Social Security Timing: What Couples Should Consider

In this series, we provide our readers with two distinct perspectives on the same topic — one from an academic, the other from a practicing financial advisor.

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Check out the previous column here.

QUESTION: How should a married couple decide when to claim Social Security?

THE ADVISOR — JOE ELSASSER, CFP, PRESIDENT, COVISUM:

Over the last several years, most advisors have learned that there is more to a Social Security claiming decision than meets the eye. The simple rule that most consumers follow is this: "If I expect to live a long time, I should delay my Social Security benefits. If not, I should take them as soon as possible."

Smart advisors have realized that the "I" in how married couples think about the question is the root of the problem. When couples replace the "I" with "either of us" and "our," they arrive at a different answer.

Consider John and Jane Smith. John is currently 62 and Jane is 60. Both held higher paying jobs throughout their lifetimes, such that John's projected Social Security benefit at full retirement age (FRA) of 66 and 4 months is $2,600. Jane's projected benefit at her FRA of 66 and 8 months is $1,800. Assuming they live to 90 and 94 years respectively, the difference in value between claiming early versus both delaying to age 70 is over $250,000 in favor of delay. Simply quantifying the number (in an academically sound way) is enough for most couples to take notice.

There are two drivers for the dramatic value difference. The first is the value of the increases in monthly benefits. Both benefits will increase by over 75% by virtue of delaying from 62 to 70. Second, and most importantly, is the value of the survivor benefit. Because John's benefit is larger, it will continue to be paid for as long as either John or Jane is alive. In other words, delaying John's benefit is like a joint and survivor pension option. Think of it this way – if your client was given a choice between a life-only pension and a joint life pension in the same monthly amount at work, they would almost always take the joint life payout. Each month of John's delay is like being able to buy a little bit of extra joint life pension for a single life pension price. That's a pretty incredible deal.

For a joint life pension the entire decision is about "we," not "I". Orienting a Social Security decision in the same way and quantifying together the value of the various election options over a joint lifetime will help clients avoid the framing issue and allow them to make the decision that is best for the household overall.

For most clients, identifying the optimal solution "in a vacuum" and without regard to the rest of the financial plan is the first step to quantifying the value of the decision and understanding its importance. From there, advisors need to check the cash flow "fit" with other retirement assets and income streams in light of tax, liquidity and risk considerations. If there's a mismatch, the advisor should identify alternate strategies that provide a better fit and explore the trade-off in terms of lifetime, household value.

Notice in the example above, these clients are too young to use the "file and suspend" and the "restricted application for spousal benefits" that have been the center of the conversation over the last several years. Even so, the difference between a good Social Security claiming decision and a poor one will continue to be worth tens, if not hundreds of thousands of dollars in lifetime value and a critical component of any strong planning process.

Calculations for this article were done using the Social Security Timing software I developed.

THE QUANT — RON PICCININI, PH.D., DIRECTOR OF PRODUCT DEVELOPMENT, COVISUM:

A properly optimized Social Security timing strategy can add hundreds of thousands of dollars to the bottom line for a married couple. Yet, deciding when to claim Social Security is not a straightforward problem and can involve the calculations of tens of thousands of scenarios. There are four key variables to take into account for which forecasts and assumptions have to be made. As it is often the case with financial advice, ultimately the 'correct' answer depends on the utility of the client.

The first important variable is the life expectancy of each member of the couple. The longer the clients will live, the more it makes sense to delay claiming Social Security. Modern Social Security software makes it easy to calculate the break-even line between claiming as soon as possible versus a delaying strategy, based on the joint life expectancy of the couple.

The second key variable is the real rate of return that can be earned on investable assets. The availability of higher levels of returns will typically swing the pendulum towards an early-claim strategy. If on the other side, real returns available in other asset classes are low (say less than 5%), it could favor a delaying strategy.

The third variable is the clients' savings levels. At the risk of stating the obvious, clients who are well-funded can afford to delay. Clients with lower levels of savings, relative to their spending needs, may need to elect early.

The elephant in the room is that the Social Security program is not financially sustainable. In four years, the program will have more outflows than inflows. The federal government owes the program roughly $5 trillion. Assuming it will pay it back, at current rates, Social Security will be out of money in about 17 years. Any couple expecting to live past 2035 should expect that modifications (i.e. reductions) will be enacted and prepare for that.

This brings into play the utility of the client under uncertainty. While a robot will want to maximize the expected present value of cash flows (probability-weight all scenarios and take the average), a human client will want to maximize the expected utility of these cash flows. For some clients, this means minimizing regret. For others, it means to never run out of money. Some will have strong preferences for the present and others understand the benefits of delayed gratification.

As an advisor, 80% of the battle consists of understanding and explaining clearly the trade-offs, risks, and assumptions involved. The other 20% is the hard work.

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— Related on ThinkAdvisor:

Joe Elsasser, CFP, RHU, REBC developed Social Security Timing software for advisors in 2010. Through Covisum, Joe introduced Tax Clarity in 2016.

Based in Omaha, Nebraska, Joe co-authored "Social Security Essentials: Smart Ways to Help Boost Your Retirement Income."

Renaud "Ron" Piccinini, Ph.D., came from France to America, finally settling in Omaha, Nebraska. He brings extensive experience in building world-class risk systems, supporting tens of billions of dollars in assets to Covisum. Previously, Ron co-founded PrairieSmarts, a software business. Ron wrote his dissertation on what are now known as "Black Swan Events."