How to claim your Social Security benefits wisely

Nearly half of working Americans who are nearing retirement said in a recent survey that Social Security will be their primary source of income in retirement. That in itself is alarming. But worse, Americans also typically overestimate of how much they'll receive in monthly Social Security benefits. On average they say $1,628 per month -- which is about $200 above the Social Security Administration's far more accurate estimate.

One reason retirees collect less in Social Security retirement benefits than they expect is that they claim these benefits too soon. The most common age for retirees starting to collect benefits is 62, the earliest allowable age for doing so and the age that will bring in the lowest monthly benefit -- for the rest of your life.

That's a high price to pay for not waiting until you reach your Full Retirement Age, or FRA, which is when you get unreduced Social Security benefits. FRA is 65 for people born before 1938, and it gradually rises to 67 for those born between 1938 and before 1960. FRA is 67 for everyone born in 1960 and later.

So anyone turning 62 confronts an important decision: to claim reduced Social Security benefits now (about 73 percent of what they would get upon reaching the FRA) or delay until a later age to receive an unreduced benefit at their FRA.

For example, let's take someone born in 1956 and turning 62 this year. Assuming an average life expectancy of age 88 and Social Security benefits of $1,500 at FRA, here's how these two options compare.

At 62, your reduced monthly benefit is $1,095, or $13,140 per year, for a total of $341,640 by age 88. Or you could wait until your FRA, which is age 66 and four months, and receive $1,500 per month. That's $18,000 per year, for a total of $390,000 by age 88. But if you don't live to at least 79, you would have been better off claiming benefits as early as 62.

Clearly, waiting until your FRA can result in more lifetime income, assuming you live as long as expected. 

But the results are even better if you can keep working and wait until after your FRA to commence benefits. That significantly increases your income for two reasons: First, by adding more years of earnings on which benefits are based. Second, you get the bonus of Delayed Retirement Credit, a percentage increase in payments for each year beyond your FRA that you delay receiving benefits.

This Delayed Retirement Credit can really add up. If you were born in 1943 or later, your monthly benefit can increase 8 percent for each year you delay past your FRA (or by 2/3 of 1 percent per month after FRA). This percentage increase varies based on your date of birth, so check with Social Security to know how it would affect your benefits.

Also note that retirement benefits don't increase after age 70, so that's the latest age at which individuals should wait to claim their benefits.

To make the best decision when to take Social Security benefits, you need a clear understanding of the benefits you would get under three scenarios.

  • Reduced benefits at age 62
  • Full benefits at FRA
  • Increased benefits at delayed retirement 

A key factor is how long you expect to live. If you have reason to think you'll have less than average life expectancy, delaying benefits may reduce your lifetime income. You also need to consider your earned income and your income tax situation. And you should factor in that Social Security benefits typically rise by a cost of living index each year.

If you're working and plan to continue earning income in the years beyond your FRA, the decision is generally straightforward. Most people in this situation should wait until their FRA or later to receive full or increased benefits, respectively. 

The decision to delay benefits until at least age 65 is even easier for those who are still under that age and will have earned income in 2018 that exceeds $17,040. If you claim retirement benefits before your FRA, it will generally trigger the so-called earnings penalty, in which $1 of Social Security benefits will be withheld for every $2 that your earned income exceeds this limit. It rarely, if ever, makes sense to claim your benefits in this situation.

  • Ray Martin

    View all articles by Ray Martin on CBS MoneyWatch»
    Ray Martin has been a practicing financial advisor since 1986, providing financial guidance and advice to individuals. He has appeared regularly as a contributor on the CBS Early Show, CBS NewsPath, as a columnist on CBS Moneywatch.com and on NBC-TV's morning newscast TODAY. He has also appeared on the Oprah Winfrey Show and is the author of two books.