The Social Security Decision: The "Soft Stuff"

Mar 24, 2015

This is the third post in a short series of blogs about the critically important decision American workers face regarding when to start collecting their Social Security. Please share this blog as a public service with anyone you think will benefit from it. If you’re an executive responsible for employee benefits, share it with your coworkers. If you’re a finance professional or sophisticated financially, this discussion may be basic, but even so I encourage you to think of this as an exercise in quantation.

In the last two posts, we looked at the basic “mathematics” of the decision about when to start collecting Social Security, first on an undiscounted basis and then on a discounted cash flow basis. Now let’s look at some more subjective considerations that might shade your decision in one direction or the other. There are no numbers in this post, but an important part of understanding quantation issues is the words we use to describe them. These considerations include:

1. Your personal actuarial perspective. Do you smoke? Do you drink? How important are cheeseburgers in your life? What is your family’s medical history? Their longevity history? These questions, and others, will affect your perspective on your own longevity, the most important determinant of your decision.

2. Your tax rate over time.Social Security benefits are generally taxable like ordinary income. The model I’ve used assumes a constant tax rate, but if you believe that your tax rate will change during the course of your retirement years, you may want to base your analysis on after-tax benefits rather than pre-tax benefits. Examples of why you might want to do this:

You plan to work through your 60s. These are the years during which you have a choice about whether to collect Social Security (that choice ends on your 70^th birthday), and if you have significant income in those years, you may find that the marginal tax rate on Social Security benefits in those years is significantly higher than it would be in later years, once you’ve stopped working.
IRA/401k withdrawals. These withdrawals are taxable as ordinary income, regardless of how their value was built up. Even if you are financially secure in your retirement years and don’t need the money, the law requires you to start making withdrawals – and thereby realize ordinary taxable income – at age 70, thus possibly increasing your marginal tax rate.

3. Your alternatives. The decision about when to start your benefits is a rolling decision: You can elect to start at any time between your 62^nd and your 70^th birthdays, and each month of deferral means a slightly higher monthly benefit. Earlier in that time span, you may have more flexibility to examine your current financial situation and adjust your work and earnings-generating behavior accordingly. As you get older, your employability, your health, and your personal preferences may make those choices less feasible or desirable.

4. WHO is the money for? Your deferral decision may affect the Social Security benefits received by your survivors after you’ve moved on. If this matters to you, you should factor it into your life expectancy assumptions. Consult a financial planning expert to fully understand your specific situation.

5. WHAT is the money for? If your retirement is already reasonably well-planned and well-financed, you may be viewing your Social Security benefits as the funding for your “bucket list” of post-retirement activities. In other words, your Social Security decision may not be just about a pure cash-flow analysis, but about when you want the money to do the things you really wanted to do.

All of these factors can push your Social Security benefits timing decision in one direction or another. If your decision is still too close to call on a pure numbers basis, then do what all really astute numbers experts do: Trust your instincts.

“Painting with Numbers” is my effort to get people to focus on making numbers understandable. I welcome your feedback and your favorite examples. Follow me on twitter at @RandallBolten.