Social Security; what it is and how you should include it in your retirement planning

September 29th, 2021 by D.C. Poc

You can’t peruse Google without seeing references to the failing Social Security Trust Fund. So you’re probably wondering, what is Social Security anyhow? Well, it’s something you should definitely keep tabs on for the sake of estimating your retirement.

What is Social Security?

In 1935, President Roosevelt signed the Social Security Act into law. It was created to promote the economic security of the nation's people per the Social Security Administration. It was designed to pay retiring workers aged 65 or older with continuing income after retirement. Today, the typical claimant age falls between 62 and 70, and currently 1 in 5 Americans are collecting a payment. This is a total of 63 million beneficiaries. We can clearly see that the system is heavily relied on.

How Social Security impacts you

When you’re young, the system impacts your paycheck, adversely. Each paycheck, you pay what is called Federal Insurance Contributions Act (FICA) payments which are what fund both Social Security and Medicare. You may also hear these referred to as “payroll taxes.” In essence, you’re paying for current retirees' benefits while you’re working and the next generation will pay for you when you’re retired (at least that’s the goal). Currently, the individual pays 6.2% for Social Security as does the employer whereas the Medicare rate is 1.45%.

With that said, Social Security can have an impact on your retirement. The higher the amount of your benefit, the less money you need to have from other sources in order to retire. Simple, right?

Expenses in Retirement: $70,000
Social Security: $25,000
Pension Payment: $20,000
Gap: $25,000

As you can see in the example above, you would have a $25,000 spending gap between your pension and Social Security and your total expenses. You can fill this gap by using income from retirement accounts, traditional savings, rental properties, annuities (Single Premium Immediate Annuities (SPIA) ONLY), and other less traditional forms of income. You can also fund the gap by working longer and increasing your Social Security benefit amount, but more on that later.

How the benefit amount is determined

First, you need to be eligible for a benefit. This can be done by having a minimum of 40 quarters of qualifying earnings or can be gained through your spouse’s benefit. More information on this can be found on the Social Security website.

The benefit amount is a formula which involves your highest 35 years of earnings over your career. I’m not going to get into the math because you can easily access your statement which will break this down for you. In reality, it would be a good idea to ensure you have at least 35 years of earnings so you don’t have any “zeroes” on your earnings records and possibly continue to work longer to replace years that had really low earnings.

The benefit amount is also determined by the age in which you claim benefits. At 62, you’re entitled to the lowest benefit amount available. For every year you delay benefits after age 62 and up to age 70, you’ll gain 8% more in benefit. Due to compounding, this equates to more than 70% more at age 70.

As an example, my benefit estimate at age 62 is $1,950, while at 70 it is $3,457. This is a 77% increase in benefit amount and that’s not even including the Cost of Living Adjustment (COLA)!

How to check your projected benefit amount

Easy. Go to my Social Security, where you can create an account today. By doing this, you can view your earnings record, which shows your earnings throughout your career, and the amount both you and your employer have paid into the system. I would provide you with a sample of the new Social Security statement released in April of 2021, but unfortunately, it doesn’t appear that the Social Security Administration (SSA) has provided one and I’m not willing to provide my own. Nonetheless, this is even more of a reason to sign up for your own account!

NOTE: be prepared to answer some personal questions while applying for access. This is required so the SSA can verify who you are.

What to do with this new found info

I’d love to tell you that you should take your newfound estimate exactly and use it for your retirement projections, however, this would probably be bad advice. Instead, you should reasonably estimate what that amount will be.

For me, I take 75% of my current estimate and use it for retirement planning. I do this because I don’t have full faith in the Social Security Trust Fund, which, as you may have read, is poised to run out of money in 2034. This doesn’t make people sleep well at night. The second reason I think 75% is a good number is because the Social Security estimate does not include inflation. So if you check your account and it estimates that you’ll get $2,200 a month at Age 62, but then we have a Cost of Living Adjustment (COLA) of 6.2% this year, your estimate is now 6.2% low. I’d rather be low, than high.

Other factors

There are a ton of unknowns when it comes to Social Security including:

  • Will it be around when I retire in 30 years?
  • Will my amount be reduced so significantly that it doesn’t meaningfully impact my retirement?
  • What if the contributions become 10%? 20%? Etc.
  • What happens to everyone that is currently retired if the system fails?

Yeah, I know, not too confidence-building, right? You can’t control what you can’t control. This is 100% one of those things that probably aren’t worth the stress. I have no idea what is going to happen next week in U.S. Politics, so I’m certainly not going to try to predict the long-term viability of the Social Security system. Instead, I’m going to control the things that I CAN, and ensure that the rest of my retirement is shored up to the best of my ability. That is what Wealthy Idiots do.

But seriously, sign up for my Social Security account today!

D.C. Poc
Co-founder of The Wealthy Idiots, Index Fund Investor, Real Estate Investor

D.C. joined the Marine Corps right out of high school. When he left active duty, after 5 years of service, he quickly earned a bachelors degree and an MBA. He got his first private sector job at a modest salary and quickly worked his way up through promotions. Once he started making decent money ($38k at the time) he quickly realized he needed to learn how to save to secure his future. After nearly ten years of research, he wants to share his knowledge and financial best practices so more people can become Wealthy Idiots!

Disclaimer: The Wealthy Idiots is not a financial advisor and nothing on this site is intended to be used as financial advice. This site operates as a generator of ideas, which sparks financial curiosity and leads to growth in financial knowledge and understanding. If you need specific advice, it is recommended that you speak with an estate attorney, fee-only financial advisor, tax consultant, etc., depending on the area of expertise your question requires.
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