Those who delay starting Social Security can get up to 75% more than those who apply early, but how do you bridge the income gap?
Financial planners and homeowners are starting to think about using home equity to realize a better retirement. This was predictable because for most Americans, stocks, bonds and savings makes up less than a third of their net worth.
Retirement Income Planning
In retirement, we have what we have in terms of wealth and income. Making the most of it, regardless of its location, is the key to having the best life possible, whether that’s today’s lifestyle or tomorrow’s legacy.
Retirement income planning always revolves around the question:
How much can I take out and how long can I make it last?
This is our second in a 6-part series where we look at home equity solutions for different real-life financial challenges. For each challenge, we’ll address two questions:
- Is a home equity solution available?
- Is it a good or bad fit?
Our first article on retirement income planning explained how home equity solutions can and should be an integral part of retirement income planning.
The video below is a high-level overview of our Social Security case study. Scroll down for more details and a better look at the charts.
When to Start Social Security
The government’s rules for Social Security, overly simplified, go like this:
- The government takes money out of your paycheck while you work (forced retirement savings)
- They decide when you can start receiving a monthly retirement check (Normal Retirement Age)
- And they decide how much you’ll get (Primary Insurance Amount)
- You can start receiving your benefits early (as early as age 62), but you’ll get less each month
- Or you can hold off and start later (as late as age 70), which entitles you to a bonus amount
Social Security Payout
Social Security benefits are based on an average of your 35 highest earning years, adjusted for inflation. Your monthly benefit is based on a formula that takes 90% of the first $896 average monthly earnings, plus 32% of the amount between $896 to $5,399, plus 15% of any amount over $5,399.
There is also a formula for how old you have to be to receive full benefits. If you start taking Social Security early, at age 62, your monthly benefit is reduced as much as 30%. If you delay taking Social Security until age 70, you get a bonus, on top of your full benefit, which can be as much as an extra 32%.
The difference between taking Social Security as soon as possible; i.e., age 62, and maximizing the benefit at age 70 is almost a 60% swing – from roughly getting 70% of full benefits to getting 130%.
Bridging the Income Gap
The average monthly Social Security amount for those who signed up in the last year was $1,413. To simplify our discussion, let’s look a hypothetical example of someone entitled to that amount.
For our example, we revisit the two most important Social Security questions:
- Does waiting until age 70 make sense?
- How do we replace lost (no) income from age 62 to 70?
Benefits & Life Expectancy
What makes this tricky is the Normal Retirement Age, for the purposes of receiving Social Security, depends on when someone was born. Those born in 1937 have a full retirement age of 65. For those born after 1959, it’s age 67.
The following chart shows how old you have to be to get full Social Security benefits, as well as how much less you’ll get if you apply early and how much more you’ll get if you wait.
Figuring out if it’s better to apply early or late depends on how long you think you’ll live. If your family has a short life expectancy because of a hereditary health issue, waiting may not make sense. Conversely, if all your relatives lived to over age 100, you’ll obviously have a different (longer) planning horizon.
The Social Security website has a calculator that estimates how long someone will live based only on their year of birth. You can access it here. A male born 1/1/1956 has an estimated life of 84.7 years. For females, that number is 87. Because running out of money in old age is such a tragedy, let’s be conservative and use a planning horizon of age 90.
I will save you a tremendous amount of math and tables and instead offer the following charts. The first one shows total Social Security payments received over time based on what age benefits began.
Key Takeaways on Social Security payments received based on age started
- The monthly benefit if start at age 62 is $1,036; $1,413 - $1,036 = $377 less
- The monthly benefit if start at age 70 is $1,827; 1,826 – 1,413 = $413 more
- Those waiting until full retirement (66, 4 mo.) will not collect as much as the early starter (age 62) until age 77
- Someone waiting until 70 will not collect as much as the early starter (age 62) until age 80
The next charts show the cumulative differences between taking Social Security early and waiting as long as possible.
Key Takeaways on differences in Social Security payments received based on age started
- Age 66, the early starter (age 62) is over 50,000 ahead of the normal retirement age person
- Age 69, the late starter (waited until age 70) is 100,000 behind the early starter
- Age 85, the normal retirement age starter is 40,000 ahead of the early (age 62) starter
- Age 85, the late starter is 53,000 ahead of the early starter and only 12,000 ahead of the normal starter
- Age 90, the normal retirement age starter is 68,000 ahead of the early starter
- Age 90, the late starter is 100,000 ahead of the early starter
- Age 90, the later starter is 32,000 ahead of the normal retirement age starter
We often hear most clients say something like this: “The monthly amount I’d get at 62 isn’t enough. The amount if I start at age 70 is what I’d prefer, but I can’t afford to wait 8 extra years.” Understandably, this is about cash flow.
Using a Reverse Mortgage to Delay Social Security
So, let’s ask our basic question, is there a home equity solution option and is it a good or a bad idea? Specifically, what will it do to cash flow and what happens to net worth over the long term.
To keep things relatively simple, let’s assume our hypothetical client has considerable home equity, Social Security, yearly earnings below $17,400, and insignificant retirement assets.
The logic doesn’t change much if there are other portfolio assets because avoiding their depletion, while implementing the strategy below, just allows those other assets to continue to grow while avoiding or postponing tax consequences from sale or distribution.
You frequently hear loan officers talk about using a reverse mortgage to fund the gap of delaying the start of Social Security. In our example, that looks like pulling $1,827 out of the reverse mortgage line of credit for 8 years. Then start Social Security (at $1,827/month) and stop taking money out of the reverse.
That is a viable strategy and here’s what it looks like.
Withdraw $1,827 per month for 8 years, then take late Social Security
The borrower gets the higher cash flow of $1,827. Beyond age 78, their net equity (home value – loan balance) is greater than when they started.* We have some pretty sophisticated tools that allow us to model any number of scenarios with multiple simultaneous variables; like what if interest rates change, what if home appreciation rates vary, etc.
There is another strategy that no one talks about. What if instead of pulling $1,827 per month for the first 8 years, the homeowner supplemented early Social Security of $1,036 by withdrawing $791 out of their reverse mortgage line of credit every month, through age 90. Notice the difference in the graphs above and below - same net effect, profoundly different results.
Begin Social Security at age 62 and withdraw $791 per month, every month
Notice that the net equity (home value – ending loan balance) is greater than the other strategy, as is the available line of credit. Same cash flow goal, same home equity, but big difference in estate value at end (inheritance) and available line of credit throughout (safety around unplanned expenses).
To make it easier to compare the two graphs above, I focused in on two aspects: available line of credit and net home equity at different ages. Look at how big the differences are…
The difference in line of credit (borrowing power) at age 75 is $105,372. At life expectancy, the difference is $52,891.
Regardless of when the borrower passes away, or sells to go to a facility, their estate is worth more with the early supplementation strategy.
Last year Mark Miller wrote an article for Reuters and he said, “The best way to fund a delayed Social Security claim is by working longer - but that is not always possible. Research shows that about half of workers retire earlier than they expect as a result of job loss, health problems or the need to provide care to a family member.”
Remember, the point of this article is not that you should take Social Security at any particular age, or that you should use a reverse mortgage to bridge the funding gap. The point is you should seek guidance from an expert who has the tools and creativity to suggest and analyze different options. There is no one-size fits all conclusion when it comes to financial advice.
Keep in mind, regardless of which strategy is chosen, but probably more relevant for those taking early benefits, Social Security is taxable if combined income (AGI+nontaxable interest+1/2 SS benefits) is greater than $25k for an individual or $32k for those who file a joint return. All analysis should be compared on an after-tax basis.*
Also, benefits are reduced if someone elects to take Social Security before full retirement age but is still working. The current no-reduction threshold is $17,040, and then $45,360 for the year one reaches full retirement age.
If you’d like to see if a home-equity-based solution can help with the financial challenge you’re facing, click the Reverse Mortgage Qualifier button below and I will generate a unique reverse mortgage calculator report based on your unique situation. As a Certified Reverse Mortgage Professional, I have the tools, creativity, and experience to help you understand all your options; including ones you probably didn't know you had.
You can reach Kent at (800) 208-1252. Subscribe to our blog or YouTube channel to be alerted to the next installment in our Home Equity Solutions series. We’re going to talk about replacing lost income when a spouse passes away. For other articles on this topic, visit our Facebook page: https://facebook.com/thereverseadvisor.
To read an analysis on reverse mortgages and Social Security that was prepared by the CFPB, see Resources & References below. Their concern was the cost of the fees relative to the benefit, which is a great example of the distinction we started with between cash flow and final estate value. It’s also important to recognize that fees differ by lender and loan structure. Finally, as you saw above, net equity and borrowing power differ considerably based on disbursement structure – same topic, different tactic.
Resources & References:
Assumptions: house appreciation = 4%, FHA Annual HECM, margin = 1.875%, expected rate = 4.88%.
The CFPB is Wrong about Reverse Mortgages, Wade Pfau, Ph.D., CFA, Dec 18, 2017, Advisor Perspectives - https://www.advisorperspectives.com/articles/2017/12/18/the-cfpb-is-wrong-about-reverse-mortgages
The New Reality of Old Age in America, Mary Jordan, Kevin Sullivan, Sep 30, 2017, The Washington Post - https://www.washingtonpost.com/graphics/2017/national/seniors-financial-insecurity
Average Net Worth by Age – A Look at American’s Wealth & How You Stack Up, Jim Want, Jun 12, 2018, WalletHacks - https://wallethacks.com/average-net-worth-by-age-americans
How Big Is the Average Person’s Social Security Check?, Todd Campbell, The Motley Fool, Aug 30, 2017 - https://www.fool.com/retirement/2017/08/30/how-big-is-the-average-persons-social-security-che.aspx
Social Security Retirement & Survivors Benefits: Life Expectancy Calculator - https://www.ssa.gov/OACT/population/longevity.html
Take Control of Your 6 Biggest Retirement Expenses, Tom Sightings, U.S. News & World Report, 8/31/15 - https://money.usnews.com/money/blogs/on-retirement/2015/08/31/take-control-of-your-6-biggest-retirement-expenses -
The costs and risks of using a reverse mortgage to delay collecting Social Security, Office for Older Americans, Consumer Financial Protection Bureau, Aug 2017 - https://s3.amazonaws.com/files.consumerfinance.gov/f/documents/201708_cfpb_costs-and-risks-of-using-reverse-mortgage-to-delay-collecting-ss.pdf
Using a reverse mortgage to delay Social Security: does it make sense, Mark Miller, Sep 28, 2017, Reuters - https://www.reuters.com/article/us-column-miller-socialsecurity/using-a-reverse-mortgage-to-delay-social-security-does-it-make-sense-idUSKCN1C334G
Social Security Benefits Planner - https://www.ssa.gov/planners/taxes.html
Securing today and tomorrow, Social Security Administration - https://www.ssa.gov/pubs/EN-05-10035.pdf
How Much Can I Earn And Still Get Benefits-Benefits Planner, Social Security Administration - https://www.ssa.gov/planners/retire/whileworking.html
About the Author
Kent Kopen earned his Reverse Mortgage Specialist credential in March 2007. Last year Kent earned the CRMP (Certified Reverse Mortgage Professional) designation. There are less than 170 CRMP designees in the United States. Mr. Kopen also provides education, tools, and strategies to professionals who offer financial and legal advice to others. "Our resources help financial advisors, CPAs, and estate planning attorneys help seniors optimize their home equity to provide greater security and peace of mind."