Everything You Need to Know About Social Security

retirement-exit-2My Comments: The monthly income my wife and I get from SSA is a significant part of our financial freedom. We paid into the system for 50 plus years and while I like to think I’m just getting my money back, it’s really much more than that.

As a financial planner and investment advisor for the past 40 years, arguments that I could have done much better had I been given a choice to invest it myself fall on deaf ears. Of the several hundred clients I’ve had, virtually NONE of them had the necessary discipline to save enough on their own, much less invest successfully. All these arguments are offered by those who have not yet reached retirement age.

For every retired person who has enough to maintain their standard of living without Social Security, I’ll wager there are several hundred who can’t. It’s not just a matter of skill; luck and timing are equally, if not more, critical to financial success. (that’s for another blog post someday)
Yes, there are existential threats that need to be addressed. But I suspect they will be addressed though perhaps not in my lifetime. Unless you plan to die before you retire, you need to know and understand Social Security.

Kristin Wong 10/21/15

If you pay taxes and you plan on retiring in your golden years, you should probably know a thing or two about Social Security. No doubt you’ve heard of it, maybe in the context of politicians yelling about how to fix it. But why is it broken in the first place, and what exactly is it all about? We’ve got your answers right here.

What Is Social Security?
In the U.S., Social Security is a government benefit dedicated to three general groups of people: retirees, families of disabled or deceased workers, and people with disabilities.

When you get a paycheck, you’ve probably noticed a little cash going to something called FICA. This is the Federal Insurance Contributions Act tax, and it’s what funds Social Security. Your money goes into a pot, and current Social Security recipients (your grandparents, perhaps?) are paid from that pot. When it’s time for you to retire, your benefits will come from the same pot, which will be funded by future generations who pay taxes (maybe your grandchildren!)

The pot is made up of two different trust funds: the Old-Age and Survivors Insurance (OASI) fund and the Disability Insurance (DI) trust fund. When the money coming into the pot exceeds the amount they need to give out, the Social Security Administration (SSA) has a surplus. That money earns interest, the same way you might save your extra money at a bank. Meanwhile, the government is allowed to use that money, the same way your bank might use your savings for loans.

What Happens When You’re Eligible
When you reach your 60s, you’ll probably start thinking about retiring. That means applying for Social Security as a source of retirement income. Hopefully it’s not your only source, though. Ideally, you’ll have been saving money over years and years to fund your retirement—whether through an employer-sponsored 401(k) plan or an Individual Retirement Account. You may also have a pension.

But Social Security can be a helpful addition to your retirement income. The maximum benefit for Social Security is $2,663, which isn’t much, and most people are eligible for even less than that. How much cash you’re actually eligible for will depend on a few different factors:
• Your age: You can start receiving social security as early as 62, but actual “full retirement age” is 65 (or older, you can check your own retirement age here) If you retire before that time, your monthly benefits could be reduced by up to 25% for the rest of your life. This makes sense, because you’re getting money earlier—so it’s the same amount, just reduced because it’s spread out over a slightly longer period. Similarly, if you retire after your full retirement age, you could get 8 percent more until age 70.
• Your wage over the years: The Social Security Administration takes the 35 years that you earned the highest income to calculate something called your Average Indexed Monthly Earnings (AIME). From there, they use a formula based on that number to decide how much you’ll be paid.
• Whether you worked for the government: If you worked for the government and received a pension, the SSA uses a different formula to calculate your benefit.
The SSA has a useful calculator to help estimate what your retirement payments will be. You can also get an estimate of future earnings by signing up at the My Social Security website.
Here are the average monthly Social Security benefits as of July 2015, according to the SSA:
• $1,336/month for retired workers;
• $1,282/month for widows or widowers over age 60;
• $1,165/month for disabled workers;
• $1,979/month for a disabled worker, spouse and one or more young children;
• $2,631/month for a widowed mother and two children.

If you’re ready to start receiving payments, whether it’s for retirement, disability, or survivor’s benefits, you can start by calling the SSA, visiting an office, or applying online. The SSA offers pretty straightforward instructions here.

The Real Problem with Social Security

You’ve probably heard that Social Security is doomed, and we’re going to completely run out of Social Security money within the next couple of decades and you’ll get screwed out of your benefits. This is actually untrue. However, it doesn’t mean things are completely rosy, either.

Another common misconception is that the government keeps borrowing money from the Social Security fund, which is causing us to run out. That’s not the problem either.

The problem is simple: we have more going out of Social Security than we do coming in.

Social security, in theory, is a great idea: you pay taxes now to ensure your retirement later. The problem is, it doesn’t work out that neatly in practice because the money you pay goes to an entirely different generation—it doesn’t come directly back to you. The Baby Boomer generation is retiring now, which means we have a lot of retirees, and thus are paying out a lot of money in Social Security. At the same time, we have fewer workers paying taxes and funding Social Security. So, we have less money coming in than going out: Investopedia calls it a declining “worker-to-beneficiary” ratio. It isn’t a problem right this second, because we have a surplus, but that surplus is running out.

When you hear news about Social Security funds being “depleted,” it doesn’t mean Social Security itself is crumbling and the sky is falling. It just means we’ll run out of that surplus money—money in the piggy bank, if you will. People are still paying Social Security taxes, so we still have money coming in. But it isn’t enough, so if we stay the course where Social Security is headed, future generations won’t get as much money.

For example, the piggy bank for Disability Insurance is projected to be depleted by next year. According to the SSA:
The Trustees continue to project depletion of the Social Security Disability Insurance (DI) Trust Fund in late 2016 if lawmakers take no action. This impending DI funding shortfall, which threatens beneficiaries with sudden and substantial benefit reductions, is but the first manifestation of larger financial imbalances facing Social Security as a whole as well as Medicare.

Once that fund is empty, incoming taxes will only cover about 81 percent of people who are scheduled to receive payments. And you can’t just not pay an entire percentage of people, so to address the problem, the SSA will have to automatically cut everyone’s disability benefits by 19 percent.

And that’s just disability. The rest of Social Security’s piggy bank is expected to be empty by 2034. This doesn’t mean they’ll stop paying benefits, but it does mean everyone will get less. If we stay this course, we can probably expect around 20% in cuts, according to the Motley Fool:
If Congress can’t come to a long-term solution that involves raising additional revenue and/or cutting expenses, benefits for eligible beneficiaries will be cut by 23%. That’s a big problem, and it has seniors and pre-retirees concerned.

Considering the majority of retirees get half or more of their income from Social Security, that’s a huge cut to contend with.

What the Government Is Doing About It
Politicians have all kinds of ideas on how to fix Social Security, but they all boil down to either increasing taxes or reducing benefits. You can browse OnTheIssues to see where any given politician stands, but most ideas fall into one of those two broad categories.

There’s currently a cap the amount of Social Security taxes taxpayers have to fork over. For 2015, the maximum amount of taxable earnings is $118,500, meaning if you earn more than that, you’re only taxed on the first $118.500. A lot of politicians talk about raising this amount, but The Commission to Modernize Social Security wants to get rid of the cap altogether. Member Maya Rockeymoore tells Bankrate that while most of us have seen pretty stagnant wage increases over the past few years, the earnings for the top two percent of wealthiest taxpayers have increased dramatically. By eliminating the cap altogether, high earners would be taxed more on Social Security.

On the other side of the coin, you could raise the retirement age. It would still reduce the full amount of benefits, since you’re postponing retirement, but it doesn’t require a tax increase. We’re already on course to raise the retirement age for future generations to 67 by 2027. One group, the Business Roundtable, wants to increase the age even further to 70.

How to Make Sure You Have Enough to Retire

You’re still going to get some Social Security money, but whether or not it’s enough to fund your retirement is a whole other story. Right now, benefits average about $1,300 a month, so even if that number doesn’t get cut down, it’s not like you’re going to be living it up in Paris on Social Security checks alone.

Your best bet is to safeguard your own retirement with your personal savings. That’s easier said than done, but it’s more reliable than trusting politicians to figure it out. The more you save (and the earlier you start!), the better off you’ll be. To get started, you’ll want to:
• Make sure you’re taking advantage of your employer’s 401(k) match
• Look into opening an IRA
• Learn how to build a basic “set and forget” investment portfolio

In short, the sky is not necessarily falling and Social Security won’t be completely gone by the time younger generations retire. But we may not get as much money as we expect, so it helps to understand what the issue really is, how it’s being fixed, and in the meantime, do what you can to beef up your own savings.

Useful links to more information:

http://lifehacker.com/5893900/double-your-investments-guaranteed-why-you-shouldnt-pass-up-employer-matching

http://twocents.lifehacker.com/a-beginner-s-guide-to-opening-an-ira-1607498930

http://twocents.lifehacker.com/how-to-build-an-easy-beginner-set-and-forget-investm-1686878594

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