Social Security – The Basics

You pay your payroll taxes every month but unless you’re close to retirement, you probably don’t give Social Security much thought.  Maybe you think about it once a year when the news updates when the Social Security trust fund will run out of money.  Maybe you think I don’t need to worry about it because there won’t be any money left for me.  If you’re interested in that, check out this other MFAA blog post on Social Security solvency.

This article will explain the basics of Social Security, the claiming decision you’ll need to eventually make, and why understanding how it works will have a BIG impact on how much money you’ll receive.

Introduction

Social Security is a critical safety net providing financial support to retirees, disabled individuals, and survivors. In this blog post, we delve into the fundamentals of Social Security, focusing primarily on the retirement aspects to provide you with a understanding of how this program works.

Eligibility and Coverage

Determining Eligibility

Social Security benefits are designed to provide crucial financial support to individuals who have paid into the system through payroll taxes. Eligibility for various benefits is determined by a combination of factors, including your work history, age, and disability status. Here are the key components of eligibility in more detail:

1. Work Requirements

To be eligible for Social Security benefits, you typically need to have earned enough “credits” by working and paying Social Security taxes. Credits are earned based on your total yearly wages or self-employment income. In 2023, you earn one credit for every $1,470 in earnings, up to a maximum of four credits per year. The exact number of credits you need to qualify for benefits depends on your age and the type of benefit you’re seeking.  Generally, you need 40 credits (equivalent to about 10 years of work) to qualify for retirement benefits on your own record.

2. Age Requirements

You can start receiving Social Security retirement benefits between ages 62 and 70.  If you start receiving retirement benefits before your Full Retirement Age (FRA) your monthly benefit amount will be reduced.  Waiting until your Full Retire Age allows you to receive your full benefit amount.  You can also increase your benefit if you wait beyond your FRA up to age 70.  Benefits do not increase beyond age 70.  We’ll discuss more about this in the benefits section.

Coverage Details

Social Security covers several types of benefits, each serving a specific purpose.  They are retirement, disability, and survivor benefits, as well as Medicare.  Disability and Medicare are important aspects, but beyond the scope of this article.

Retirement Benefits

Retirement benefits are the most well-known aspect of Social Security. These benefits provide financial support to individuals who have reached their Full Retirement Age and have accumulated enough credits. You have the option to start receiving retirement benefits as early as age 62, but claiming later can result in higher monthly payments.

Survivor Benefits

Survivor benefits offer financial support to the surviving spouses, children, and dependents of a deceased worker. These benefits provide a lifeline to families facing the loss of a primary wage earner. Eligibility and benefit amounts vary based on your relationship to the deceased and their work history.

Navigating Eligibility and Applying for Benefits

Understanding your eligibility and the specific requirements for each type of benefit is crucial when planning your financial future. The Social Security Administration provides detailed information, resources, and online tools to help you determine your eligibility.  Go to SSA.gov.

[Note:  While they used to send annual statements to you, you now need to establish an account to get your Social Security statement.  If you haven’t established an account or checked your statement recently, I encourage you to do it.  You want to make sure your annual income is correct on the statement.  It’ll also project your benefits based on your work history]

The process of applying for Social Security benefits can be complex.  Meeting eligibility criteria is just the first step. Depending on your situation, you may need to provide various documents, medical records, and other information to support your claim.

Social Security Benefits Explained

Retirement Benefits

Retirement benefits are a cornerstone of the Social Security program, providing financial support to individuals as they transition from the workforce into retirement. These benefits are designed to replace a portion of your pre-retirement income.  This offers a measure of financial security and for many THE only income they have in retirement.

The other key fact about Social Security benefits is they are indexed to inflation.

Full Retirement Age (FRA): Your FRA is the age at which you can receive your full benefit amount without any reduction. Your Full Retirement Age (FRA) is set by Congress in Social Security law.  For those born between 1948 and 1954, it is 66.  For those born in 1960 or later, it’s 67.  For those born between 1955 and 1959, its between 66 and 67.  Claiming benefits before your FRA results in a permanent reduction in your monthly benefit, while delaying benefits past your FRA can lead to higher monthly payments.

Early vs. Delayed Retirement: You have the option to claim retirement benefits as early as age 62. However, if you choose to do so, your monthly benefit will be permanently reduced. On the other hand, if you delay claiming benefits beyond your FRA, your benefit amount increases by 8% per year for each year of delay, up to a maximum of 70 years old. This delayed retirement credit incentivizes individuals to continue working and delay claiming, leading to higher monthly payments in the long run.

Example

Your FRA is 67.  You expect your benefit to be $3000 per month.

If you claim at 62, your benefit will be reduced 30% for a monthly benefit of $2100.
If you claim at 65, your benefit will be reduced 13.3% for a monthly benefit of ~$2600.
Wait to claim at 70 and your benefit will be increased 24% for a monthly benefit of $3720.

Calculating Retirement Benefits

The Social Security Administration calculates your retirement benefit based on your average indexed monthly earnings over your 35 highest-earning years. The calculation considers inflation and wage growth over the years. The formula considers these earnings, applying different percentages to portions of your income to arrive at your Primary Insurance Amount (PIA). Your PIA represents the benefit you’ll receive if you claim at your Full Retirement Age.

Understanding how your claiming age and earnings history interact is crucial for maximizing your retirement benefits. It’s important to note that your monthly benefit can also be affected by factors such as working while receiving benefits before your FRA and taxation of benefits based on your total income.  If you claim Social Security before your FRA, your benefit payment will be temporarily reduced if you earn more than the earnings limit. You can work after Full Retirement Age and earn as much as you’d like without reducing your benefit payment.

1. Social Security and Retirement Planning

Integrating Social Security into your retirement planning is crucial.  Even if you don’t expect to rely on Social Security, it can help you preserve other assets that you can use or gift to your heirs or charity.  When you claim benefits (as seen in the example above) can significantly impact how much you, and if you’re married your spouse, will receive.  Consider factors like your life expectancy, financial needs, and other sources of retirement income.  [We’ll look at claiming strategies in our case study in part 3 of this series.]

Tax Implications: Depending on your total income, a portion of your Social Security benefits might be subject to federal income tax. Understanding these tax implications can help you better plan for your retirement income.  The income limits for benefit taxation are low so if you have a military or other pension it is highly likely your Social Security benefits will be taxed.

Future Challenges

You probably have seen the yearly headlines that come out when they update the numbers for the Old-Age and Survivors Insurance (Social Security) Trust Fund.  It’s now projected to run out of money in 2033.  At which time Social Security will only be able to pay 77% of the project benefits from the money they get from the monthly payroll taxes.

While there have been reports that Congress has begun to work on this, so far there haven’t been any breakthroughs.  I expect something will get done, but the bad thing is by waiting the range of options decreases and the changes (increase in taxes or working ages) have to be bigger.  Again, for full treatment of this, check out this article.

Conclusion

Social Security is a cornerstone of financial security for millions of Americans. By understanding its various benefits, eligibility criteria, and planning strategies, you can make informed decisions to maximize your benefits and ensure a more secure retirement.

 

 

Selecting a Financial Advisor

If you’re on this website, there’s a good chance you are looking for someone to help you with a financial question or concern.  Perhaps you’re worried about one thing in particular, want an assessment of your current financial situation, want to know if you’re on track to retire (or meet some other financial goal), or something else. In any case, something/ someone gave you the idea to consider professional financial advice.

But where in the world do you start?! 

Before we discuss the details you might encounter in your search, let’s consider some basic terms and concepts.

Types of Financial Advice Professionals

Financial Advisor – There is no standard definition for this job title. Generally speaking, a financial advisor is licensed to provide investment advice, which means they can recommend how to invest your money.  

Financial counselors and coaches – Counselors and coaches focus on helping clients tackle a particular area of their financial situation (budget, debt, learning how to save, etc.).  Coaches and counselors are not licensed to provide investment advice.  Note that anyone can call themselves a financial counselor or coach (social media is full of people who call themselves financial coaches and counselors!).  

Brokers—Brokers are sales professionals who sell a financial product or security. For example, stock brokers sell securities like stocks, bonds, mutual funds, etc. Insurance brokers sell insurance products like life insurance and annuities. Sales professionals earn a a commission when they sell something. They are not required to meet a fiduciary standard but must meet the standards of their licenses and applicable laws. (Fiduciary means that you have to work in the client’s best interest).

There are tons of other financial professionals, but when it comes to financial advice, you will encounter these most common types of financial professionals.  

How Clients Pay for Financial Advice

Now that we have a basic idea of the type of financial professionals you might encounter searching for advice let’s talk about how financial professionals get paid.  Some financial professionals volunteer some portion of their time to provide pro-bono advice to clients who could not otherwise afford financial advice.  Aside from volunteer work…

Every. Financial. Professional. Gets. Paid. No exceptions. 

Financial professionals receive compensation whether the client pays them directly or not. Simply speaking, there are three common types of compensation for financial professionals:

1. Fee-only – collect a fee from the client; cannot be compensated for advice from any other source besides the client
2. Commission-based – earn a commission from selling products; 
3. Fee-based – collect a fee from the client and can earn commissions from selling products

Financial services companies pay commissions to salespeople who sell products like mutual funds, insurance, annuities, etc.

Some financial professionals can only collect fees from their clients. They cannot collect commissions for product sales. These professionals are called “fee-only.” A fee-only professional may collect money directly from the client or bill an investment account they are managing for the client. 

Some financial professionals are only paid when they sell a product and receive a commission. The professional does not charge the client for services. Instead, the product the client purchases incorporates one or more charges. The sales professional must provide a sales document (prospectus, etc.) that outlines the costs.

Some financial professionals are paid by collecting a fee from the client for some of their work and may also earn a commission when they sell a product to the client. These advisors sometimes use the term “fee-based.”

Fee-based vs. fee-only – it’s confusing, right?  Bottomline – fee-only advisors are paid only by their clients for client service.  Fee-based advisors may also sell products and earn a commission.

Common Services Financial Advisors Offer

Now, let’s review common ways financial advisors work with clients.

Ongoing Advice – Your financial advisor provides a given level of service for as long as you both choose to continue working together. Advisors will either charge an “asset under management” (AUM) fee or a monthly/ quarterly fee.  (AUM fees mean the advisor is managing your investments for you and is (usually) charging a percent of the assets they manage.)  You must agree on the level of service and the fee upfront.

Project-based: You hire a financial advisor to provide a service with a clear start and end point. For example, you might want a financial advisor to review your investments and recommend changes. You might also want a comprehensive financial plan with recommendations you will implement independently. You agree on the project scope and cost upfront.  

Hourly-based advice – You hire a financial advisor to spend time with you to address a specific problem. 

Specializations and Certifications

We noted above that there is no standard definition for a financial advisor. However, not all financial advisors are the same. Some have specialized expertise in a particular area or for a specific type of client, and some hold credentials.  

The Military Financial Advisors Association is an excellent example of a group of financial advisors with specialized expertise for a specific type of client – military personnel.  We’ve all experienced the military lifestyle and have firsthand knowledge and experience with the benefits. 

Other financial advisors specialize in working with small business owners, employees who earn a lot of equity compensation, women, young families, teachers, etc. If you can imagine a group of people with unique financial considerations, an advisor somewhere probably specializes in working with those clients. There can be additional value in working with someone who understands the nuances of your situation.

Some advisors hold credentials. Credentials can indicate an area of specialization and a commitment to upholding a given standard.  The CERTIFIED FINANCIAL PLANNER™  designation is widely considered the industry’s “gold standard” credential for financial advisors.  While the term “financial advisor” is not defined, the CFP Board governs using the title CERTIFIED FINANCIAL PLANNER™ (also known as a CFP® Professional).  A CFP® professional has met specific academic requirements, passed a rigorous exam, met an experience requirement, and signed an ethics declaration before being awarded the marks.  A CFP® professional must always act as a fiduciary to their client.  (A fiduciary is someone who must always put the best interests of the client first).

There are a plethora of other credentials in the industry today. While credentials are sometimes a positive indicator that the advisor is committed to professional development, a given set of practice standards, and specialization, they aren’t an endorsement of the advisor by any organization. You must do your homework. 

How to Vet An Advisor

Let’s assume you’ve decided to work with a financial advisor, that you’ve decided whether you want a fee-only, fee-based, or commission-based advisor, and that you’ve found a group of advisors with the type of expertise you prefer. It’s time to vet the advisor.

First, review the US Securities Exchange Commission’s (SEC) Investment Advisor Public Disclosure website. Search for the names of the financial advisors you are considering.  The website provides an overview of industry experience, where they worked, which licensing exams they’ve passed, and whether there is any disciplinary history/ action.  

Then, schedule an interview/ consultation with the financial advisors you are still considering.  During the meeting, consider:

• Do you like this person?  Does your spouse like this person?
• Can they explain their services, processes, and fees in a way you understand?
• Are their services a fit for your situation? 
• Can you afford their fees?
• Can you commit to the process and the timeline?
• Are you willing to share the type of information the financial advisor will request?
• Does this person have the knowledge and expertise you hope to find?

If you answer yes to all of these questions about more than one financial advisor you’ve interviewed, then compare how each financial advisor fits your needs and personality.

Selecting the Advisor

Once you’ve selected your preferred advisor, let them know you want to proceed. And don’t forget to let the advisors you didn’t pick know that you’ve chosen another advisor.  It’s absolutely ok.  It’s part of the job.  So let everyone know when you’ve made your decision. 

Then, get ready! Your new advisor will give you a ton of homework to get started. And, hopefully, it’s the beginning of a great relationship with someone you like and trust and who can provide meaningful insight to you and your family.

MFAA has numerous advisors you can talk to to find your perfect match.  You can find them here.

Conducting a Home and Auto Insurance Review

Many consumers are shocked when they receive their annual insurance bills.  Rates for auto and homeowners’ insurance are climbing significantly.  Auto rates increasing 20% isn’t uncommon and homeowners probably isn’t much less especially if you live in an area that see extreme weather events.

So why is this happening?

The biggest driver of this is the increase in prices of cars and homes and the costs to repair them.  It costs much more to repair newer cars.  I heard an example recently that said replacing a bumper used to cost a few hundred dollars.  Now with all the cameras and tech integrated into cars it’s several thousand dollars.  For home insurers, costs associated with extreme weather events have been increasing.  Couple that with rising home prices and the demand for housing and you’ve got a recipe for higher costs.

So why is this happening now?

Insurance is a regulated industry.  Each state insurance commissioner sets rates based on the requests from companies.  This means it operates on a lag.  During COVID, claims dropped because people weren’t driving as much.  The insurers made more money.  As the pandemic eased, claims increased to higher levels than pre-pandemic.  This lowered insurance company profitability.  They have now gotten the insurance commissioners to increase rates and as your individual policy comes up for renewal it’ll probably mean higher rates for you.

What can you do?

You could consider shopping for another company, but this is typically not an individual company thing.  Rates have increased nearly across the board.  It doesn’t mean you shouldn’t compare.  Just don’t expect huge savings.

Review Your Coverage

You can also review your coverages.  This is important to do at least every few years.  You can download the 2-page checklist (link), but here are a few things to consider.

Homeowners Insurance & Personal Property

Has your home increased in value? 

There are nuances in the insurance rules that require you policy to cover < 80% of the value.  If your policy doesn’t, you could only get partial reimbursement for any claims.

What’s your deductible?  Can you raise it?

I’m a big fan of higher deductibles.  They can reduce your premiums because you’ll be less likely to file a small claim.  If you’ve got a proper emergency fund, this is something you could assess to determine if it’s right for you.

Have you made big improvements to your home? 

If you’ve finished the basement, built an addition, or added a pool, you’ll want to make sure these improvements are fully captured in your policy.

Do you have personal property (jewelry, electronics, antiques) that has value beyond the standard policy limit?

If so you may need to add a specific policy provision to cover it.

Auto Policy

Are your collision and comprehensive limits adequate based on the value of the vehicle?

It used to be that once cars reached a certain age, you could consider not having comprehensive coverage because they weren’t worth very much.  With the increase in the value of even very old cars, this probably isn’t as much the case any more.  It can still be a good thing to assess periodically.

Can you raise your deductible?

Do you have kids on the policy?

They may be able to qualify for good student discounts.  If they are only a part-time driver because they are away at college without their own car, they may get a reduced rate.

Umbrella Insurance

Once you amassed a certain level of wealth, it can be important to consider adding an umbrella policy.  Umbrella policies provide protection over and above your homeowners’ and auto policies.  Umbrella policies are relatively cheap for the amount of coverage you can get.

Discounts

If you’re talking to your insurance carrier about your policy, ask them about discounts you might qualify for.  There is the standard bundling discount for multiple policies, but there are many others from having home alarms to not having any claims for several years to multiple car discounts.

Wrap Up

With the increase in the cost of insurance, now could be a great time to review your policies to see if there is a way to save some money.  While I’ve hit the highlights, this checklist (link) has some other information you should consider.

Want to talk about your insurance or any other financial topics?  Contact a MFAA member today.  You can find the list of MFAA Advisors here.

Special Needs Planning Considerations:

ABLE Accounts, Special Needs Trusts and the Survivor Benefit Plan

Military retiree benefits provide additional planning opportunities and considerations for families of special needs children and adults. In every instance, I recommend working with both an estate planning attorney with experience in special needs planning and an experienced military financial advisor. Navigating Tricare coverage and survivor benefits plan options available for special needs beneficiaries make the planning process more important and more complex. Additionally, each state will have different public benefits that may be available, so where you live or plan to live adds an additional element to consider. 

One of the major goals of special needs planning is to avoid disruption of eligibility for certain means-tested government benefits for the special needs individual. This is particularly important as the parents age and when they pass away. Two different tools that can be used to preserve eligibility for means-tested benefits include Special Needs Trusts and ABLE accounts. 

Special Needs Trusts (SNTs) and Achieving a Better Life Experience (ABLE) accounts are financial management tools designed to assist individuals with disabilities and their families in managing resources and securing their financial future. Here’s an overview of each:

Special Needs Trusts (SNTs):

• • Purpose: SNTs are legal arrangements created to hold and manage assets for the benefit of a person with a disability. The trust is designed to supplement government assistance programs like Medicaid and Supplemental Security Income (SSI) without jeopardizing eligibility.
  • Types:
    • Third-Party SNT: Established by someone other than the person with a disability, often a family member.
    • First-Party SNT (or Self-Settled SNT): Created with the disabled individual’s assets, often from a legal settlement or inheritance. This type of trust is important for military members and retirees who would like to name their special needs child as beneficiary for Survivor Benefit Plan benefits.
  • Management: A trustee is appointed to manage the trust and make decisions about the use of funds for the benefit of the individual with special needs.

I cannot stress the importance of choosing an appropriate trustee enough. Often a family member is chosen to serve as the trustee of the SNT. While this can be a good thing, it is important to make sure that the trustee is fully aware of their responsibilities and equipped to handle them. Trustees have a fiduciary obligation to the beneficiary of the trust. This means they are legally obligated to act on behalf of the beneficiary’s interest. This includes understanding the coordination of benefits and how best to meet the needs of the beneficiary, filing an annual tax return and providing an annual accounting report. Placing someone in that position who is not aware of or equipped to fulfill these obligations leads to negative outcomes for everyone involved. If you aren’t sure who to name as the trustee, there are many organizations around the country who will serve as professional trustees on special needs trusts. 

Once a first-party special needs trust is established, the beneficiary may not be changed. However, beneficiaries of third-party special needs trusts may be subject to change depending on the language in the trust document.

While beneficiaries are living, the funds within a first-party trust protect the beneficiary’s ability to qualify for means tested public benefits. Once the beneficiary passes away, the funds within the trust are subject to state Medicaid reimbursement. A key element to remember while developing your planning is that third-party special needs trusts are not subject to state Medicaid reimbursement. 

• Benefits: SNTs provide additional options for providing for the future needs of a family with disabilities that will protect their eligibility for certain means tested government benefits, provide a pool of money to supplement those benefits and allow military retirees to incorporate SBP into their planning. 
  • Protects eligibility for government benefits.
  • Provides for supplemental needs not covered by public assistance.
  • Enables family members to contribute to the individual’s financial well-being. Military members and retirees may elect Survivor Benefit Plan (SBP) benefits for their children with disabilities. This may be done under the spouse-child option when the child has a long-term disability or as a child only option. The coverage applies even when the beneficiary has aged into adulthood. A self-funded special needs trust can be used to ensure the money doesn’t put other government benefits that the child may be using at risk. However, SBP payments would need to be irrevocably assigned to the self-funded special needs trust. You will need to coordinate between your attorney and DFAS to make sure the benefits are correctly assigned.
  • First-party special needs trusts and third-party special needs trusts are not subject to annual contribution limits. There are no limits on the total amount of money that can be held in either type of account.

Achieving a Better Life Experience (ABLE) Accounts:

• • • Purpose: ABLE accounts are tax-advantaged savings accounts for individuals with disabilities. They allow eligible individuals to save and invest money without affecting their eligibility for certain means-tested benefits. Each state operates an ABLE account for beneficiaries in their state. However, much like 529 plans, you are not limited to investing only in the plan sponsored by your state.
    • Eligibility: Individuals must have a significant disability that occurred before the age of 26. Eligibility is not limited to those receiving SSI or SSDI.
    • Contributions: Contributions to ABLE accounts can be made by the account beneficiary, family members, or friends. Contributions are not tax-deductible, but earnings in the account grow tax-free. While there are some tax benefits to contributing to an ABLE account, the real benefit lies in the ability to set aside funds without disrupting eligibility for public benefits that may be needed now or in the future.

Many families with special needs children are unsure of how much assistance their children will need in the future. This is particularly true when their children are young. One great benefit of ABLE accounts is that you can rollover a 529 Plan account into an ABLE account. This allows families to save for their children’s future while keeping the flexibility to roll the money into an ABLE account if needed.

• Use of Funds: ABLE account funds can be used for qualified disability expenses, including education, housing, transportation, healthcare, and other living expenses.
• Benefits:
  • Allows individuals with disabilities to accumulate savings without losing government benefits.
  • ABLE accounts provide the beneficiary with a degree of financial independence and flexibility. This is particularly true for those who may have physical disabilities, who need public benefits assistance, and who also want to have direct control over their money. ABLE accounts can be used in conjunction with a special needs trust.
  • Offers a tax-advantaged way to save for disability-related expenses.

The rules and regulations for both SNTs and ABLE accounts can be complex, and it is always recommended to consult with an experienced special needs estate planning attorney. Coordinating with your financial advisor who is experienced in disability planning and military and federal benefits can help you consider all the options when it comes to utilizing your benefits to help provide for your loved ones.

The financial planners at the Military Financial Advisors Association are here to help you consider your options when it comes to planning for children and adult children with disabilities. Reach out to one of us today!

What Military Members Need to Know About the Future of Social Security

If you’ve read the headlines, you’ve probably heard that Social Security is in financial trouble. In fact, Social Security posts a disclaimer on your statement, saying that  “by 2035, the payroll taxes collected … will be enough to pay only about 80% of currently scheduled benefits.” In other words, if Congress does nothing by 2035, 20-25% of all Americans will experience a permanent reduction in their payments.

If you, for example, expected to earn $3,000 a month in benefits, you may only receive $2,400 a month instead. But don’t panic yet. Let’s look at how Social Security works and what might be done to fix the problem.

Understanding Social Security

Social Security works by taxing the paychecks of those who are currently working. These taxes are your contributions that pay benefits to those who are eligible (retirees, widows, disabled, etc.). You can think of Social Security as a wealth transfer between generations, generally from younger workers to older retirees, but also to beneficiaries (mostly widows and children) .

In contrast, your own contributions to your TSP and the ultimate benefits of your military pension (assuming you vested by minimum service requirements) are legally owned by you the contributor. You own that money, even if your employer goes bankrupt or out of business. That’s not how Social Security works.

The Social Security Administration (SSA) takes 12.4% a year out of your wages. You pay 6.2%, and your employer pays 6.2%. You, as an employee, pay half (6.2%), and your employer (the DoD) pays the other half. One common exception is for the self-employed. In that case, you are your own employer, and you pay the entire 12.4%.

Payroll taxes account for over 90% of the money that goes into SS, called “program receipts.”

Program receipts go to a type of savings account called the Old Age, Survivor, and Disability Insurance (OASDI). OASDI is a trust fund managed by the US Treasury that immediately pays benefits to those who are eligible. When program receipts (what goes in) exceed immediate benefit payments (what goes out), excess funds are invested in US Treasury bonds and held in reserve for future periods. When program receipts are insufficient to cover immediate benefit payments, bonds in the trust fund (if available) are redeemed to cover the shortfall.

Nearly all program expenditures go to paying benefits, with less than 1% spent on administration. Eligible beneficiaries include retirees and their families, surviving spouses and dependents, and those who are disabled and their families.

How Social Security Calculates Your Benefits

The program calculates how much benefit you will get using a formula based on your average monthly work earnings over 35 years. The formula averages your highest-paying working years and adjusts the amount for inflation. The result is called your Average Indexed Monthly Earnings (AIME). Your AIME is then used to calculate your potential SS benefit. This is called your Primary Insurance Amount (PIA).

How to Calculate AIME

The formula for your AIME is as follows: 1) take how much you earned in every year, up to the maximum contribution or benefit base for that specific year; 2) for years prior to the year in which you turned 60, inflate those amounts using the national average wage index; 3) rank your pre-60 indexed earnings along with your 60+ unindexed earnings from highest to lowest; 4) add up the highest 35 yearly figures; 5) divide the total by 420 months to get your AIME. Note that to qualify for retirement benefits, you must have 10+ years of earnings on which you paid Social Security payroll taxes. And, if you paid into Social Security for <35 years, all non-contributing years are considered zeroes in the AIME formula.

The formula for your PIA is the sum of three separate percentages of portions of your AIME. The percentages of the PIA formula are fixed by law at 90%, 32% and 15%, respectively. Since the percentages are declining for each portion of your AIME, the PIA formula is progressive. The dollar amounts in the formula (called “bend points”), which govern the portions of the AIME, change annually with changes in the national average wage index. For 2023, if your AIME is greater than $6,721, your PIA = 90% x ($1,115) + 32% x ($6,721 – $1,115) + 15% x (AIME – $6,721). For example, if your AIME is $8,000 your PIA in 2023 would be $2,989.

The PIA formula is progressive, meaning Social Security provides proportionally higher monthly benefits to lower-income workers. For example, retirement benefits may replace about 45% of a middle-income worker’s AIME vs. about 27% for a high-income worker. This is good news for most lower income people. Social Security can replace a greater share of their income needed in retirement.

How much retirement benefit you receive depends on your age when you apply or “file.”

Will Social Security Have Enough to Pay Your Benefit?

For almost four decades, Social Security has been cash-flow positive (more was paid in than paid out). In 2021, however, program benefits paid out were more than taxes paid in for the first time since 1982 (more was paid out than was being paid in). By 2020, the trust fund held about $2.91 trillion, enough to fully cover 2.6 years of program expenditures (everyone collecting benefits).

Given the magnitude of the benefits to be paid out (over $1 trillion a year) and the nation’s aging population, the program must rapidly use up its reserves to meet its obligations.

For every 65-year-old potential retiree in 1985, there were 5 workers aged 20 to 64 potentially paying into the SS system. In 2020, there were only 3.5 workers. Those in charge of the trust fund predict that, by 2035, there only will be 2.7 workers for every retiree and just 2.3 by 2080. In other words, fewer and fewer taxpayers will be supporting each eligible beneficiary, or alternatively, each taxpayer will be supporting more and more beneficiaries

The Board of Trustees of the OASDI trust fund (“Trustees”) predict the trust fund will be depleted by 2035, at which point program receipts (payroll taxes) will be enough to pay about 80% of promised benefits. In short, the trust fund will run out, but all the Social Security benefits will not.

What Can Fix Social Security?

Experts propose a few solutions to the problem. One is to increase how much Social Security takes out of a worker’s paycheck by a few percentage points (pay higher taxes). Another solution is to reduce the size of benefits. The longer Congress delays, however, the bigger the problem becomes and the more drastic the solutions.

To understand what it will take to fix Social Security, the Trustees analyze the program’s cash flows over the next 75 years and beyond. To start, the Trustees sum up the present value of future program receipts, add them to the current balance of the trust fund and subtract the present value of future expenditures. What’s left is an estimate of the program’s financial shortfall over that period. For example, the Trustees estimate the program needs $20.4 trillion of additional assets today to pay all promised benefits over the next 75 years (that’s 1.1% of GDP over that time).

The Trustees estimate that to close the $20.4 trillion shortfall, and pay all promised benefits over the next 75 years, requires an immediate and permanent increase in payroll taxes of 3.24 percentage points, a reduction in benefits of 20.3%, or some combination of the two. Unfortunately, if Congress delays until the trust fund is depleted in 2035, the required changes will be larger—e.g., a 4.07 percentage point increase in payroll taxes, a 24.9% reduction in benefits, or some combination.

Planning in Light of Uncertainty

Does this mean you should be planning on a future without Social Security? I don’t think so. Although the program clearly requires reform, as it did in the 1980s, it is far from bankrupt. It just needs modifications.

Sadly, Congressional action around Social Security tends to arrive at the last minute. Legislators will likely need to shore up the program’s 75-year shortfall using a combination of tax increases and benefit cuts.

For planning purposes, you may need to update your financial plan. For example, in 2023, we could see a 2.035 percentage point increase in payroll taxes (half paid by the employer and half by the employee) and a 12.45% decrease in benefits for all beneficiaries beginning in 2035.

All things equal, this means your financial plan may require more saving and support less spending, especially if you’re younger. That said, no matter the changes, Social Security will likely remain the best longevity insurance most Americans could ever hope for, so take the “doom and gloom” news you hear with a grain of salt. For military retirees with a pension on top of Social Security, they should be even less concerned than the general population.

Social Security and retirement planning are just a few of the thing the MFAA advisors are great a helping their clients figure out.  If you’ve got financial questions, consider scheduling a call with one of our advisors.

 

Purchasing Life Insurance While Stationed or Living Overseas: A Guide for U.S. Military Veterans

As a U.S. military veteran living overseas, you’ve already navigated uncharted territory, braved unfamiliar landscapes, and adapted to new cultures. Now, as you consider purchasing life insurance from abroad, you might once again find yourself facing an unfamiliar and potentially daunting task.

American insurance companies, including USAA, often do not offer insurance policies to individuals residing outside the United States1. And yes, that includes active-duty servicemembers stationed overseas. It doesn’t make much sense, but it is what it is. If you have already run into these dead-ends, you may be feeling unsure about how to protect your loved ones financially in the event of your passing. However, despite this challenge, there are viable options available to you.

This blog post will help you understand the obstacles you might face, explore potential solutions, and ultimately secure your financial future – no matter where in the world you call home. 

A Note About Military Provided Life Insurance

This article essentially ignores SGLI, FSGLI, and VGLI. While those insurance policies are valid options for servicemembers and Veterans, their policy limits ($500,000 for SGLI/VGLI and $100,000 for FSGLI) are insufficient in many cases and their costs do increase over time. 

Understanding the Challenges

Firstly, it’s important to understand the hurdles you may encounter when trying to purchase life insurance overseas:

1. Limited Options: As a U.S. citizen living abroad or with split residency, your choices for buying life insurance with U.S. companies are limited1. Many American insurers restrict their coverage to U.S. residents due to regulatory constraints and perceived (even if not real) risks associated with insuring expatriates2.
2. Validity Issues: Some insurance policies sold by international insurance companies are only valid for the country in which they are bought3. This means that if you return to the U.S. or move to another country, your policy may become void.
3. Payout Concerns: While life insurance generally provides a payout if the policyholder dies overseas, certain exceptions could apply4. For instance, if you pass away in a country that’s under U.S. sanctions, your beneficiaries might not receive the death benefit.
4. Medical Exams: Most insurance companies offering term-life or whole-life policies require some sort of medical exam to verify the health of applicants. Depending on the reason you are overseas, it may be more difficult to access a provider that can complete the exam requirements.

Your Path to Coverage: Three Viable Options

Despite the challenges, you still have options to secure life insurance coverage. Here are three possibilities:

1. Employer-Based Coverage: If you’re currently employed overseas, your employer may offer a group life insurance plan. These plans often provide worldwide coverage, regardless of your location or medical history. They can be a convenient and cost-effective way to secure some level of life insurance protection. However, the amount of coverage may be limited. A common upper limit is 10 times annual base salary5. The critical weakness here is that coverage is tied to employment. If you are terminated, the life insurance coverage often ends immediately. This situation occurs more than you might think. 
2. AAFMAA (Armed Forces Benefit Association): AAFMAA offers life insurance policies to members of the American armed forces and Veterans, including those living overseas6. This can be a particularly good fit for military veterans. AAFMAA will sometimes accept a recent military PHA in lieu of a medical exam. The cost of these term policies and the upper limit of coverage will fit the needs of Veterans in many situations.
3. Local Insurance Companies: Another option is to purchase a policy from a local insurer in your country of residence. For example, I had a client who was working in Qatar and found a suitable policy with Doha Bank. Local insurers understand the country’s regulations and can offer policies tailored to expats. However, you’ll need to navigate language barriers and unfamiliar insurance norms. Plus, the policy may not remain valid if you later decide to move back to the U.S. or to another country.

The Importance of Professional Guidance

Given the complexity of securing life insurance while living overseas, professional guidance can be invaluable. A financial planner with experience in cross-border insurance matters can help you understand your options, compare policies, and make an informed decision. They can also help you navigate the application process, which may involve additional paperwork and medical examinations due to your overseas status7.

Furthermore, working with a financial planner can help identify the amount of life insurance you actually need. Rules of thumb are helpful, but specific details about your finances and objectives may create a need for more life insurance than the rules of thumb suggest. Or, perhaps, you have little need for life insurance at all!

Final Thoughts

Purchasing life insurance while living overseas can seem complicated, but it’s far from impossible. With careful research, consultation, and planning, you can secure the financial future of your loved ones no matter where you live.

Your service and work overseas should not limit your access to life insurance. It’s about finding the right policy and right source that fit your unique situation. Remember, the road to securing life insurance as an expat may have a few more twists and turns, but with persistence and the right guidance, you can navigate this path successfully.

If you’d like to talk to one of the MFAA members about life insurance or another financial challenge, you can find them here.

 

Footnotes

1. Policy Genius
2. Expatica
3. Unisure Group
4. Experian
5. Investopedia
6. AAFMAA
7. International Citizens Insurance