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If you’re closing in on age 62 and a decision about when to start taking your Social Security benefits, pay attention. Today’s low interest rates increase the projected financial payoff from waiting to claim your retirement check. That’s one crucial takeaway from a new National Bureau of Economic Research working paper by economists John B. Shoven of Stanford University and Sita Nataraj Slavov of Occidental College.
Most baby boomers know they can claim Social Security retirement benefits anytime from age 62 to 70, with their monthly check growing each month that they wait. Indeed, those born through 1954 get a 76% bigger benefit--after inflation adjustments---by waiting until 70 instead of claiming early at 62. While that adjustment sounds big, it's often assumed to be actuarially fair---meaning, if you live to an average age, you’ll end up with roughly the same total economic benefit no matter when you claim. Truth is, that's not really the case. The most obvious example: women live longer, but benefits aren’t adjusted by sex so they get a bonus payoff from waiting.
The Shoven/Slavov study pays particular attention to yet another way in which the Social Security payoff for waiting isn’t actuarially fair: the formula make no allowance for current interest rates.
What have interest rates got to do with anything? If you buy an immediate fixed annuity from such insurers as Principal Financial, MetLife, AIG, Genworth Financial, Northwestern Mutual or through Vanguard Group or Fidelity Investments, you'll get less for your money when real interest rates are low. That’s because the insurance company figures it will earn less investing the lump sum you’ve turned over in return for the annuity.
To be actuarially fair, Social Security should reduce the payoff for waiting when interest rates are low and raise it when rates are high. But it doesn’t. According to Shoven/Slavov's calculations, at today’s zero real interest rates, single women can maximize their lifetime benefits (gaining an extra 18%) by waiting until age 70 to claim. Single men can maximize their lifetime benefits (gaining an extra 13%) by waiting until 69. By contrast, if real interest rates are above 3.5%, single men do best by claiming their benefits at 62. At interest rates above 4.2%, single women should also claim as soon as they can.
The economists’ calculations are based on “discount rates” and “present value.” But let me offer two practical ways to think about this. First, if you want to make sure you don’t outlive your money, the best way to do that is to buy an annuity with at least part of your savings. By postponing claiming Social Security you are, in essence, buying a larger inflation adjusted annuity from Uncle Sam, usually for less than you could get it commercially. When interest rates are low, the price break from Social Security gets even bigger.
Second, research shows retirees tend to claim Social Security early while they delay tapping into their 401(k) or other savings early. That can make sense financially, depending on how much you will earn on those savings you're husbanding. If you plan to invest at least part of your savings in safe investments like U.S. Treasuries, you’ll be earning an interest rate of zero after inflation, or less than zero, after taxes. By contrast, you can earn a bigger return from Uncle Sam by delaying Social Security.
What about couples? As I explain here, calculations get a lot more complicated, based on special provisions in the law and differences in ages and earnings between spouses. The key point: When one spouse dies, the survivor can start claiming the dead spouse’s monthly benefit check (instead of his or her own) if it’s higher. So when one spouse waits to claim benefits, a couple is buying a “joint life” annuity---again at a lot cheaper than it could do so commercially, with the discount growing as interest rates fall. Shoven/Slavov conclude that with real interest rates at 2.5% or lower, a two-earner couple can usually maximize its take if the higher earner waits until 70 and the lower earner claims at 66.
For more on married couple strategies and other considerations, see The Big Decision: When Should You Claim Social Security?
