The future of Social Security: How to prepare

FOR GENERATIONS OF SAVERS, Social Security has been an essential building block of retirement planning, providing a guaranteed monthly payment for life that adjusts for inflation. Though never intended to be the sole source of retirement income, many of today’s younger Americans are realizing the size of that monthly payment may be smaller than they’d anticipated when they retire. In fact, according to an October 2021 poll from Civic Science, more than 53% of 25-to-44-year-olds doubt that Social Security will even be there for them, and those nearing or already in retirement have concerns about the solvency of the program as well.

How justified are these concerns? If no changes to the system are made, the Social Security Administration will be unable to pay scheduled benefits in full and on time starting in 2034, according to the most recent annual report from the Social Security Board of Trustees.¹ But that doesn’t mean you’ll get no money when you retire; according to the report, you’d likely still receive about three-quarters of your Social Security benefit. The cause of the shortfall is simple: the number of people claiming benefits is rising, while the number of working-age people contributing to Social Security via payroll taxes is declining.

Many proposals have been floated to strengthen Social Security, says Gal Wettstein, senior research economist at the Center for Retirement Research at Boston College. But it’s likely that today’s workers will rely less and less on Social Security as a key piece of their retirement income strategy, even after a fix is implemented. “For younger savers especially, the money you personally save and invest is likely to continue to play a larger role in determining your financial security in retirement than Social Security,” says Jeremy Kaneer, director, Retirement and Personal Wealth Solutions at Bank of America. Using the four steps outlined below, your advisor can help you develop a plan designed to create the income you’ll need in retirement.

Because of the reduced role that Social Security may play in your retirement income, it’s important to boost your saving and investing strategies. Getting an early start can make a big difference, notes Robin Dziuba, Merrill senior vice president, senior consultant. For example, thanks to the power of compound interest, someone who started saving $500 a month at age 25 would have $588,000 at age 55, assuming a 7% long-term return, while someone who began saving the same amount 10 years later would only have about half as much, or $256,000.²

It could also help to reconsider your asset allocation. Though fixed income has a place in providing retirement income, investing a greater portion of your savings in equities and dividend-paying stocks might help to increase your nest egg’s growth potential, Dziuba suggests. You might also consider adding exposure to real estate — either by investing in REITs or owning an income-producing property.

Another investment option to consider is investing a portion of your savings in an annuity, says Kaneer. These insurance contracts offer tax-deferred growth on your assets and can create a consistent stream of income for life or for a period of time specified in the contract. “An annuity can provide an additional guaranteed income stream to supplement what you get from Social Security, and it could make it easier for you to manage ongoing day-to-day expenses in retirement,” he adds.  Your advisor can help you understand the various types of annuities and what they can offer, as well as their risks, and help you establish an appropriate investment allocation for your goals, age, liquidity needs and risk tolerance.

If you’re eligible for a 401(k), Dziuba recommends contributing the maximum amount allowed. (In 2022, that’s $20,500 for those under age 50 and $27,000 for those 50 and older.) “At least contribute the amount needed to get your full employer match if your employer offers one,” she says. “Then consider upping your contribution every time you get a raise.” Once you’ve maxed out your 401(k), “you may want to consider contributing to a Roth IRA, if you’re eligible,” adds Kaneer. “You pay taxes on those contributions up front, which means no taxes on withdrawals in retirement.”

Also, if your employer offers a high-deductible health plan, consider selecting it so that you can contribute to a health savings account (HSA).  “Contributions come out of your paycheck pre-tax, grow tax-free, and come out tax-free too, as long you use the money for qualified medical expenses,” Kaneer says. The funds can roll over year to year, helping you prevent healthcare costs from eroding your retirement savings. Think of the funds in your HSA as long-term savings — not just a pool of money to draw upon to help cover immediate medical costs.

Knowing how to draw on your retirement assets in the most tax-efficient way is another key to boosting your retirement income. Generally it’s best to withdraw from your taxable accounts first, then tax-deferred, followed by tax-free, because of the rate at which each of these withdrawals is taxed, says Kaneer. When you’re ready, your advisor can help you devise a plan that helps to optimize your income stream with taxes in mind.

While Social Security could play a more limited role in your retirement income in the future, it does represent a foundation upon which you can build your monthly income. Don’t leave any of it on the table, if you can help it. The key to maximizing what you get from the program is timing when you begin to claim your benefits, says Dziuba. About half of people ages 25 to 54 would like to retire before their 65^th birthday, according to the Civic Science poll. But claiming before full retirement age reduces your benefits — for life. For every year you wait to claim, up to age 70, your monthly benefits increase by about 8%. “It’s like getting an 8% annual return on your money,” Dziuba adds.

No matter what happens to Social Security, “maximizing the income you get from all your sources will go a long way toward helping you live the life you want in retirement,” says Kaneer. And regularly reviewing your strategies with your advisor as your expenses and financial priorities change can help you keep that retirement goal on track.