is if you never had a lot of income at all, really, really low income, and your average income is only about a thousand dollars a month, you’re going to get 90% of your income is going to be replaced by Social Security. And your income will be almost completely replaced in retirement. Now, your next $5,000 per month, or next $60,000 of income per year is replaced at 32%.
So it’s at a lower percent verse 12 bout 90%. Next 60 is at 32%, then income above that is replaced at 15%. So you can see, even though upper income people are paying the same percentage on Social Security and their income. That’s up at a hundred thousand. Let’s say, even though they’re paying the same percentage, their replacement are how much they get from Social Security is significantly less. It’s only 15% for a lot of their income is actually being replaced by Social Security. So you can see that it is really geared to replace more of lower income people’s income than it is for upper income people.
So your primary insurance amount would be 30 to 62 in this example. And that’s what you’re going to get at. What’s called full retirement age. And we’ll talk more about what full retirement age is in a second. So it’s great to know. So why don’t I just claim Social Security benefits at 62 instead of delaying to full retirement age or even age 70? Well, the reason comes down to how much benefit you get. Your monthly benefit is reduced if you claim early, if you claim it at 62, it’s much reduced, it’ll be also reduced for taxes and Medicare premiums. When you, which I’ll talk about more in just a second here, and the benefits could actually be withheld if you work. So if you retire before you “retire,” and start taking your Social Security, but then you go back to work before your full retirement age, which might be 66 for some of you 67, somewhere in that range, you literally can have a situation where you’re losing a lot of your Social Security benefits.
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