Plan now for lower Social Security benefits later

“In this world nothing can be said to be certain, except death and taxes,” wrote Benjamin Franklin in 1789.

Here’s another certainty for Social Security: Addressing the Trust Fund’s solvency shortfall will come with a cost for future retirees.

The latest Social Security Trustees Report shows that if no action is taken, and the Trust Fund and Disability Funds were to be combined, benefits would need to be cut by 17% in 2034. The more likely outcome is that Congress will swoop in before this deadline with policy changes to fund the program.

The steps required to bridge the solvency gap will likely mean lower lifetime Social Security benefits in retirement or higher taxes when working. Americans must be prepared for this outcome.

In our recent white paper, "Social Security Solvency & Retirement Planning: Calculating Lost Benefits and Income Solutions,” we made it clear what’s at stake for retirees if nothing is done. With a 17% cut in 2034, an average-income 54-year-old couple retiring in eight years stands to lose more than $160,000 in lifetime benefits, and a high-income couple $500,000. We assume they will live to Social Security’s actuarial longevity expectations.

In the paper, we show the savings that would be required today, assuming a 6% return, for both couples to address this shortfall. The average-income couple would need to put aside around $55,000, and the high-income couple $130,000.

Where the planning discussion starts

Sharing what’s at stake is not a scare tactic. It’s a starting point to drive planning discussions.

Many widely discussed solutions would address some or all of the Trust Fund’s shortfall. All come with a cost. If the income cap on Medicare contributions is eliminated, wealthy Americans will pay more into the system to get the same benefits. Changing the Full Retirement Age from 67 to 68 would mean that lifetime benefits would be lower for both couples by $72,000 and $252,000, respectively.

Another scenario would be the use of a different inflation metric that may reduce annual Social Security cost-of-living adjustments. A 0.5% lower COLA each year in retirement would reduce lifetime benefits by $109,000 and $308,000 for the couples, requiring an investment of $30,000 and $87,000, respectively, to make up the difference.

One point that must be considered is that the potential reduction in benefits outlined in the Social Security Trustees Report assumes benefits are cut for all recipients. If benefits are paid in full for some, the cost burden for others further from retirement will be greater.

The most likely outcome is that a combination of measures will be implemented to address the funding shortfall. A mix-and-match approach to solvency solutions may mean that the impact on retirees is not as apparent as a straight reduction in benefits. Higher pretax contributions and lower lifetime benefits will impact budgets nonetheless.

Planning for a range of Social Security scenarios

The discussion with clients today is not about whether Social Security will be available to future retirees: the program is funded to provide the majority of promised benefits.

That said, planning for a range of scenarios in which lifetime Social Security benefits are lower than currently estimated is prudent but the question is, by how much? Our expectation, based on the data, is that planning on benefits to be lower in the future by 10%-20% is reasonable. Advisors must discuss potential scenarios with clients. It is hard to predict the future, but financial professionals can help clients plan for a range of possible outcomes.

One additional point we make in our paper is that cuts in Social Security benefits should also be considered in the context of planning to address healthcare costs. With healthcare costs rising at roughly twice the rate of CPI, HealthView Services’ Retirement Healthcare Cost Index shows the portion of Social Security benefits needed to cover healthcare expenses (parts B and D, supplemental premiums and other out-of-pocket costs).

It will come as no surprise that benefit reductions will mean that a greater portion of Social Security will be needed to cover healthcare costs. An average couple in their mid-50s is currently projected to spend 80% of their Social Security benefits on healthcare. In the event of a 17% cut, that number rises to 94%.

The bottom line here is that fixing Social Security’s solvency will mean future retirees will pay more. You can plan on that.

Read more from Ron Mastrogiovanni:

https://insurancenewsnet.com/innarticle/how-healthcare-inflation-can-eat-up-a-clients-retirement-income

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