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Maximizing Retirement Returns Through Social Security Elections

(This article is being published on my instablog because SeekingAlpha's policy is not to focus on personal finance issues as important as maximizing Social Security benefits which dwarfs any retirement portfolio management or investment strategy it publishes on its "Retirement" section by hundreds of thousands of dollars. Go figure? )

Most retirement advice dispensed focuses on "maximizing the value" of retirees' investment portfolios. This is a fool's errand.

Instead, pre-retirement couples would be better served to focus on optimizing Social Security retirement elections to maximize their career payroll contributions in aggregate retirement benefits. The difference could mean multiples of hundreds-of-thousands of dollars-the value of a winning a small lottery. (See example below)

If You're a Hammer, the World's a Nail. The reason for the sheer volume of advice focusing on retirement investing, i.e., recommendations concerning asset allocations, dividend growth stock purchases, creating bond ladders, purchasing single-premium annuities, etc., is that most of the retirement guidance is disproportionately dispensed by organizations that specialize in the lucrative business of purveying financial products and/or services. These purveyors range from money managers, banks, securities brokers, insurance companies, etc. Yet, for many, portfolio allocation plays only a minor-if not insignificant-role in securing a comfortable retirement.

The Limited Value of Retirement Investment Strategies: A paper released by the Center for Retirement Research at Boston College states that on average a superior money manager executing an optimal portfolio strategy would only generate an incremental retirement benefit equivalent to six months' salary for the typical retirement saver. The report suggests that this is due in large part to the very fact that few retirees have saved enough money in their retirement accounts for the "magic" of portfolio allocation or investment strategies to have a material, positive impact.

A Red Herring: The unhappy conclusion facing those born after 1959 and eligible to collect Social Security benefits is simple: without a material increase in their savings, 74% of households will fall short of their income needs at age 62 and 47% will fall short at age 67. Therefore, concentration on investment strategies to maximize investors' retirement "nest egg" is a "red herring", i.e., a questionable strategy for generating a comfortable retirement.

Alternative Strategies for a Comfortable Retirement: For "Generation X" ("GenX"), those born in the early 60's to the '80's, the message is very clear: save more, spend less and hope your cohort group does not get marginalized by any forthcoming changes in Social Security entitlement programs. Good luck with that!

Maximization of Social Security Benefits: For the baby boomer generation, where time has run-out to adequately save for retirement, there are strategies for couples to maximize their collective retirement benefits.

Social Security provides a number of legitimate options for couples to elect when and how they will receive their benefits. The choices can result in material differences in the accumulated retirement benefits during a couple's retirement years (see example below). Maximization of your benefits depends on many factors including your relative ages, your scheduled Social Security benefits, individual longevity, projected cost of living adjustments (COLA's) and when and how you elect your benefits-to name just a few.

Main Concepts: There are a few central concepts necessary to understanding the basic mechanics for optimizing a Social Security retirement benefits' election strategy.

1. Deferring Retirement Increases Benefits; Early Retirement Decreases Them: Assuming you're eligible, the longer you wait to collect your Social Security benefits the more money you will receive when you do. The earliest you can claim Social Security benefits is 62. However, your benefits will be reduced proportionally based on your age, the year in which you elect the benefits and the nature of elected benefits. Conversely, for each year past your full retirement age ("FRA") (66) you defer retirement, you will earn an annual credit (Delayed Retirement Credit ("DRC")) that increases your annual benefits up to the age of 70 when such credits stop accruing.

2. Spousal Benefits: As a spouse, you can claim a Social Security benefit based on your own earnings record or you can collect a "Spousal Benefit". A Spousal Benefit will provide one spouse 50% of the amount of the other spouse's Social Security benefits as calculated at the latter's full retirement age. This monthly benefit amount will be discounted to reflect any early retirement election. It will also preclude you from receiving benefit payments based on your own Social Security record-if you are eligible at a later date. Electing Spousal Benefits once you've reached your full retirement age will allow you the flexibility to gain DRC's during the period of Spousal Benefits. You are also eligible to switch to your own Social Security Benefit record at a later date at a higher DRC rate.

3. File and Suspend: One spouse of the two can file for benefits and then immediately suspend the benefits and not receive payments allowing the other spouse to receive spousal benefits. The spouse who files and suspends provides the mechanism for the other spouse to seek Spousal Benefits. This allows the suspending Spouse to continue to accrue DRC's until a later date when that spouse can elect benefits that reflect a higher rate of payment.

Why this is Important? Here is just one simple example. Let's assume that Jim and Betty are married. Jim (62) is scheduled to receive $2,000 per month from Social Security at his "FRA" and Betty is scheduled to receive $1,600 per month from Social Security at her "FRA". Their respective life expectancies are 83 and 90.

1. Scenario 1: Each decides to elect Social Security benefits early, at 62. They would receive in the aggregate $836,640 of Social Security retirement benefits over their retirement years.

2. Scenario 2: Betty claims her benefits on her record at 62 at a reduced rate of $1,200 per month ($1,600 monthly less a 25% discount for early-retirement at 62). Jim, now 66, claims a spousal benefit on Betty's record after she files for her benefits. He is now able to receive $800 per month (one-half of Betty's 1,600 monthly FRA retirement benefit). Once Jim reaches 70, he claims his benefits on his own record.

Utilizing the strategy of Scenario 2, Jim defers his own Social Security benefits until he is 70 years old, allowing him to accrue credits that increase the benefits on his record. During this time, Jim receives the spousal benefits based on Betty's record. By doing this Jim hasn't been deemed to have been using his own record to collect benefits. Once Jim reaches 70 years old, he can begin to collect his benefits at the rate of $2,640 per month. In addition, a further advantage of deferring benefits is that it increases the survivor benefits for his spouse (Betty) upon his passing.

Impressive Results: In comparing Scenario 2 with Scenario 1, by Betty taking early retirement and Jim taking Spousal Benefits and deferring and electing retirement benefits on his record at age 70 (Scenario 2), they will collectively generate lifetime benefits aggregating $1,043,520. This is an increase of over $200,000 over the same period under Scenario 1. It's the equivalent of winning a small lottery. (Neither the cost-of-living adjustment to benefits or the discounted value of future dollars has been considered in these calculations.)

What's the Point? It behooves couples approaching retirement, and the 10,000 people that do it every day, to try to maximize their Social Security benefits. It's legal and you may be leaving something on the table that you're legally entitled too.

Caveats: This article barely skims the surface with respect to permutations for optimizing a couple's Social Security benefits. This is a complex area that is dependent on many factors outside the scope of this article.

Before electing your Social Security benefits, you should speak with a trusted financial advisor with experience in this complex area and/or contact the Social Security Administration (1-800-772-1213, or go to their website: www.ssa.gov.) regarding information with respect to the election of a couple's retirement benefits. If you don't ask, you don't know. You may be throwing out a winning lottery ticket.

Joe Eqcome