A Social Security Mulligan: Filing, Collecting and Suspending Later

In a previous post, we wrote about a client situation where the client is going to file for his Social Security benefits at his Full Retirement Age of 66 so that his wife and children can collect dependent benefits, but suspend the receipt of his own benefits. That way, his own earned benefit will receive delayed retirement credits and grow 8% per year until he turns 70. Not only will his benefit be higher, but so will the amount available to his wife as a survivor’s benefit at his death.

This file-and-suspend strategy is available only when the person suspending their benefit has reached Full Retirement Age. But few people know that you can actually suspend your benefit at Full Retirement Age after you’ve already started collecting!

For example, we have another client who began collecting Social Security at age 63. It so happened that he retired just as the 2008 financial crises was unfolding, and we collectively agreed that it would be better to draw Social Security benefits than sell investments from a portfolio that had significantly decreased in value. [i]

Fast forward to 2013: the client has been taking Social Security for a few years, he has reached his Full Retirement Age, and his and his wife’s investment portfolio has recouped any initial losses (and then some). His Social Security benefit is significantly higher than his wife’s, so we began talking about ways to make sure that she could maximize a survivor’s benefit at his death.

It used to be that if you wanted a “do-over” for Social Security, you could pay back any collected Social Security benefits (with no interest) and then have your benefit recalculated, as if you hadn’t collected anything. Essentially, people were getting an interest-free loan from the government. And if you invested those dollars wisely, you came out ahead nicely. Social Security eliminated this option in 2010, though it’s still available for folks within their first 12 months of collecting benefits.

Instead, we informed the client that since he was beyond his Full Retirement Age, he could suspend his benefits and have them grow at 8%/year until his age 70, when he should then resume collecting. The client’s benefit at age 70 won’t be as large as it would have been if he’d never collected Social Security at all, but it will be much higher than if he kept collecting his current benefit. He’s basically getting a mulligan on his original decision to collect Social Security early.

The client’s plan now calls for supplementing the amount the family had been receiving from Social Security by selling appreciated securities. Tax losses harvested during the 2008-2009 market sell-off will cancel out any realized gains, thereby keeping the clients’ overall tax bill very low and allowing for strategic conversions of Traditional IRA dollars into the client’s Roth IRA at very low tax rates. And when the client’s wife turns 66 in two years, she will claim a spousal benefit equal to 50% of what her husband’s benefit would have been at his Full Retirement Age, regardless of the fact that he collected early.

This strategy worked for this particular client, but it’s not a prescription for everybody. CNN Money ran a piece on July 31, 2013 titled “The Social Security mistake that costs retirees thousands” that covers the now-familiar argument of “everyone should wait as long as possible to collect, or at least until Full Retirement Age.” In this client’s case, not collecting early would have cost thousands, as we would have been selling and withdrawing from their portfolio at the worst possible time.[ii]

So while delaying the collection of benefits works very well on paper (particularly if people anticipate an above-average life span), the mistake that really costs people thousands is not considering their entire financial picture and not thinking creatively when it comes to their Social Security benefits. At Woodward Financial Advisors, that’s not a mistake we’re willing to make.

[i] Incidentally, this is a great example as to why collecting Social Security should be an individualized, custom decision. There’s no one “right” strategy that applies to everyone, all of the time, mainly because no one knows when they are going to die. If they knew that, then it becomes a simple calculation to figure out the exact age when to start collecting so as to draw the maximum amount of benefits.

[ii] Had we started liquidating the portfolio, we would have sold bond funds to generate cash for withdrawals. Instead, we were able to sell bond funds to purchase shares of beaten down stock funds, rebalance the portfolio, and position it for the 4 years (and counting) market rally.