What should advisors tell clients determined to take Social Security benefits at age 62 because they’re worried the program will run out of money?

It’s no secret that the Social Security Administration trustees have reported for years that Social Security funds will begin running out money by 2034 if lawmakers don’t pass legislation to change benefits, beneficiaries’ retirement age and/or the FICA taxes that employees and employers pay to fund the program.

But client motivated by fear could wind up being hit with a double whammy that could cost them 50% of their full-retirement age benefits, Social Security expert Mary Beth Franklin told more than 350 financial advisors at Financial Advisor magazine’s Invest In Women 2024 conference in West Plam Beach, Fla., today.

“The big elephant in the room for advisors is dealing with clients who think ‘Hey, I think Social Security is going broke. should I grab it now?” Franklin said.

“What I usually tell clients is, if you need the money, go ahead and claim benefits. You might be able to reverse the decision if you have to. But if you don’t need the money and you’re claiming Social Security out of fear, it’s like selling stocks in a down market,” she said.

What’s important for advisors and their clients to realize is there is real cost to betting that Congress won’t act to shore up the funds, Franklin said.

“If you’re going to take benefits early, let’s say your full retirement age is 67 and you claim now at age 62, you’ll take a 30% cut. And then your worst-case scenario happens and Congress does nothing, so benefits are cut another 20% on top of that. That would mean clients would be hit with a total 50% benefits haircut,” she warned.

Franklin said that it’s important for advisors to explain to clients that contrary to all the news articles they see stating otherwise, news of the 2034 funds’ depletion does not mean that Social Security is going bankrupt. Social Security continues to be funded by the FICA taxes that we all pay. Up to about 2010, we had more than enough FICA taxes coming in to fund Social Security’s obligation, Franklin said.

“Only when the big financial crisis of 2010 hit and a lot of people lost their jobs and the first wave of boomers started to retire was there not enough money from FICA tax revenues alone to pay off benefits. That’s when we started tapping interest on those $3 trillion trust funds. That was fine until about 2021 and the pandemic hit and a lot more people lost their jobs and interest on the trusts funds was not enough to pay benefits and we actually had to start drawing down the funds themselves. And that’s what we’re doing now,” she said.

If Congress does nothing, between now 2033 or 2034, the trust funds will run dry. What does that mean? There would only be enough FICA taxes coming in to fund about 80% of benefits, she said.

“Now, none of your clients are going to be real happy with the idea of being paid 80% of promised benefits,” Franklin acknowledged.

In reality, however, the likelihood that Congress will do nothing and allow benefits to be cut by 20% is highly unlikely, Franklin said.

“Congress does not like to tick off old people, who vote in high numbers,” she said.

By the time we get to 2037, we’ll have 70 million Social Security beneficiaries, and that could mean many ticked off seniors, she said.

“Do you really think Congress will let there be a benefits cuts across the board? I think it’s highly unlikely. They will step in, even if it’s at the last minute, like they did in 1983 when Social Security was in danger of not being able to pay full benefits. Social Security has never missed a payment in its nearly 90-year history,” she said.

Legislative changes, however, will have to be made going forward. “Possibly they’ll raise the full retirement age, but today’s two-year olds will live to 120. Possibly they’ll raise the income subject to FICA taxes or raise FICA taxes themselves. ... They could gradually increase the tax by by one tenth of 1% for 20 years,” Franklin said.

What investors should not do, unless they really need funds before full-retirement age, is lock in the potential for a haircut of 50% of Social Security benefits, she said. And that’s where advisors can add tremendous value in counseling clients with actual facts, she said.

Taking benefits early will also mean that clients give up the 8% annual increase in benefits they can earn between each year until age 70, Franklin concluded.