Here's How Social Security Gets Impacted When Retiring Early

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Unlock the mysteries of your Social Security benefits and learn how early retirement may reshape your financial horizon. We're peeling back the layers of those complex government booklets to give you a crystal-clear picture of how retiring sooner than later can affect your golden years. Imagine hanging up your work boots with 30 years of earnings instead of 35; we'll walk you through a real-life scenario that reveals the surprising truth about the financial implications. Your feedback has been a beacon for us, shining light on the nuances of tax and estate planning, and it's our pleasure to respond with heartfelt thanks and deeper insights. We're not just talking numbers here; we're aligning your retirement dreams with the values that matter most to you, discussing how part-time work can still add value to your Social Security record.

As life throws its curveballs, it's essential to keep a fluid stance on your retirement game plan. This episode dissects the art of adapting to unexpected health issues, navigating Roth conversions, and pinpoints the optimal moment to claim your Social Security rewards. Ever confused about spousal benefits and delayed retirement credits? We're busting myths and offering a masterclass on getting the most out of your retirement together, for better or for richer. Couples, take note on how a strategic stagger in benefit collection could fatten up your financial future. Finally, we cast the spotlight on the Rule of 55, Rule 72(t), a little-known strategy for the early retiree looking to sidestep penalties. Whether you're meticulously drafting your exit strategy or just contemplating the possibilities, this conversation is your guide to bridging the gap between a comfortable retirement and the life you've earned.

Create Your Custom Early Retirement Strategy Here

Ari Taublieb, CFP ®, MBA is the Vice President of Root Financial Partners and a Fiduciary Financial Planner specializing in helping clients navigate the nuances of an early retirement.

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PS: Before anyone decides to move forward with our services, I want to ensure we're the best fit to help you reach your goals and I personally have the first conversation with you.

Transcript

Speaker 0: 0:00

If you want to retire early, you have to look at social security a lot differently. And here's why Social security is based on your 35 highest years of earnings. So, hypothetically, if you retire at 55 and you work at 20, and that's when you begin your earnings it's pretty simple you work at 20, you retire at 55. There you go, you got your 35 highest years of earnings. Don't have to worry about it. But a lot of you are going hey, we're considering an early retirement and you know, real earnings didn't start for us until 23, 24, maybe even 25. And we want to retire at 50 or 55. And so if I start working at 25 and I stop working at 55, well, I've only got 30 years of earnings. So how does my social security benefit change if I've got five big zeros there? So if you're going to go do some planning projections on your end social security, when you look at your statement it's going to assume you're just continuing to work. So that benefit number that you see there, it's not entirely accurate. Now don't freak out, because it doesn't get impacted, I think, to the degree that you think it does. It's still a difference. I'm going to explain it today through an example, but I don't want you worrying about it to the degree of, hey, should I just keep working two or three years just for this social security benefit? Okay, so let's work through an example.

Speaker 0: 1:09

I have a quick review of the week and then we are going to, of course, hop in In this review. I'm just pulling up on my phone right now. I know a lot of you are watching on YouTube and a lot of you are, of course, just taking this in on iTunes. So wherever you are gathering this information is good with me. It'll always continue to get posted on both. That's a question I'm often asked. This one comes from Terry Shay S-H-A-Y, who says Lovely show, excited every single week and more excited when you post on a Friday in addition to your Monday episode. Thanks for all your help, especially on the tax and estate planning. You're very welcome and I love doing what I do.

Speaker 0: 1:47

Now. All of you know this by now, but I want to make sure that you retire with total confidence, with and none of that head trash and that thing in the back of your head going, hey, am I not going to be okay if markets do this or if, for example, my withdrawal strategy doesn't become effective, if I'm taking too much out, all that is head trash, and so having a good plan that lets you sleep at night, let your spouse sleep at night, make sure that you are optimizing and that your children are getting optimized as well that's why we love what we do. So, with that being said, let's hop in. I've got a few fun examples. I'm just going to go right into it because this is important. So, specifically with social security, it looks at your 35 highest years of earnings and I'm going to pull up a quick study that I did and I essentially wanted to know. Let's assume that you collected $100,000 a year, every single year, for 35 years, your full retirement age benefit at 67, assuming this example would be $2,893, versus if you collected 100,000 a year for 30 years so five fewer years the benefit would be $2,685. That's just full retirement age. So the gap continues to widen if we're collecting at 70 and it's less wide, of course, at shortened of course, at 62. So in this example, let's just call it about $200 and $8 difference there from deciding 35 years versus 30 years. Is it significant? Yes, because $200 really. You know, every single month over the course of the year, you go, okay, $2,400 a year and you compound that over many, many years.

Speaker 0: 3:14

Some people would say, oh, that's just free money I'm leaving out on. I don't look at it that way. It's the same way. People say, hey, there's a huge tax burden to living in California. I go, you're right, there is, I love the weather and I love that my family's here and so, yeah, I am overpaying in taxes. That's how I feel and I'm happy to do it because of XYZ. Some people go, hey, I just can't live with it. I cannot live with the tax rates. It doesn't work with me. Politics are a whole other story, but I want out. It's like great, then, that's what's most important to you. So there's no right or wrong to this. I just wanna make sure that you all are understanding that you don't wanna simply go. Okay, I know I can maximize my social security benefit by working 35 more years. So, yeah, I'm miserable right now and I'm not in good health, but I'm gonna work two more years because I wanna maximize my social security benefit. Don't do that, okay. So not that you are, but just wanna make sure we're out of the way there.

Speaker 0: 4:02

Next thing I wanna talk about is how credits work. So how do you become eligible for credits, you need at least 40 credits. So 40 credits means you're eligible for social security and in 2024 specifically, you must earn $1,730 to get one social security work credit and you can get a maximum of four in a single year. So 6,920 is to get maximum four credits. So some people come to me and they're like, hey, I don't wanna do nothing in retirement, I just want. I don't know what I wanna do yet, like how should I fulfill my time. And they're saying should I volunteer? Should I do part-time work? If they're considering part-time work, I'll say, hey, if the truth is, you have a lot of zeros already in your social security earnings record and you're gonna even bring in, let's call it, $7,000 a year. It does make a difference. So it is worth not just working for work sake, but it's worth at least considering, with an early retirement, maybe going and finding a job that pays not like a hundred thousand a year, so you can still go, actually do what you wanna do, but actually say, hey, I don't need a hundred thousand a year just to make a little bit of a dent on my social security earnings record. You just need to make up to 6,920 to get the maximum for credits.

Speaker 0: 5:08

Now, once again, social security benefits. Looks here 35 highest years of earnings and if you don't have those earnings it's a zero. So it completely depends, of course, on level of earnings in years. But really, for a social security early analysis that I want you to consider, it's quite simple, which is it depends how early you are retiring, but let's assume it's 24 months early. Take that 24 months, and I'm doing it with you on my calculator right now. Take that 24 months, divide that by 120 and that's 20%. So 24 months. So one month, 12 months in a year, of course, two years, that's 24 months. Divide that by 120 and that's the percentage that's going to get reduced of your Social Security benefit. So if you were retiring, let's say, three years early, you take 36, 36 months, three years, divide by 120, that's 30%. So if you're just going, hey, what's the level of impact on my social security decision? That's quite simply how you calculate that.

Speaker 0: 6:06

Now I want to go over spousal benefits, because there's a big myth here that most people get off here. So I'm gonna go over that in a second, but before I do I want to kind of share all of you one quick thought, which is most of you are reaching out. You're gonna go like this to me. You're gonna say, hey, I think I'm collecting earlier. Yeah, I know it's a smaller amount, but I'm gonna get for more years. I don't know how long I'm gonna live.

Speaker 0: 6:26

I did some break-even analysis and it looked like age 81 sounded pretty good. So that that's kind of what I'm thinking. But you know, there's another part of my brain that's going maybe I collect later, maybe even age 70, which is the latest I can collect, because I know that's my maximum benefit and yeah, it's, I'm not getting it, you know, earlier I'm kind of delaying on purpose, but I know I just, you know, from full retirement age to age 70, I get that 8% increase. So I really like that. So which one do you think I should do, ari? And they'll ask me like that, I go, I think it should have nothing to do with that analysis, right there, and they're like, what do you mean? Like, is that exactly what it is? I go, okay, not nothing.

Speaker 0: 6:59

But the premise here, what you're not asking, is what makes most sense for a tax strategy perspective, because most of you that are reaching out you have a big RMD issue which is required at minimum distributions. You have a very healthy pre-tax balance and if you turn on that social security benefit early, that's increasing your income which makes it a whole lot less effective to do Roth conversions or other tax strategy. So I'll ask a client, I'll say, hey, what's health and life expectancy like in your household? And they'll say, you know what? Not too great, but I'm still delaying. I want to max on my benefit. I'll go. Well, you know, if you pass in your late 70s, yes, you would have had a larger benefit, but you've had it for fewer years so you would not come out on top and they go got it. So you're saying age 70. Thank you so much. I go no, no, no. But based on your RMD projections, I actually like the idea of you collecting at this age, but I want your spouse to stagger it and I want them to actually turn it on earlier. So yes, the answer is 70 and then they go. Wait a second, like you're confusing me more, here I go at.

Speaker 0: 7:51

The premise of good social security planning is you don't marry anything Meaning. Let's assume you're doing really effective Roth conversions in your late 50s or early 60s, which is where you move money from your IRA to your Roth IRA. You pay a little bit in taxes, gladly to avoid a big tax bill in the future. You are lowering those required minimum distributions. The beauty of doing this is that if you do really effective tax strategy you might find at age 62 or 63 you don't really need to do many more Roth conversions and you can turn on your income there. But if you're 57 right now and you're going, I'm gonna retire early and I'm gonna collect Social Security for retirement, I say, hey, maybe take a step back and just see how well you do with tax planning when you want to retire and base it off from there.

Speaker 0: 8:33

For our brains it's really nice to say I'm gonna collect at 62 or for retirement age or age 70. We kind of fall in those buckets when in reality sometimes if, for example, markets are doing really well, we're gonna have like a limit of Roth conversions that we're gonna want to implement, but maybe not too much. And then I'll tell a client we're gonna want to turn on Social Security, but let's not turn it on until maybe 65 or 66. And are you open to being dynamic with that? No, say yeah. And then this is a real-life story a client came to me and they like wanted the answer. They wanted, like, tell me when to collect you. We are gonna be right back in just a second talking about everything you need to know to retire early with total confidence. But I need you all to know that if your financial strategy looks great through good tax planning or withdrawals or investments everything I talk about on the show but your actual physical health will not allow you to live your dream retirement, then all that financial stuff goes out the window pretty quickly. So today's episode is brought to you by Myo Detox, which takes a holistic approach to your body in the same way I take a holistic approach to your finances.

Speaker 0: 9:32

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Speaker 0: 10:43

Now let's get back to the show. And I said, to be honest, I won't do it. And they're like why not I go? You'll see, years kind of went by and they had a really scary health event. And they're like oh my God, I don't know how long I'm going to live, but Roth conversions we did a good job already of this already. Like, when should I turn it on. I go, let's do it right now. But we kind of templated it for retirement age. I go, that's right. Then you got this health diagnosis and I want you to collect this for as many years as possible. We did a good job with Roth conversions. We're still going to do more, but now is a really good time to turn it on.

Speaker 0: 11:10

And here's the math behind that. And they go oh my God, I get it now and kind of preach to me to tell all my clients don't marry your social security strategy. What you want to do is almost nothing wrong with having like a hey, here's what I'm thinking about. Maybe I collect at 70. And my spouse collects it for retirement age, and whether it's a spousal benefit or something like that we'll talk about in a second. But that's what most people want. They want like a template hey, in the back of my head. Here's kind of what I'm planning on, which isn't bad. I actually like that. But then, as long as you're open to being dynamic based on your specific plan, you can really optimize your taxes and how much you're going to put in your pocket at the end of the day. That is why you're asking that Now let's go to social security for a second, because there's a big myth here that I want to bring up. I'm just pulling something up on my screen right now and it is in regards to this example that we often talk about.

Speaker 0: 12:00

So what is a spousal benefit? A spousal benefit is essentially let's assume that you've worked for 35 years and you can collect what was the example here. Let's assume that your full retirement age benefit is $2,000 a month. So let's assume my name's Ari. My partner's name is Alice. Let's assume I want to collect my full retirement age benefit at $2,000 a month. My partner can say I want half of Ari's benefit for $1,000 a month. That's what she's eligible for. Now let's assume I waited until age 70. And now, to keep numbers simple, I could collect $2,500 a month. So instead of $2,000, I collect $2,500 a month.

Speaker 0: 12:36

Some people go well, my spouse is going to do the spousal benefit, so I'm going to get not half of $2,000, alice is going to get half of $2,500. When in reality that's not how that works. So the most a spouse is eligible for, it's half of my full retirement age benefit, never half of my age 70 benefit. So once again, half of my full retirement age, not my age 70 benefit. So spousal benefits don't earn delayed retirement credits like the normal retirement benefits do. So those delayed credits from full retirement age until age 70, that's not how that works. So just wanting to be aware of that.

Speaker 0: 13:13

One important detail here I always go over is when you are considering early retirement. It is a team decision, so let me take an example for you right now. So let's assume I'm going to collect full retirement age benefit of $2,000 a month and let's assume I'm married to my partner, alice, and she has the ability to do a spousal benefit or her own. What she might do is say you know what I like the idea of turning on my social security benefit fairly early, meaning her benefit in this example. So maybe she's going to turn on her own benefit for years that she works she's a teacher right now, and so let's assume she wants to turn on her benefit of, let's just say, $500 a month. To keep it easy, starting at 62, which is the earliest she can collect and I'm going to, you know, my 70 benefit is $2,500 a month she might want to turn on hers immediately and collect $500 a month, every single month, or $600 a year, every single year until age 70, when then I'm going to turn on my benefit. And then, if God forbid, I passed away at 71, she's now getting my benefit, the age 70 benefit of $2,500 a month for the rest of her retirement.

Speaker 0: 14:19

So oftentimes social security it is a team decision. Here A staggered approach can be wonderful, where someone can take a spousal benefit, but that spousal benefit in this example, alice could not turn on that $1,000 a month benefit unless I actually turn on my benefit. So she cannot just say you know what? I want you to delay until 70, but I want to collect half of your full retirement age benefit. It doesn't work that way. They have to actually turn it on. So that's the way social security income works. In that end, always make sure if you are considering social security, that is in conjunction with your tax plan. That is the big thing that I'd say.

Speaker 0: 14:54

Number one thing most people overlook they turn on social security and then they want to implement cool tax strategy and at that point social security is not making it as effective because it's increasing your income. It's the same reason with any type of planning and you want to retire early. You're looking at maybe a rule of 55 or 72T distribution, just to kind of break out some myths there. Rule of 55 is great. If you want to retire early and you have no brokerage account, no other way to pull income, no equity from a home, you can retire early. And at 55, you can avoid the 10% penalty if you decide to stay at your employer in or after the year that you turn 55, assuming that your plan allows for it. There are some instances where I've seen a plan not allow for it and someone went and retired and it was a nightmare because they had to go back to work because they were not able to actually use that rule. So don't let that be you. And then that's kind of how the rule of 55 works. So if you have a 401K at that company, you can't move it to an IRA, it has to stay there. But you get to avoid the 10% penalty. You still pay ordinary income taxes. But I don't love the rule of 55 unless there's no other options, because then you can't really do a ton of effective tax strategy because that IRA the 401K income that will increase your income.

Speaker 0: 16:05

The other thing to think through here you may have heard of a 72T distribution. Really it's not that, it's called rule 72T in the IRS. I think that's an internal revenue code numbers and letters 72t, but it's substantially equal periodic payments. Which is the concept that you go hey, I have no other way to pull income. What you can do is you can essentially tell the IRS quite simply hey, I don't have any other way to pull income, but I want to retire early. So what I want to do is I want to absolutely mandate and I'm okay with this that I take out a certain payment every single year for five years at a minimum, and if you don't, there's penalties that come along with that. But the premise quite simply, is you are saying, hey, I've got this, you know, 401k or an IRA and it depends, but if you want to take those funds, you're saying I'm going to take 60,000 every single year. You can guarantee that.

Speaker 0: 16:54

The reason I don't love it is because if you're doing good tax strategy, because you're worried about RMDs or other things, it doesn't make it that effective, meaning yes, you're able to take that income, but if something changes and you turn out not to want to take that income, or if you forget, or if it's not exactly perfect, you're going to hit with some big penalties. So none of these are bad options. I think they're all actually good options. That's why they exist. But just because something exists doesn't mean you want to use it too often. Someone will come to me and it's hey, I saw this fancy thing where I implement this strategy and then I use a third party and then I you know, I operate that out of my neighbor's garage. Just kidding, they never say that, but you get my point here.

Speaker 0: 17:31

Don't over complicate for the sake of over complicating. Now, if you want to retire early and we don't have all these other aspects of plans, your plan available that's a different story, but hopefully this was helpful just to kind of go over that social security example, which is, you saw at the very beginning. You know it's a $200 benefit every single month that is being shifted for someone who has five zeros. If you have 10 zeros, it's a much larger impact. If you have fewer, it's even fewer. But you know it's quite simple Don't just go retire early for the sake of retiring early, but also don't take the opposite approach, which a lot of people do I'm just going to keep working just to maximize and get those full 35 years.

Speaker 0: 18:06

That's another myth that I think people fall into. Yes, it's a smaller benefit, but it's not as if it's 2000 a month and five zeros make it 500 or a thousand a month. It's not that big of a drop off. So, yeah, it's a few hundred bucks a month planned for it. But once again, the reason I do this show is not to kind of bring out and start doing rocket science. It's sometimes just hey, validating. Yeah, it's a few hundred dollars a month. That is being changed. If you decide that you want to retire early and there's some zeros in there, don't let that dictate your dream life. So if you are looking for guidance on tax strategy, withdrawal, estate planning, it's what we love to do and that's all I had for you guys today. Love you guys.

Speaker 0: 18:42

Thank you for listening to another episode of the early retirement show. If you have a question that you want answered in a future episode, you can always go to my website, earlyretirementpodcastcom. That's earlyretirementpodcastcom, and you can go ahead and submit a question that I'll look to answer in a future episode. Thank you all for listening. Please do rate it, review it and share it with someone who you think would benefit from this information. If there's anyone out there that you know, I certainly appreciate it and I will see you all each week. Hey guys, it's me again. Please be smart about this. Nothing in this podcast should be construed as financial, tax or legal advice. Consult with your tax preparer or financial advisor before taking any action. This podcast is for informational purposes only. You