How returning to work affects Social Security benefits

Normally, when you continue to work while collecting benefits before your full retirement age, you lose. But what happens when you reach 66?

I received a great question from a reader today asking how his Social Security retirement benefits might be affected if he returns to work next year.

Peter, who retired early and began collecting reduced benefits, will reach his full retirement age of 66 in November 2014 and is considering returning to work in January.

The good news is, because he will turn 66 in the same year he plans to resume working, a more generous earnings test applies. The even better news is, due to annual cost-of-living adjustments, the 2014 earnings cap is higher than this year’s.

Normally, when you continue to work while collecting Social Security benefits before your full retirement age, you lose $1 in benefits for every $2 you earn over a prescribed limit. For 2013, the earnings cap for most beneficiaries is $15,120 per year. It increases to $15,480 next year.

But in the year you reach your full retirement age, a more generous earnings cap applies in the months leading up to your 66th birthday. Those who turn 66 in 2013 temporarily forfeit $1 in benefits for every $3 they earn over $40,080 this year. Next year, the earnings cap for those who turn 66 in 2014 increases to $41,400 per year.

Once you reach your full retirement age, the earnings cap disappears — so you can earn any amount without reducing your Social Security benefit.

I told Peter it is important to contact the Social Security Administration to inform them when he plans to return to work and to estimate how much he will earn so his benefits can be adjusted if necessary.
If Peter’s wife is receiving a spousal benefit on his earnings record, his excess earnings could reduce her benefits, too.

Let’s say Peter expects to earn $60,000 during the first 10 months of next year, which is $18,600 over the $41,400 earnings limit for those who turn 66 in 2014. And let’s also assume Peter’s normal retirement benefit is $1,000 per month. SSA would withhold $6,200 in benefits in 2014 ($1 for every $3 earned over the $41,400 limit).

To do that, SSA would withhold the first seven checks of the year (7 x $1,000 – $7,000). Beginning in August, Peter would receive his regular $1,000 monthly retirement benefit. In January 2015, SSA would pay him the excess $800 that was withheld from his benefits ($7,000 – $6,200 = $800) on top of his regular benefit for 2015, which would include both a slightly higher benefit amount plus the annual cost-of-living adjustment for the new year.

But benefits lost to the earnings caps are not gone forever. They are merely deferred.

Once Peter reaches his full retirement age of 66, SSA will recalculate his benefits to give him credit for any months in which he did not receive some benefit because of his earnings. In addition, if he continues to work, it could increase his future benefits if the most recent year of earnings replaces one of his lower earning years. Social Security bases retirement benefits on a worker’s top 35 years of earnings.

In the above example, Peter’s monthly retirement benefit would be increased to reflect the fact that he forfeited seven months of benefits.

Peter started collecting reduced benefits three years early at 63. Going forward, SSA would recalculate his benefits as if he began collecting them at 63 and seven months, which would increase his primary insurance amount by nearly 4% (7 months x 5/9 = 3.8%).

The percentage reduction for collecting retirement benefits early is 5/9 of 1% per month for the first 36 months and 5/12 of 1% for each additional month before full retirement age.