Opportunity Costs in Retirement

Opportunity Costs in Retirement

A recent working paper “HOW MUCH LIFETIME SOCIAL SECURITY BENEFITS ARE AMERICANS LEAVING ON THE TABLE?” from the National Bureau of Economic Research takes lots of data, including the spending and taxation of families, and suggests:

More than 90 percent should wait till age 70. Only 10.2 percent appear to do so. The median loss for this age group in the present value of household lifetime discretionary spending is $182,370.”

What are they talking about? The lifetime difference between starting Social Security benefits early or late.  Everyone has this choice: Start benefits when I am younger and can more fully enjoy them, or be responsible and less likely to run out of money before I die.

How does the Social Security benefit start date affect payments?

You can begin receiving Social Security benefits as early as age 62, regardless of your full retirement age. Taking benefits early reduces them permanently, based upon the number of months that you receive checks before you reach full retirement age.

Example: James’ full retirement age is 66, and starts benefits at age 62. There is about a 25% reduction of James’ benefits. In an actuarial sense, early retirement gives people about the same total Social Security benefits over their lifetimes as retirement at the normal age, but in smaller amounts so as to take into account the longer period during which they will receive them.

In a personal sense, it all depends upon how long you live. It will take about 12 years of full benefits to recoup the foregone early benefits, so the break-even age is about 78.

Conversely, Social Security benefits increase by a certain percentage if you choose to delay receiving them. These increases will be added in automatically from the time that you reach your full retirement age until you start taking your benefits, or until you reach age 70. The percentage varies depending on your year of birth, but is 8% per year for those whose full retirement age is 66.

Does waiting really help that much?

Many assumptions go into the analysis linked at the beginning of this post (which they note in paper and highlight in the conclusion), but they find that a smaller disruption in living standards leading up to age 70 is outweighed by the greater payments after age 70 for the vast majority of people.

While taxes are important and should be taken into account in the analysis, the larger retirement picture needs to be taken into account as well. This analysis looks at the total received from Social Security, which could be much higher if you delay, and especially if you delay and outlive the normal life expectancy. However, everyone’s options are personal, and whether they can afford to wait is a more difficult question.

A contrarian perspective

If they can afford to wait, they could also take the money early to increase their starting capital for investing in retirement. Let’s assume a simplified example with a death date of 85, outliving the life expectancy curve. James takes early social security at 62 and receives ~$25K per year and invests it for 23 years and earns 7% a year. At the end his investment is worth approximately ~$1.38 million. Let’s say instead he waits until he is 70, which makes his payment ~$46K per year and does the same and invests it all (but only for 15 years). His investment would be worth ~$1.178 million. In this scenario, he’s better off with investing, but when the death date becomes 90, he would have made more by delaying payments. This example is also simplified, when we take that fact that Social Security is automatically indexed for inflation and the fact that market volatility won’t affect the payments, it does seem like the trade-off for waiting would have a lot of merit for a lot of folks. In 2022, there was a 5.9% increase in payments for Social Security to account for inflation, and in 2023 there will be 8.7% increase in payments.

However, understanding the larger picture of what you want to accomplish in retirement is most important. Although running out of money is not something that we want to happen to any of us, running out of time to do what we’ve set out to do happens to all of us. Time is precious is many ways when it comes to retirement. It suddenly becomes abundant, and we need to figure out what to do with so much unstructured time and become the leaders of our everyday destinies. This can also be a reason to delay retirement for some that crave the social interactions a workplace can provide. On the flip side, traveling around the world, and many hobbies such as golf or pickleball require one to be mobile, active, and fit. For some, these things could still be accomplished in their 60s, but in their 70s or 80s there would be less enjoyment due to the difficulties that come with aging.

At Garden State Trust Company, we understand the financial considerations that come with a work-optional lifestyle, partial or full retirement, and are pleased to provide consultations to help determine if you would be ready to retire in the coming year. We also understand that retirement is full of difficult choices regarding where you’re going to live and who is going to take care of you as you age, which is where our concierge lifecare management services come in. Whether you are about to embark into your golden years, or are living them already, we look forward to being of service.

This information is not written or intended as tax or legal advice, and it may not be relied on for the purpose of determining your Social Security benefits or eligibility, or avoiding any federal tax penalties. You are encouraged to seek advice from your own tax or legal counsel. The content is derived from sources believed to be accurate.