Time to Adjust Timing Adjustments?

John Iekel

There are plenty of people who don’t claim Social Security benefits “on time”—some do so “early,” and some “late.” There are factors to consider in either case, and a recently released paper suggests that it could be a good thing to adjust the way in which those adjustments are made. 

Both the factors considered for early retirement and delayed retirement need to be adjusted, argues American Enterprise Institute Senior Fellow Mark J. Warshawsky in the working paper, “It Is Time to Update the Adjustment Factors for Age in Social Security Retirement Benefits.” 

The Current State of Things

The current full retirement age (FRA) is 67. For those born in 1960 and later, Warshawsky notes, benefit levels are based on past earnings and are adjusted lower for younger claimants, within ages 62-70 for worker benefits, 62-67 for spousal benefits and 60-67 for widow(er)’s benefits. 

Currently, the benefits of an individual who retires early are reduced 5/9 of 1% for each month, up to 36 months. If the number of months of early retirement exceeds 36, the early retiree’s benefits are cut by another 5/12 of 1% per month, up to 60 months. On the other hand, delayed retirement credits (DRCs) are given for retirement that takes place after the FRA. The annual credit is 8% up to age 70 for those born in or after 1943. 

There are a variety of factors that complicate the timing of claiming benefits for couples, observes Warshawsky, given that they can include different combinations of age, demographic groups, marital status, presence of dependent children, and earnings. The basics, he adds, are that:

• A spouse is entitled to half of the benefits of the primary worker, whose adjustment factors are the same as if he or she were a single worker. 
• For the spouse, the percentage reduction for early retirement is 25/36 of 1% for the first 36 months before the FRA and 5/12 of 1% for each additional month up to 60 in total. 
• While the primary worker’s benefit grows with delayed retirement credits after FRA, the spouse’s benefit does not. 
• A spouse can’t claim the spousal benefit until the primary worker claims his or her benefit. 
• As for a widow or widower, notes Warshawsky: 
• Age 60 is the earliest he or she can start receiving Social Security benefits; they can commence between that age and FRA as a survivor. 
• For those born in 1962 and later, if benefits start before FRA, benefits are reduced by 0.339% per month, up to 84 months. 
• For survivors, there is no delayed retirement credit. 
• The benefit widow or widower can receive is limited to the amount the deceased spouse would have received if he or she was still alive. 

Why Make Adjustments?

Fairness is the ultimate reason that adjustments are made when claims for Social Security benefits are made before or later than the usual age, Warshawsky explains. 

Claiming benefits early, Warshawsky notes, lengthens the period over which benefits are paid and should result in lower benefits than those paid to people who make a claim when they are older. Not doing that, he argues, would create: (1) a financial advantage for those who make a claim at an early age; (2) an incentive for early retirees to not work, and (3) a financial strain on the Social Security system. 

The Case for Adjusting the Adjustments

Warshawsky cites a variety of reasons for why adjustments to benefits should themselves be adjusted. 

He notes that multiple studies in the last 20 years have argued that adjustment factors “are seriously out of date.” At the very least, he says, this is because interest and mortality rates have fallen since the rules were designed and instituted, and the rules are inconsistent among categories of beneficiaries. Furthermore, Warshawsky notes:

• The current upper age for adjustment—70—no longer matches the minimum age for required distributions from retirement accounts, which was 70½ but is now 72.
• The earliest age for widow/widow(er)’s benefits—60—also reflects a time in which: (1) women often did not work or earned less than their husbands, (2) were younger than their husbands, and (3) male mortality was particularly high.
• The current Social Security rules were set decades ago when real interest rates and mortality rates were substantially higher than is the case today.

Alternatives

Warshawsky argues that for a variety of reasons—includingem simplicity, ease of administration, public understanding, and ease of individual planning—why after benefits are adjusted for a claimant’s age, the real benefit level should stay fixed and not change with fluctuations in interest and mortality rates. 

One option, Warshawsky says, is to change factors every few years. But that is not without risks, he says, since “there would be cliffs” and it could engender dissatisfaction over missed opportunities and penalties, actual or perceived. 

“A strong argument can be made,” he writes, for using market interest rates for making the initial adjustment. This, he says, is because the rates affect overall benefits and financial decisions, and reflect factors affecting the government as well. Further, Warshawsky says, the Social Security trustees’ projections regarding long-term real interest rates change slowly and within a narrow a range, which renders them less useful. 

Warshawsky continues that changing factors yearly with market rates would better establish actuarial fairness and better ensure that there would not be inappropriate losses or gains for individuals and the Social Security system itself. He includes the caveat that such an approach “may be too volatile” because of fluctuations in the bond market and the ability of individuals to grasp available choices. However, Warshawsky also notes that there is an annual cost of living adjustment to Social Security benefits which “seems to be well-tolerated and understood.”

The Bottom Line

“These changes,” says Warshawsky, “can and should be put in place soon to assure fairness and equity and the right incentives.” 

Fairness is important, argues Warshawsky, and his sense is that the system would save money as more workers delay retirement and claiming benefits. And, he adds, making such changes would not be dependent on political action. He argues that there should be a transition period if changes are instituted to make allowances for those who have made plans and taken actions based on current law and practices.