On Monday, November 2, 2015, President Barack Obama signed the Bipartisan Budget Act of 2015. This new law contained several provisions, but one specifically affects Social Security claiming strategies, and these changes could drastically alter the Social Security filing tactics many retirees had planned.
Even though these changes might tempt people to think their old plans have been rendered irrelevant, it’s important not to throw out the baby with the bathwater but instead put the changes in perspective.
The important consideration is that Social Security as a longevity hedge will remain a cornerstone of many retirees’ financial futures. The law may not change your clients’ benefits as drastically as you think, and it’s still important to pursue a filing strategy that gets investors the largest overall benefits. And finally, in the long term, further changes to the Social Security system are likely to come more slowly than they did in 2016.
Understanding The New Law
There are two major changes to Social Security benefits under the new law. The first is your clients’ ability to file a “restricted application,” which is now limited to filers who were at least age 62 at the end of 2015 (born in 1953 or earlier). A restricted application allows a client to first claim benefits from a spouse for a time (typically between full retirement age and age 70) and delay his or her own retirement benefit until age 70 to earn delayed retirement credits of 8% per year. But for folks born after 1953, this option no longer exists.
If you were born in 1953 or before, to submit a restricted application you must be at least full retirement age. That would be age 66 for anyone born between 1943 and 1954.
The second major change affects people who planned to use a “file and suspend” strategy. This tactic has allowed workers, once they have attained full retirement age, to file for benefits but not actually receive anything. The result before now has been this: 1) The worker’s own benefits have continued to earn delayed retirement credits of 8% per year until the worker was age 70, and 2) Because the worker’s benefit record had been activated, any beneficiaries eligible to claim benefits (i.e., spousal) could have begun collecting those dollars.
The new law changes all that. Family members (other than divorced spouses) are no longer able to receive benefits based on the earnings of workers with a suspended benefit. This part of the law takes effect April 30, 2016. The good news is that anyone who was already taking advantage of this strategy before the deadline will not be affected.
Who’s Impacted And Who Isn’t?
Table 1 summarizes who is (and isn’t) impacted by the new law
The effects detailed in the table are separated into three categories:
1. Not Impacted: Your client’s filing strategy is not affected by the new law changes.
Note: If your client hasn’t filed for benefits and falls into this category, he or she may have to implement the strategy before April 30, 2016, to retain full benefits.
2. Impacted: Your client is no longer eligible to take advantage of the “file and suspend” and “restricted application” strategies.
3. Variable Impacts: The impacts to your clients’ strategies differ according to their ages and primary insurance amounts (the amounts they are eligible to receive at full retirement age).
Note: This variability is complex. Encourage clients to contact you to discuss their unique collection strategy. If clients are 66 or older by April 30, 2016, they may need to take action before this deadline.
Strategy Is Still Paramount
Regardless of the recent changes to the law, Social Security planning is still a critical component of any retiree’s financial plan. Social Security remains a rare asset. It lasts as long as the retiree does, and it keeps up with inflation.
It makes sense for retirees, unless for some reason they have a shorter life expectancy, to delay benefits as long as possible and maximize the monthly checks they’ll receive for life (and perhaps the life of spouses collecting survivor benefits). These rules will still hold true even if your client is affected by the recent law changes.
What the Changes Mean
For many individuals, the new law will decrease the total Social Security benefits they’ll collect over their lifetimes. But there are still effective strategies.
Table 2 depicts a scenario involving a married couple—part of the group most affected by the recent law change—and compares collection strategies under both the old and new Social Security laws.
Under the new law, Spouse 1 in this scenario can no longer collect spousal benefits until Spouse 2 has begun receiving his or her own benefit. This delays spousal benefits by one year, but a similar strategy can still be implemented to optimize the couple’s overall draw.
How much in benefits will the couple receive under the new law, as compared with the old law?
The cumulative benefits in Table 3 include an annual COLA of 2.8%, as utilized in the Social Security Trustees’ annual report projections.
The younger spouse starts benefits at age 66 under the old law and age 67 under the new law, while the older spouse starts at age 70 under both the old and new laws. With no strategy, the benefits start at age 62 for the younger spouse and age 65 for the older spouse.
As you can see from the table, the recent law will decrease cumulative Social Security benefits by a relatively small percentage. But it’s more important to note that choosing a proper filing strategy can still make a significant financial difference.
Perspective: Reform is Still Needed
The new law provides a relatively minimal change to Social Security’s long-term fiscal health. Bigger changes are needed to avoid an approximate 20% across-the-board reduction in benefits in 2034, when the trust fund is expected to be depleted.
Some changes that could be implemented to restore solvency include:
• An increase in the full retirement age of future beneficiaries.
• A reduction in benefits for younger generations.
• A decrease in the annual cost-of-living adjustment.
• An increase in payroll taxes or the taxability of benefits.
Most of these proposals would likely affect beneficiaries younger than age 55. Also, it’s important to be realistic about a time line for major changes to the system. The changes taking place this year are relatively small and therefore can be implemented more quickly than the larger changes that are likely to come.
To put this in historical perspective, in 1983 Congress passed a law to gradually increase the retirement age from 65 to 67, beginning in year 2000. We are still seeing this change being implemented today, nearly 33 years after the law was signed! This will continue until 2022, when those born in 1960 will turn 62 and become the first group to have a full retirement age of 67.
In a similar fashion, significant changes to Social Security going forward would likely be phased in over long periods of time so future generations could plan ahead for adjustments. This means that larger changes to the Social Security system would not be likely to impact current retirees. Anyone nearing retirement age right now should not let fear of future reforms thwart their Social Security planning strategies.
Where We Go From Here
If your clients are affected by the new law, remind them that it doesn’t negate the power of Social Security as a longevity hedge. Also, it’s still paramount to their financial security that they have an efficient strategy for collecting benefits.
Finally, we always suggest to clients that Social Security claiming strategies should be highly customized according to their particular situation. Encourage your clients to discuss with you how the new law affects them and whether they’ll need to take any action before April 30, 2016, to earn their highest benefit.
Amanda Lott is a partner and wealth advisor at RegentAtlantic Capital LLC.