Financial Life Advisor

Repaying Social Security & Special Rules - Understanding and Maximizing Social Security Benefits part 3 of 3

Repaying Social Security benefits is a little known option. Basically, at any time between filing and age 70, a retiree can repay all benefits to the government and start over just as if they had never filed. There is no interest to pay, and if any taxes were paid on Social Security benefits, a tax credit is given. It sounds great, but there are some downsides.

Probably the biggest downside is that you would need to have several years worth of payments just sitting around to repay. It sounds great in practice, but most people do not find themselves in that situation. There is a rule which reduces Social Security payments if you file early and then continue working, so the advantage of repaying could be minimized by “losing” the interest free loan during the years between age 62 and NRA

There is another major downside. If your plan is to repay benefits to assure a spouse gets the maximum possible benefit and you do not live long enough to pay it back, you could inadvertently pass on a much-reduced early retirement benefit to your spouse. The risk of hurting a spouse is lower if both spouses earned a roughly equal income because the delayed benefit would be about the same. If you are single, the repayment strategy has the least risk (assuming you can afford to keep the money aside).

The idea of filing early is very tantalizing. At 62, you may be in great health and expect to live a long time but plan to repay benefits to increase the benefits at age 70. If you get to 69 and are still in great health, you can repay and reset to a higher benefit level. If, on the other hand, you found out you have a terminal disease, you could have received payments for at least those 8 years of retirement. The option of repaying benefits years after first filing certainly gives more flexibility in what your ultimate benefits will be.  

It should be noted, though, that once repaid, there is no guarantee that it will maximize benefits. Just like when purchasing a life annuity, if you were to die before the break-even point, keeping the lower benefit may have been less expensive.

UPDATE!!!! In December Social Security released this press release which says that Social Security is changing the repayment rules dramatically. Now, individuals can only withdraw their application within 1 year of filing and withdrawal applications can only be made once in a person's lifetime. This change basically eliminates repaying Social Security as a strategy.

Special Social Security Rules for Government Pensions

There are many employees in the United States who were not covered by Social Security. These employees work for governmental bodies which are allowed to opt-out of the Social Security system by providing a pension and disability system which they fund in lieu of Social Security. One of the most common examples of this situation is school teachers. Many school teachers do not pay into Social Security. Their states and school districts have opted to participate in substitute program. In most cases, this is to the benefit of the employees because the retirement benefits are often much better than they would have been under Social Security.

Under Social Security rules, a spouse who stayed at home is eligible for spousal benefits.  Someone who worked but did not have to pay into Social Security would be treated just like a stay at home spouse. If they had worked in a Social Security covered position, they would be limited to the greater of their own Social Security benefit or the spousal benefit (if collecting both at the same time).  

The perceived problem that arose was that it was not fair for people who had been able to participate in a better system than Social Security would also be able to collect Social Security. In addition to spousal benefits, it was perceived as unfair that these same people who participated in superior systems would be able to collect Social Security on a very limited scope of work (part time employment or just a handful of years of covered employment).

To try to level the playing field, the Government Pension Offset (GPO) and Windfall Elimination Provision (WEP) were passed. These two rules are meant to equalize treatment for the people who did not fully participate in Social Security and are receiving a governmental pension.

Government Pension Offset (GPO)

The GPO only affects spousal benefits and widow(er) benefits. The GPO only applies if you are receiving a pension from a federal, state or local government where Social Security was not paid. If these two requirements are met, then it is very likely that you will be affected by the GPO.

The GPO reduces any spousal or window(er) benefits $2 for every $3 in pension benefits.  Because most governmental pension pay more than an equivalent Social Security covered job would and spousal benefits are 50% or less of the worker’s benefit, it is not uncommon for the GPO to completely offset any spousal or widow(er) benefits.

Let us use an example. Jack works in a position covered by Social Security and has earned a PIA of $2,000. Jill, his wife, was a school teacher and did not pay into Social Security. Her teacher pension is $2,500 a month. When Jack retires, he can collect $2,000 per month at his NRA or $2,640 at age 70. Jill would normally be eligible to collect a spousal benefit at NRA of $1,000 per month. Under the GPO she has a 2/3 offset like this:
     $2,500 divided by 3 and then multiplied by 2 = $1,667
     Spousal benefit of $1,000 minus GPO offset $1,667 = -$667 or zero spousal benefit

If Jack dies before Jill, then she would normally be eligible for a spousal benefit of whatever Jack was receiving, for this example we will look at him electing to retire at NRA and again at 70.
     NRA benefit $2,000, GPO offset of $1,667 = $333 spousal benefit
     Age 70 benefit $2,640, GPO offset of $1,667 = $973 spousal benefit

You can see from the example that delaying could still benefit a spouse. The offset amount is fixed upon the governmental pension, not the Social Security benefit.  Many people feel this is unfair, but almost always (as in the Jack & Jill’s example), the total monthly benefits are usually better than if Jill had been in Social Security instead.

You can find more information on the GPO at the Social Security website.

Windfall Elimination Provision (WEP)

The WEP only affects worker’s and disability benefits. The WEP only applies if you are receiving a pension from a federal, state, or local government where Social Security was not paid. If these two requirements are met, then it is very likely that you will be affected by the WEP.

The WEP modifies the PIA formula to reduce the amount of benefits a worker can collect on their own record depending on how many years they had “substantial earnings”.  The PIA formula takes the AIME (Average Indexed Monthly Earnings) and breaks it up into 3 “bend points”. Each bend point is multiplied it by a certain percentage (90%, 32%, and 15%). The WEP only reduces the first bend calculation which is at 90% of the first $761 (2010) of AIME. The WEP can end up reducing the 90% multiplier all the way to 40%.

The reduction of the 90% multiplier is based upon the number of years of “substantial earnings” which were covered by Social Security. What the WEP considers “substantial earnings” is adjusted each year based upon inflation, but to give you an idea, in 2010, what is considered substantial is $19,800 per year.  The idea being that if your full time job is not covered by Social Security and a worker does part time work earning a nominal amount, those years should not count towards the WEP calculations. The chart showing the reduction schedule is below.

The most the WEP can possibly affect a worker (in 2010) is a $380.50 monthly reduction in benefits (50% of $761). If a worker has 30 years or more of substantial earnings under which they paid Social Security, there is not reduction in benefits whatsoever. Like the GPO, even though the WEP generally reduces Social Security benefits, most affected individuals are better off with the WEP and their pension than they would have been if they had been in Social Security only, without being subject to the WEP.

You can find more information on the WEP at the Social Security website.

For more information, go to www.ssa.gov.

If you missed part 1 of this series, you can find it here:

“The Basics of Social Security – Understanding and Maximizing Social Security Benefits part 1 of 3”

If you missed part 2 of this series, you can find it here:

“When to File – Understanding and Maximizing Social Security Benefits part 2 of 3”

Posted by Ben Gurwitz on 23rd February, 2010 | Comments (2) | Trackbacks
Tags: Financial Planning, Social Security, Retirement Planning, Feb 10

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Comments

WEP and GPO and Social Security

I am currently and 24 1/2 substantial years of Social Security, but I am 69, receiving Social Security and working halftime for a university that has me paying Social Security and a California community college system that does not pay into Social Security.

In 1996, another university for whom I taught did not pay my Social Security because they had me work for the Foundation. Can I pay it back for that year?

Also, if I work past 70, can I continue to accrue 5 percent per substantial year of payment into Social Security? The halftime that I work for the university would qualify for substantial years.

If my disabled husband passes away before I do, I will be getting about the same because of 2/3 being taken away from his.

Thank you.

Posted on 24 June, 2010 by Bev

Bev Reply

When you worked for the foundation you were either covered under a State retirement plan or a FICA Alternative plan. These programs are in lieu of Social Security. I have not heard of any cases where you could pay it back as I don’t think you would own it.

As far as the question about increasing your substantial earnings years for the WEP calculation, this may be a possibility. Social Security will increase normal worker benefits when someone continues to work and earns enough money to replace one of their lower earnings years in the basic calculation, the Social Security benefits can increase. It would make sense that the same thing would apply to the WEP calculation, but at the very least you would need to earn a “substantial” income (which you say you do) which in 2010 is classified as $19,800 in Social Security covered wages. You would need to contact Social Security to verify this, but I think it is a likely possibility.

You are correct that the GPO applies to survivor benefits you may get from your husband if he predeceases you.

Posted on 24 June, 2010 by Ben Gurwitz

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