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Early dip into Social Security has pros, cons

Bill and Wendy Budge of Spokane sought advice from a financial adviser and successfully staggered their retirments.
Bill and Wendy Budge of Spokane sought advice from a financial adviser and successfully staggered their retirments.

Until a coworker mentioned early retirement, neither Wendy Budge nor her husband, Bill, knew the option existed.

For 38 years, Wendy had worked as a medical technologist at Deaconess Medical Center. Bill had been with the American Cancer Society for 20 years.

Both were ready to call it a day but weren’t certain they had the resources to make it work.

“We decided to work with a financial advisor,” Bill Budge said. “We needed someone who could see the situation more clearly than we could. We paid a minimal amount to get an unbiased account.”

The news was good; using retirement funds and Social Security benefits, they’d be able to sustain their lifestyle.

After spending a year paying off debt and making home renovations, the Budges set their plans in motion. Bill Budge retired first, at 63. Wendy Budge, then 64, followed the next year.

For those born between 1943 and 1954, the full Social Security benefits retirement age is 66. However, under the provisions of early retirement, benefits first become available at age 62.

Baby boomers turning 62 this year – or in the next year or two – might feel tempted to dip into Social Security early, but the decision to take early Social Security has far-reaching implications – and there’s no one-size-fits-all solution.

“Every situation is different,” said Spokane certified public accountant Robyn Parks, owner of Parks Associates CPA.

A host of factors complicate the decision, she said. They may include: your current health and life expectancy; your marital status – both past and present; your earning history (and – for those who plan to continue working – earning potential); and your immediate need for income.

Parks said that for many the paramount need is cash flow.

“For a variety of reasons, many people will need to begin collecting their benefits as soon as possible,” she said.

Starting Social Security early comes with a penalty. Suppose that at age 66 you’re scheduled to receive $1,000 in monthly benefits. If you were to start drawing them at 62, your monthly benefit would be reduced by 25 percent, to $750, where it would remain as long as you draw benefits.

Nevertheless, Parks said, people in poor health, or those whose family histories point to an abbreviated lifespan, may be wise to begin taking benefits at any early age.

“Otherwise, they may never see them at all,” she said.

Health issues aside, some argue for taking early benefits with the intention of investing them. And some find that drawing benefits allows them to leave untouched tax-deferred retirement accounts.

Dependent children under 18, who live at home, may become eligible for benefits when a parent takes retirement. In such cases, early retirement may produce a higher total payout.

Many who take early retirement plan to continue working. For them, Parks has this caution: “In 2013, the maximum allowable earnings for anyone drawing early retirement benefits is $15,120. If your income exceeds that amount, you may have to repay some of your benefits.”

For those who can afford to wait, a third option exists; they may defer benefits until age 70. Although technically the funds in your account mature at 66, they continue to grow during those four years at the rate of 8 percent a year.

Your monthly payout grows accordingly. A person who would have received $1,000 in monthly benefits at 66 would, by waiting until 70, collect 132 percent of that, for a monthly payout of $1,320.

In each scenario, a person must consider the all-important break-even point. For every four years you defer your payouts, it takes 12 to 13 years to compensate for the benefits you would have received had you taken them earlier.

“It’s true that you will receive a smaller monthly payout if you begin drawing benefits before full retirement, but waiting until 66 means foregoing four years of payments, and it’s going to take around 12 years to catch up,” Parks said.

The same phenomenon occurs for those who wait until 66. And waiting until you are 70 means not breaking even until you turn 82.

“If you’re in good health and have a family history of longevity, it can make sense to wait,” Parks said.

A person who waits until 70 to begin collecting benefits and lives to 100 will receive a far higher total Social Security payout than they would otherwise.

Waiting brings other benefits, as well. Your Social Security payout is calculated on your highest earning years over the last 35 years of your work history. Replacing lower-wage years with higher wages after age 62 can increase your benefits.

Parks believes the Social Security system will survive the current political tempest without major changes.

“I believe that most professionals feel that any changes to the system will grandfather both current retirees and all those who are nearing retirement age,” she said.

Congress may choose to change the way Social Security benefits are taxed, she said, but there are no solid indicators yet of what decisions will emerge.

Like many early retirees, Wendy and Bill Budge had to resolve the issue of health care coverage.

Medicare, which significantly reduces the cost of coverage for older Americans, doesn’t kick in until 65. For the first year of his retirement, Bill Budge was covered under his wife’s work plan. When she retired, they used a federal program called COBRA to extend her Deaconess plan until they each turned 65. COBRA enables workers to pay for their own coverage for up to 18 months following the termination of employment.

With their health care needs resolved, the Budges soon discovered another potential retirement pitfall.

“When you retire, you’re so used to having your employer withhold insurance, vacation time and your taxes,” Wendy Budge said. “It never occurred to us that we needed to withhold our own taxes. We thought we’d covered all those bases, but we hadn’t.”

They dug deep, paid their tax bill and considered it a lesson learned. They are now on track with withholding and estimated tax payments.

Looking back, Bill Budge believes they could have answered their own financial concerns without the help of a professional.

“There are lots of sites online now where you can go plug in the numbers and get the answers you need,” he said.

While many retirees are able to make an informed choice on their own, for others professional input can prove invaluable.

“This is particularly true in the arena of taxes,” Parks said. “If you don’t know the law, it may be best to get professional help.”