Saturday, August 1, 2009

Spouse Social Security -- 4 Facts You Should Know Now

If you're a business owner and your spouse is on the payroll, this article will save you a lot of money, especially if you're several years away from retirement (you're probably throwing 15% of that salary down a rathole). If your spouse isn't on the payroll, there's a strategy worth knowing about -- years in advance of making your decisions about Social Security benefits.

A spouse of a Chief Executive Boards International member called me today with a question about Social Security. The topic had come up at a recent Board meeting, and he realized I had spent some time digging into how this system really works, and how one might optimize the available benefits.

Yes, optimize. For this is a system that's not just as simple as picking a retirement date and applying. That's an easy option, of course, but you may wish to take a closer look.
Disclaimer: This article is not tax, legal or financial advice. It is an invitation to examine the way the Social Security System actually works, so you can use your best judgment as a business owner in setting your spouse's compensation and optimizing Social Security benefits for both of you.
Her question was, "What happens if I start taking my own benefit now (at age 62) and my husband waits 'till he reaches his full benefit (at age 66)." "Well", I said, "That's a more complicated question than it sounds, if you really want this to work out the best for you."

Buried in that question were at least 4 important facts you should understand about how Social Security calculations work.

She made the point that, despite having stayed out of the workforce for years raising kids, she has enough qualifying years of income to be eligible for Social Security benefits on her own. For the purpose of this article, we'll use this case -- where the wife has the lower lifetime income.

Fact 1:

Actually, the lesser-earning spouse's eligibility is not likely significant, for this system provides a spouse the greater of either her own benefit calculation or one half of her husband's benefit. Many business owners believe their spouse being on the payroll is contributing to her social security benefit. That's likely true in only a few cases, because of the way the Social Security Benefit is calculated. It's based on an average of your best 35 years of income, inflation-adjusted. Those years include, in my wife's case, a handful of years of part-time work when we were first married, as well as some part-time work as a Welcome Wagon lady. A few years of income below $3,000 will really slam an average.

So, to beat the 50% minimum spouse's benefit, the spouse's income average, based on 35 years, would have to be more than 50% of the primary breadwinner's 35-year average. Unlikely, in most cases, but check the annual Social Security Statement you get in the mail to be sure. And, more importantly, a few more years of spouse income doesn't help much -- divide anything by 35 and there's not much impact. If the only reason you have your spouse on the payroll is to accrue Social Security benefits, it's time to do some serious math -- you may be completely throwing that 15% FICA/Medicare haircut away, since she will get 50% of your benefit, no matter what. If your spouse is on the payroll for some other reason, you may want to drop that salary to the bare minimum to satisfy whatever that other reason is.

Fact 2:

Then we get to this spouse's question of taking her benefit early, at age 62. Not a bad plan, except that her benefit (50% of her husband's) is derated actuarially since she will get more years of income. In her case, by about 25% to 30%. See:
Even then, she gets the money for 4 more years, doesn't she? And when her husband takes his benefit at age 66, he'll still get his full benefit (although hers will continue at the discounted rate).

Fact 3:

But here's the most amazing part -- the Do Over (technically, the "Request for Withdrawal of Application"). There's a peculiarity in the Social Security System that allows you to totally restart your benefit calculation by paying back what you've received so far, interest free. At that point, your benefit steps up to what it would have been had you waited. So, there's no downside at all to taking the spouse's benefit early. Depending upon what happens in that 4 or 5 year period, you may decide to take the Do Over, refund the benefits received so far, and then begin receiving the stepped-up benefit. If you paid taxes on the earlier benefits, you get a credit for those, as well. Great article with more info....

Fact 4 :

And, you may ask, what happens if the higher-earning spouse (in this case the husband) dies? Then the game changes totally. That completely washes out the question of when she started taking benefits. She immediately begins receiving 100% of his then-current benefit, based on the age at which he originally started taking payments.

In summary, the Social Security system isn't simple, and many business owners are unknowingly paying FICA and Medicare taxes that will never help them. The reason for that is the little-understood quirks in the way the benefit calculations work. The Do Over is known by only a few people I've ever talked with. Your Social Security office may not be completely familiar with it.

Do consult a financial or tax advisor about your own individual situation. And if that person doesn't seem to be fully conversant with all these quirks, find one who is.

If you or your financial advisor have some views on this, please click Comments below and share them with others.

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Terry Weaver

Chief Executive Boards International

Chief Executive Boards International: Freedom for business owners & CEOs -- Less Work, More Money, More Freedom to enjoy it

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