Dan Caplinger, The Motley Fool
Social Security is a vital part of the financial health of millions of retirees, and many older Americans can’t wait to get their benefits. Even though the full retirement age for receiving benefits is currently between 66 and 67 for those nearing retirement, benefits are available as early as age 62, and a large number of people take advantage of the opportunity to start receiving monthly Social Security payments as soon as possible.
Claiming benefits early comes at a cost. The Social Security Administration reduces the amount of the monthly payments you receive if you take them before full retirement age. However, the formula that the SSA uses is strangely complicated, making it a chore to figure out exactly how big a benefit cut you’ll have to take in order to get your benefits early. Below, we’ll look more closely at this weird way that Social Security deals with early benefits and what it means for you.
What the reduced-benefit formula says
Your regular Social Security retirement benefit is based on your work history and the amount of money you earned over the course of your career. The SSA takes your earnings each year, adjusts the numbers for inflation, comes up with an average indexed monthly earnings figure, and then makes a calculation of the monthly benefit you’d receive if you claim right at full retirement age.
However, if you claim early, you won’t receive 100% of your full retirement age benefit amount. Instead, that amount gets reduced as follows:
For every month that you claim before full retirement age up to 36 months, the amount of your monthly payment gets reduced by five-ninths of a percent of your regular benefit.
For every additional month early beyond 36 months, the payment reduction is equal to five-twelfths of a percent.
With all those fractions, it’s not entirely trivial to come up with an exact figure. The most common numbers you’ll find involve extreme cases. For instance, if you take benefits at age 62 and your full retirement age is 66, you’ll suffer a 25% reduction in your retirement benefits. If your full retirement age is 67 and you claim at 62, then the reduction is 30%.
A year-by-year guide to the impact of claiming early
Reductions of 25% or 30% are easy to understand. But when you look more closely at how this works month after month, it starts to look downright weird.
For instance, the table below shows how much someone with a full retirement benefit of $1,000 per month and a full retirement age of 66 would get after claiming early at any given age.
Age When Claiming
Increase by Waiting vs. Claiming 6 Months Earlier
62 and 6 months
63 and 6 months
64 and 6 months
65 and 6 months
Calculations by author.
As you can see, the benefit of waiting six months longer differs depending on the particular six months you choose to wait. Although the percentages that the SSA uses in calculating reductions are fixed, they refer to the full retirement benefit. As a result, the percentage changes between the calculated benefit amounts are actually different from each other.
Admittedly, the differences are fairly small, but they do have some implications for optimal claiming strategy. If you know you’re going to take benefits early, the bump you get from waiting from 62 to 63 isn’t as big as what you get from waiting from 63 to 64. Thereafter, though, the increases from 64 to 65 and 65 to 66 are somewhat smaller in percentage terms. That could push people to make decisions to claim at certain ages over others — such as at 62 instead of 63 or at 64 instead of 65 or 66.
Think carefully about your benefits
Because of the way that Social Security calculates reductions in early benefits, your financial planning needs to take some odd numbers into account. Whether that leads you to claim earlier or later than you otherwise would depends on your particular situation, but the unfortunate thing is that Social Security’s math doesn’t make it easy to come up with the best decision for your financial needs.
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Here’s an article on Millionaire Grant Cardone talking about 401(k)’s.
After graduating from college, Grant Cardone was broke and swimming in $40,000 of student debt, he writes in his new book, “Be Obsessed Or Be Average.” By 30, he’d made his first million. Since then, the 58-year-old has built five companies and a multi-million dollar fortune.
The self-made millionaire refuses to play by anyone else’s rules, particularly when it comes to saving money. “I would never, ever invest money in a 401(k),” Cardone tells CNBC. “Why would I go to work, have my employer give me another $6,000 a year, and then take that money and send it off to Wall Street, where I can’t even touch it for 30 years? I wouldn’t do that.”
The popular retirement plans are “traps that prevent people from ever having enough,” Cardone writes on his website. “The 401(k) is merely where you kiss your money away for 40 years hoping it grows up.”
Rather than focusing on saving, focus onearning — you can’t save your way to millionaire status, he says.
“Wall Street is telling you to invest little bits, early. They don’t believe in your ability to earn money,” Cardone tells CNBC. “People need to show the ability to produce more revenue — not invest it — first. People get rich because they produce revenue, not because they make little investments over time.”
And don’t just focus on earning — focus on earning big, says Cardone. “Keep stacking that paper until you have a hundred grand in the bank. I know this is very unrealistic for a lot of people, but the reason it’s unrealistic is because you’ve been conditioned to think small.”
Cardone is promoting saving the money you earn, but counter to most advice, he says to put the money in a good old-fashioned savings account — where your money is accessible at a moment’s notice — until you have at least $100,000. Then, you can start investing.
“Put your saved money into secured, sacred (untouchable) accounts,” he writes on Entrepreneur. “Never use these accounts for anything, not even an emergency. … To this day, at least twice a year, I am broke because I always invest my surpluses into ventures I cannot access.”
It’s important to note that the median retirement savings for all families in the U.S. is just $5,000, and the median for families with some savings is $60,000, according to the Economic Policy Institute (EPI). And many families have zero saved. Employer-sponsored retirement plans are meant to help address this and are a good option for many people. But of course, to Cardone’s point, they won’t help you get rich quickly or invest in opportunities today.
He’s not the only self-made millionaire to encourage this kind of thinking. After studying wealthy people for more than 25 years, self-made millionaire Steve Siebold found thatrich people set their expectations highand aren’t afraid to think big.
After all, as he writes in “How Rich People Think,” “No one would ever strike it rich and live their dreams without huge expectations.”