DebtFreeGuru.com's - Tip of the Week - Monday, December 5, 2005
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Outwit Social Security
Ignore conventional
wisdom. Heres why simply waiting a while to touch that government check
is your best payout strategy.-
By
Scott Burns
Does it make sense to defer Social Security benefits?
The answer is yes.
This is not the conventional wisdom. It says to take the money and run.
A fresh examination, however, indicates the conventional wisdom is
wrong.
Let's start with a simple exercise. For anyone born in 1943 or later,
Social Security benefits will increase by 8% for each year of deferral.
In addition, the benefits will increase by the cost-of-living adjustment
that all recipients get.
That's a hefty increase.
A worker who is entitled to benefits of $1,000 a month at 66, for
instance, would enjoy an
increased benefit of $80 a month -- simply by delaying a year.
Check the alternatives
Is that a good idea? Let's compare it to alternatives.
One choice is to buy a life annuity. The Web site
www.immediateannuity.com tells us that a 67-year-old woman would
need to pay $12,363 for a fixed lifetime income of $80 a month. A
67-year-old man would need to pay $11,559.
So think about that.
By withdrawing $1,000 a month ($12,000 for the year) from savings
instead of taking Social Security benefits, you can increase your
monthly Social Security benefits for life. This is better than a private
fixed annuity because Social Security benefits are indexed to inflation.
To get an inflation-adjusted life annuity, were they readily available,
you would probably need to invest over $15,000. (You can get quotes by
checking the
Vanguard Lifetime Income program online.)
So spending $12,000 of savings to delay taking Social Security benefits
will "purchase" a lifetime income benefit worth at least $15,000!
Another choice is to take the $12,000 and invest it, taking $80 a month
and adjusting the withdrawal for inflation every year. That amounts to a
dangerous 8% initial rate of
withdrawal. Such high rates of withdrawal could leave you broke years
before dying.
According to a Trinity University study of portfolio survival (see the
study results in
table 3 on my Web site), for instance, a 100% stock portfolio has a
70% chance of surviving 15 years and a 53% chance of surviving 20 years
at that withdrawal rate. The life expectancy range for most 67-year-olds
is 15 to 20 years.
Best way to boost lifetime income
Bottom line: If you use your savings to defer taking Social Security,
you can increase your lifetime income more than you would by investing
the same money or by buying a fixed lifetime annuity. Better still,
deferral sidesteps all worries about making investment choices.
"This is the best deal going, bar none," Prof. Laurence J. Kotlikoff
observes. "It provides a fantastic risk-free return for waiting."
Professor Kotlikoff is chairman of the Boston University economics
department and an expert in the life-cycle approach to financial
planning.
The growth rate for benefits is slightly lower from age 62 to
full retirement age, Kotlikoff points out, but it is still far
superior to returns on actual investments. Remember, the long-term real
return on common stocks is about 7%. Delaying Social Security benefits
provides at least that much of a return, guaranteed.
There are caveats, of course.
The first is that you might die while you are deferring your Social
Security benefits, so you might never collect any. You face the same
risk, however, with any money you don't spend. One of the basic rules of
life and death hasn't changed: You can't take it with you.
The second is that Social Security might mail you a bad check. In fact,
there is no immediate danger of that. More important, imagine what your
other investments will be doing when, and if, Social Security defaults.
Then why do so many people take benefits so early? Why don't more
seniors delay taking benefits?
There is a one-word answer for this. Necessity.
DebtFreeGuru.com - Tip of the Week - Monday, December 5, 2005
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