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How Early Retirement Impacts Social Security Benefits

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How early retirement impacts Social Security benefits

I originally wrote this post in 2012 to figure out how early retirement impacts Social Security benefits. A lot has happened since then. I retired from my engineering career to become a stay-at-home dad/blogger. My income dropped, but my happiness increased tremendously. After 9 years of early retirement, I’m happy to report that I have zero regrets. Fortunately, I’m having some success with blogging. I still have some income to supplement my early retirement. You can take a look at my online income update if you’re curious.

2020 was a tough year for blog income. I guess people have too many things to worry about so they aren’t as interested in FIRE. My blog income was great in 2018 and 2019, but it has been decreasing since then. Unsurprisingly, self-employment income can fluctuate wildly. This means my Social Security estimated benefits also change from year to year. The estimated benefits assume you’ll make a similar amount of income until you retire, which isn’t the case for everyone. My estimated benefits ranged from $1,950/month to $2,640/month. This is exactly why I wrote this post. I wanted to figure out a more accurate estimate and see how early retirement impacts my Social Security benefits. Once we have a better estimate, we’ll be able to factor it into our early retirement withdrawal plan. Although, my benefits are stabilizing as the number of working years increased. 

Okay, we’ll quickly review how the Social Security benefit is calculated. Then we’ll go through 3 scenarios to see how early retirement impacts our Social Security Benefits.

*There is a fantastic online calculator from the ssa.tools. I’ll show you how to use it when I go over the calculations.

Social Security recap

In the United States, Social Security is the Old-age, Survivors, and Disability Insurance (OASDI) federal program. Social Security is funded through payroll taxes and is meant to be a safety net for all qualified workers. We’ll focus on the “Old-age” or retirement part of the program today. Not everyone qualifies for Social Security retirement benefits. These are important things to know about Social Security.

  1. First, you need 40 credits to be eligible for Social Security. You can earn up to 4 credits each year. Almost all Americans earn enough income to earn these 40 credits over their working life.
  2. The benefit (Primary Insurance Amount or PIA) is calculated from your average indexed monthly earnings (AIME.) This takes your highest 35 earning years and averages them out to a monthly earning. Once you have the AIME, then the benefit is calculated with the following formula*.
  • A) 90 percent of the first $1,024 of his/her average indexed monthly earnings, plus
  • B) 32 percent of his/her AIME over $1,024 and through $6,172, plus
  • C) 15 percent of his/her average indexed monthly earnings over $6,172.

*Updated in 2021. These numbers change every year to reflect inflation.

Bend Points

The graph below is the “Benefit Formula Bend Points.” It shows that the more you earn, the more Social Security Benefits you will receive in retirement. However, the benefits taper off.

Social Security bend points

We can see that the less money you make over your working life, the more helpful Social Security will be in retirement. If your AIME is about $1,024, then the PIA (Social Security Benefits) would replace 90% of your income. As the AIME increases, the benefit covers a smaller percentage of your income. So if your AIME is $10,000, then you’d receive $3,143 or 31% of your average monthly income. For 2021, the maximum amount of Social Security Benefits you can receive if you file at full retirement age (67) is $3,148.

This sounds about right to me. Lower-income households need a lot more help with retirement. High-income earners can save more in their retirement accounts and they don’t need as much assistance.

I also added where Mrs. RB40 and I are on this graph. We both have over 40 credits and are qualified for Social Security Benefits. We’ll dig deeper into those 2 dots next.

Early Retirement Impacts Social Security Benefits

Social Security is a bit uncertain for my generation because the program will start to run out of money in 2033. If Congress doesn’t reform the program soon, we’ll probably receive about 75% of the full benefit. Unfortunately, I think Social Security reform will be extremely difficult. Congress can’t get anything done. It’s ridiculous. They’ll keep kicking the can down the road and we’ll all pay the price someday. It really shouldn’t be that difficult to fix. If we raise the Social Security tax limit, the Social Security trust fund should survive much longer. The retirement age probably needs to increase as well. People live a lot longer these days. Anyway, we’ll join Congress by sticking our heads in the sand and ignore this looming problem for now.

*For 2021, you pay social security tax up to $142,800 of your earnings. I think we should raise this cap to $100,000,000. 

If you paid close attention to the recap above, you would see that early retirement will decrease your Social Security benefit. Retiring early means you will miss out on your prime earning years. This will reduce your AIME, the average of your 35 highest earning years. I quit my engineering career at 38 and I still don’t have 35 years of earnings yet. As of 2021, I have 2 7 years of earnings under my belt. That means I have 8 years of ZERO earnings dragging my AIME down. That’s why my current standing is a bit below the second bend point.

My current AIME is 27 years of earnings divided by 35.

  • Joe’s AIME = $5,841 (This is an estimate because past earnings are adjusted for inflation every year via the indexing factor.)

Luckily, I made some income from blogging over these last few years. Who knows how long that will continue, though. Here is the chart of our Taxed Social Security Earnings.

Taxed Social Security Earnings

Mrs. RB40’s AIME is a bit lower. She also has 27 years of earnings, but she had less income than I did when we were young. Today, she makes way more money than I do, but it will take a few more years before her AIME catches up to mine.

  • Mrs. RB40’s AIME = $3,739

Now let’s go through a few scenarios and see how our benefits will turn out.

Estimated Social Security Benefits

Here is my latest Social Security statement

You have earned enough credits to qualify for retirement benefits. At your current earnings rate, your estimated payment would be:

At full retirement age (67): $2,600 a month

At age 70: $3,224 a month

At early retirement age (62): $1,831 a month

These estimates are based on the assumption that I will earn $33,670 a year from now until retirement. It’s based on my 2020 earnings.

My income fluctuates wildly over these last few years so the estimates are not accurate. Unfortunately, 2021 is another tough year and my income will be similar to 2020. We’ll use this online Social Security Calculator to figure out a few more scenarios. This new tool is so good. You can copy and paste your earnings, then use sliders to run the scenario. This is much easier to use than the previous “AnyPIA” calculator.

Scenario 1: Full retirement now = $2,447/month at 67

If I stop working now and have no more earned income, my benefits would be $2,447 when I’m 67. This is the green dot on the chart below. I’m getting very close to the second bend point.

This PIA is relatively low here because I have 8 years with no earnings. Remember, I only have 24 earning years up until today. The AIME calculation sums up your highest 35 earning years and averages them out. The 11 zero earning years drag down the average.

  • Mrs. RB40’s will receive $1,774/month at 67 in this scenario (blue dot). She is about halfway to the second bend point.
Social Security benefits early retirement

Part-time Self Employment for 8 more years: $2,577/month

My online income has been unstable, but I hope I can make $36,000/year for 8 more years. Once RB40Jr (our son) goes off to college, I probably will stop working completely so we can travel and relax more. In this scenario, I input $36,000/year from 2021 to 2028. Then I won’t have any income after that. The $36,000/year replaced many of the $0 earning years in the AIME calculation. With this move, I crossed the second bend point. More income would result in just 15% of additional benefits instead of 32%.

My estimated benefits would increase to $2,577/month. That’s just 4% more than if I stop working completely right now. That’s minimal increase for 8 more years of work! 

Part-time Self Employment for 20 more years: $2,611/month

What if I continue working part-time until I’m 67 (20 more years.) That will increase the estimated benefits by just $34. Wow, that’s negligible. Working 21 more years for $34/month extra in Social Security Benefits? It doesn’t seem worth it.

This increase is minimal because working 13 additional years won’t change the AIME much. In the previous scenario, I already have 35 solid earnings years. Adding more part-time work at that point won’t increase the average much.

Back to work as an engineer for 20 more years: $3,024/month

This one makes a bigger difference. If I bite the bullet and go back to work as an engineer ($100,000/year), my Social Security Benefits would increase considerably. However, I don’t want to do that. Life has been too good since I retired. Personally, I think engineers should plan for early retirement or a career change. It’s too stressful to work in the profession for your whole career. At this point, it’s not worth it to me to go back to work full-time.

Different Scenario

Scenario Joe’s Social Security Benefits Mrs. RB40’s
Stop working now $2,446/m $1,718
Part-time work until 2028 $2,577/m  
Part-time work until 2040 $2,611/m  
Full-time work until 2040 $3,024/m $2,934

You can clearly see how early retirement impacts Social Security Benefits in this spreadsheet. If you retire before working for 35 years, it will hurt your benefits. Once you have worked for 35 years, working more won’t have a big impact. Now that I know all this, does it change my mind about early retirement?

Not at all, life is a dream in early retirement. Even if I stop working completely today, I’d still receive $2,446 in Social Security retirement benefit when I turn 67. That’s not bad at all.

Mrs. RB40 should also receive $1,718 in benefits at 67 if she stops working now. That’s $4,164 per month extra for our household. That should cover our core living expenses. If we keep lifestyle inflation down, we’re set. Mrs. RB40 isn’t quite ready to retire yet so I’ll update this once per year.

Meanwhile, we will keep working to increase our passive income. Once our passive income surpasses our expense consistently, then we’ll be set for life. Any Social Security Benefits will be gravy. My father-in-law uses his Social Security Benefits as a donation fund. I’d love to do the same when we’re 67. I think that’s a great idea.

Have you checked your Social Security statement lately? Are you counting on it to fund your retirement?

If you made it to the end, go check out this post – Are you worth more than you earned? You already have the earning data so might as well figure out if you’re worth more than you earned.

*Sign up for a free account at Personal Capital to help manage your investment accounts and net worth. I log in almost every day to check on my accounts and cash flow. It’s a great site for DIY investors. Take charge of your finance so you don’t have to depend on Social Security in your old age!

Photo by Marc Szeglat

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Joe started Retire by 40 in 2010 to figure out how to retire early. After 16 years of investing and saving, he achieved financial independence and retired at 38.

Passive income is the key to early retirement. This year, Joe is investing in commercial real estate with CrowdStreet. They have many projects across the USA so check them out!

Joe also highly recommends Personal Capital for DIY investors. They have many useful tools that will help you reach financial independence.

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