As you plan for retirement, one source of income you might rely on is Social Security. Social Security has been a cornerstone of retirement income for millions of Americans. Still, demographic shifts, political debates, and funding concerns have led to questions about the program’s longevity and the level of benefits it will provide in the coming decades.
With the future of Social Security facing increasing uncertainty, it’s essential to approach this part of your financial plan with strategy and foresight, and if you are already retired, to understand how Social Security fits into your broader financial plan.
Important Background About Social Security
Social Security, which provides benefits to retirees, disabled individuals, and survivors of deceased workers, is facing significant financial challenges. This is driven by the fact that those who are currently working and paying into social security fund the benefits that are being paid out to retirees.
- When the workforce was comprised of baby boomers, the dollars collected by social security through payroll taxes exceeded the benefits being paid out. This resulted in the establishment of a surplus fund.
- Now, with baby boomers collecting social security, there is less money being collected from current workers than is being paid out in benefits. The shortfall has been funded by the surplus fund that had accumulated over time.
- According to recent projections, the program’s trust funds are expected to be depleted by 2033 unless Congress takes action to strengthen it.
Fortunately, the government has several levers it can pull to help protect benefits. For example:
- Payroll taxes can be increased, either by increasing the payroll tax rate (currently 12.4%, half paid by the employee and half paid by the employer) and/or by increasing the wage base on which payroll taxes are based (currently $176,100);
- Retirement ages can be adjusted upward for those currently in the workforce (currently, full retirement age is age 67 for those born after 1960); or
- The government could reallocate dollars spent elsewhere.
However, if no action is taken, by 2033, it is estimated that the program will be able to continue to pay approximately 79% of scheduled benefits, which could lead to reduced income for retirees. This doesn’t mean that Social Security will completely disappear; it means that benefit amounts may be reduced. Given how many people are dependent upon social security and considering that relatively minor tweaks could keep the program in good standing, social security will likely experience changes in the years ahead so that the program can continue to provide the benefits that retirees have come to expect.
Core Wealth Management answers common Social Security questions here.
What To Do Now
Given this landscape, whether you are still working, nearing retirement, or already retired, it is important to consider how social security fits into your broader financial plan and how your plan may be impacted if benefits are modified. By taking this proactive approach, you will be better positioned to handle whatever changes may come to pass.
First, understand what your cash needs are in retirement. What portion of your spending is fixed in nature (mortgage payments/rent, insurance costs, property taxes, groceries, car payments, etc.)? These are expenses that you cannot do much to avoid or reduce. Conversely, expenses that are more discretionary in nature are expenses that you can be more selective about incurring (travel, eating out, entertainment, etc.). The lower your fixed costs, the more flexibility you will have in retirement, as you can be discerning about how much you spend and the timing of those expenditures.
Second, understand the resources you can draw upon in retirement to meet your cash needs. This may include income sources like pensions, annuity income, part-time work, and social security, and it may include assets you can draw upon like cash balances, investment accounts, and retirement plans. Just as we talk about diversifying your investments across asset classes and geographies, ideally, you will want to have multiple places from which your cash needs can be met.
Third, understand benefit amounts and timing. Social Security benefits are based on your lifetime earnings, and the amount you’ll receive depends on when you start claiming them. You can begin claiming Social Security as early as age 62, but doing so results in a permanent reduction in monthly benefits. On the other hand, waiting until age 70 can increase your benefit amount by up to 8% per year.
Fourth, monitor potential Social Security benefit changes. It’s important to stay informed about the future of Social Security and any changes that could impact your benefits. While you don’t have control over what happens to the program, you can adjust your financial plan in response to legislative developments. For instance, if you have not yet retired, you may want to focus on paying down debt now and downsizing or reducing your fixed expenses in efforts to have more flexibility in retirement. If you have already retired, you may want to revisit how your investment accounts are positioned to meet your cash needs and potentially revise your distribution strategy or at least understand that you have the flexibility to modify it when/if you need to.
Fifth, stress-test your plan. Work with your financial advisor to run financial projections that evaluate how your plan would be impacted if benefits were reduced. Understand if and how your spending needs would need to be modified in order for your plan not to be compromised. If you would need to reduce your spending, monitor your cash outflows and be proactive about trying to make adjustments so that you are prepared for whatever may come.
Final Thoughts
When your financial plan was initially constructed, the only certainty was that it would change. Your circumstances and personal goals, tax laws, risk profile, the investment landscape, and policy changes are always evolving, and that is why it is so critical that plans be flexible. Upon retirement, you should have a plan and a back-up plan as to how your cash needs will be met. This may include:
- Ensuring you have sufficient cash balances that you could draw upon if the markets are down and you don’t want to sell investments to meet your cash needs.
- Having a properly allocated and diversified investment portfolio so that you can proactively choose what investments to sell to meet your cash needs, rather than finding yourself in a situation where you are forced to sell investments at an inopportune time.
- Having adequate insurance in place to cover long-term care or health care needs.
As the saying goes, “the only certainty is that nothing is certain.” Financial planning is never about certainty. It is about having a plan to guide you and provide direction, so that when you encounter bumps in the road, you are prepared and able to modify the course without compromising your goals.
While the future of Social Security is unclear, it’s still a vital piece of many retirement plans. We understand the complexities of navigating retirement in a time of uncertainty. As your trusted financial advisor, we are here to guide you, provide perspective, and help you make informed decisions regarding your benefits, regardless of what lies ahead.