The New Social Security Rules: How to Adjust

The 2015 Bipartisan Budget Act dramatically altered the Social Security claiming and retirement planning landscape for couples. For those who are not aware, the popular strategy of having one spouse file for and then suspend his benefits and the other filing a restricted application for spousal benefits under the first spouse’s earnings record is going away after April 30, 2016.

The benefit of this strategy was the ability of one spouse to collect a spousal benefit based upon the other’s earnings record for the years from full retirement age (66 for most) until age 70 while his or her own benefit grows at 8% per year. The spouse suspending his or her benefit also sees his or her benefit grow at 8% annually until age 70. This strategy can result in an extra $35,000 to $60,000 over this period while both the benefits of both spouses continue to grow. (For related reading, see: File and Suspend: Still an Option, But Act Fast.)

For clients who have executed the file and suspend with a restricted application strategy already—nothing will change. 

Clients who have both reached their FRA before April 30, 2016 are still eligible to implement this strategy and financial advisors will want to reach out to them to ensure that they get everything done prior to the deadline.

For clients born prior to 1954, the restricted application with the ability to obtain a spousal benefit can still be used once the client reaches his or her full retirement age. The difference is that the other spouse must be receiving a benefit in order for a spouse to be able to receive a spousal benefit based upon the earnings record. This approach works well when there is a significant age discrepancy between them. For example, for a couple with an eight-year age difference, this strategy will work perfectly if one of them is receiving a benefit already.

For clients who are widows or widowers, nothing has changed or will in terms of claiming a survivor’s benefit. (For related reading, see: How Are Spousal Benefits Calculated for Social Security?)

At the end of the day, it still makes sense to wait as long as possible to file for benefits—at least for the spouse with the highest benefit if there is a major disparity between the two. The difference between taking your benefit at age 62 when first eligible and age 66 (the FRA for those born before 1960) is about 25%. Waiting from age 66 to age 70 adds an additional 8% annually to your benefit. As you can see, the total impact of waiting to age 70, if possible, is quite significant.

Using investing as an analogy: it’s hard to beat a guaranteed return of 8% per year.

If the benefits of one spouse are quite low due to his or her earnings record, it is not a horrible idea for him or her to take his or her benefit prior to age 70. This should be decided based upon a review of the couple’s overall financial plan.

For couples who will be shut out of this claiming strategy, they may need to rethink their retirement planning strategy. For those within a few years of retirement, some tough choices may be needed. If the extra $800 to $1,200 or more per month they were counting on for those four years will now be gone, they have a few choices.

Work longer into retirement. If this is an option for a client, tell him or her to consider working a year or two longer. The financial benefits can be significant when considering the impact of not having to draw down any of their retirement accounts, the benefit of a couple extra years of salary and benefits, a couple of additional years’ worth of contributions to their workplace retirement plan, and the ability to wait longer to claim Social Security benefits. (For related reading, see: Alternatives to the File and Suspend Claiming Strategy.)

Many organizations are formalizing phased retirement options in order not to lose the knowledge and experience of senior employees. The format of these programs vary so you will want to get the details from your company’s human resources department if this is an option for you.

File for benefits earlier than age 70. If the loss of the extra spousal benefits from the ending of the file and suspend strategy will severely hamper one's retirement lifestyle, then it may make sense for one or both spouses to file for benefits prior to age 70. The tradeoff is a permanent lower benefit level over one's lifetime as well as a lower base for any future cost of living adjustments.

For those client couples who have longer to go until retirement—say those 10 to 15 years away—there is more time to make needed adjustments in their retirement planning strategies. Here are a few thoughts.

Maximize retirement plan contributions. These are peak earning years for many clients, and it is crucial that they contribute the maximum amounts to their 401(k) plan or a similar defined contribution plan. These contributions add up and the money will serve them well during retirement.

Fund an HSA. If your client has access to one, encourage him or her to contribute to an HSA plan in connection with a high deductible health insurance policy. The contributions are made on a pre-tax basis, the money grows tax-deferred and it is withdrawn tax-free if used to pay eligible medical and dental expenses. The key is to use other funds to cover out-of-pocket medical expenses while working and use the account as an extra retirement savings vehicle. Fidelity Investments estimates the cost of healthcare for a couple at age 65 to be $245,000 during the folks' retirement, so an HSA can give an extra leg up on those expenses.

Focus on reducing expenses. With a relatively long time frame until retirement, encouraging clients to get their expenses in check prior to retirement can help ease the pain of losing this extra Social Security benefit.

Congress and the President recently gave retirees a not-so-pleasant surprise without much notice. Financial advisors can provide invaluable guidance to couples regarding their Social Security claiming options and their overall retirement planning now that the file and suspend strategy with a restricted application option is off of the table. More than ever, financial planning for retirement is critical. (For related reading, see: 5 Social Security Changes to Expect in 2016.)