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Retirement Planning > Social Security > Claiming Strategies

Why Social Security Claiming Really Counts for Wealthy Clients

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What You Need to Know

  • Strategic claiming can add $100,000 or more to an investor’s wealth that can be used either for income or legacy goals.
  • Most retirees are able to increase their wealth through delayed claiming.
  • Social Security should be considered part of the fixed income assets within a client’s investment portfolio; delayed claiming allows an advisor to increase stock allocations.

A high-earning retiree with a $2.5 million investment portfolio holds 20% of their wealth in Social Security. Strategic claiming can add $100,000 or more to a healthy investor’s wealth that can be used either for income or legacy goals.

Advisors can earn easy investment alpha through strategic Social Security claiming. Too many investors claim Social Security when they retire, not realizing the impact early claiming has on retirement wealth, taxation, spousal income, and even optimal asset allocation.

Claiming Conundrum

Claiming too early can significantly reduce a retiree’s holistic balance sheet wealth that includes expected future income streams such as pensions and Social Security income benefits. 

After all, a retiree would have to pay hundreds of thousands of dollars to receive a fairly priced stream of future income, and the income will reduce the amount that will need to be withdrawn from savings to fund retirement spending. The value of future guaranteed income is based on discount rates of safe investments and the probability of being alive to receive the money.

In a recent article on ThinkAdvisor, I addressed the importance of paying attention to the two Social Security income benefit steps when making decisions about whether to delay claiming. These steps affect the marginal increase in wealth from waiting one more year, but many don’t recognize how large the expected contribution of Social Security represents to total retirement wealth.

Claiming rules based on outdated mortality expectations and overly optimistic return expectations on inflation-protected income mean that most retirees increase wealth through delayed claiming. 

Estimating Value

With the help of David Blanchett, head of retirement research at PGIM, we can use mortality tables and market prices of inflation protected bonds to estimate the portfolio value of Social Security at various claiming ages for men and women in average and excellent health. Values will be greater for healthier retirees and women because they can expect to live longer and cash more checks.

A single retiree born in 1960 who is eligible to receive a $20,000 income benefit at age 62 can expect to receive between $385,568 in present value of total Social Security benefits (for a man in average health who claims at age 62) and $594,063 (for a healthy woman who claims at age 70).

The values represent a base case scenario that could be considerably higher for workers who have a younger, lower-earning spouse that can expect to receive a higher lifetime benefit.

If a healthy man claims Social Security at age 62, an advisor should estimate the balance-sheet value as at least $458,038. If he waits to claim until age 70, the present value of Social Security income benefits is $549,305. By delaying to age 70, an advisor can help a client earn their client a risk-free annual 2.3% increase in the value of retirement wealth.

Issues With Delayed Claiming

Delayed claiming means forgoing a source of income before age 70. This presents opportunities for strategically spending down retirement savings to optimize tax efficiency in the bridge period between 62 and 70.

Advisors should pay close attention to marginal tax rates (and IRMAA thresholds) and withdraw strategically from traditional IRA accounts while also spending down tax disadvantage investments such as non-qualified bonds. 

The bridge period can present opportunities to sell investments at a lower capital gains tax rate — particularly highly concentrated investments that reduce a portfolio’s Sharpe ratio. 

See: Why Claiming Social Security at 64 or 67 Could Be a Big Mistake

There are important portfolio implications of delayed claiming as well. Consider the following example. A 62-year-old decides to forgo $20,000 of income for a year and funds spending from $10,000 of stocks and $10,000 of bonds from a 50% stock/50% bond $500,000 portfolio. 

If she had simply claimed early and received the $20,000 from Social Security, she would still have $250,000 in stocks. By bridging spending with investments, she now has $240,000 in stocks. This will affect her expected wealth by reducing the percentage of her portfolio that can be expected to earn a risk premium.

It is more accurate to think of delayed claiming as an investment. By waiting a year, she invests $20,000 of bondlike assets to receive a guaranteed lifetime income stream worth $33,151 (that’s a pretty good return on a safe asset).

Within her holistic portfolio that includes the value of future income streams, her fixed income allocation has just increased, although this value doesn’t show up on a brokerage statement. 

Further Considerations

An advisor needs to adjust her investment allocation outside of Social Security to reflect the increase in fixed income wealth generated from delayed claiming. An easy way to account for this is to simply fund spending from fixed income assets, or increase equity allocations in qualified accounts to account for the sale of non-qualified equity investments used to fund bridge spending. 

The mechanics are a little more complicated. Since guaranteed income is in fact safer than investments when used to fund spending in retirement (especially inflation-protected guaranteed income through Social Security), buying income through delayed claiming should result in an even higher optimal allocation to stocks.

Blanchett and I conducted a more in-depth analysis of the asset allocation implications of guaranteed income in a 2018 paper published in the Journal of Financial Planning. 

The ability to increase portfolio risk outside of Social Security is an added benefit to delayed claiming. An investor who delays claiming from 62 to 70 can increase their stock allocation by as much as 10% and face no greater risk to either income or legacy.

Working to eke out a few basis points of investment alpha is far more difficult than capturing alpha from delayed Social Security claiming. Claiming optimally not only increases expected financial resources, but also provides opportunities for tax-efficient planning and earning a higher return from investments.

Related: How to Craft Super Roths for Wealthy Clients

Michael Finke is a professor and the Frank M. Engle chair of Economic Security Research at The American College of Financial Services.


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