Money Talk: Social Security as Longevity Insurance
Question: My question is on when to take Social Security. My financial adviser recommends that I file for my benefit at age 66 but suspend the application so my benefit can continue to grow until it maxes out at age 70.
At 66, I would receive $2,614 per month. At age 70 I would receive $3,451 per month. In those 48 months I would have received $125,472. I calculate that it would take me 12.49 years to make up the difference of $837 a month. So why should I postpone until age 70? What am I missing?
Answer: There’s a big difference between postponing Social Security until your full retirement age of 66 and postponing again until age 70.
Postponing until full retirement age is pretty much a slam-dunk, if you can afford to do so. That’s because most people will live beyond the break-even point, which is typically somewhere between ages 77 and 78.
The break-even point for postponing until age 70 is between age 83 and 84, which is cutting it closer in terms of average life expectancy. A man who reaches age 65 is expected to live on average until age 84. Women reaching 65 are expected to live until 86.
But focusing just on break-even points ignores other, more important factors.
One is that waiting offers an 8 percent annual return between age 66 and 70. No other investment offers a built-in, guaranteed return that high.
Another has to do with survivors. If your spouse earned less than you, she would end up depending on your check alone should you die first. (Survivors get the larger of their own benefit or their spouse’s, but not both.) The larger the check, the better off she’ll be.
You can think of Social Security as a kind of longevity insurance that protects you against poverty in old age. The longer you or your spouse live, the greater the chance that your assets will be exhausted and that one or both of you will end up depending on Social Security for the greatest part of your income.
Question: I understand that anybody with a 401(k) can contribute up to $18,000. Does the amount you can contribute depend on your salary? Say you make $45,000. Therefore I would assume you could put in the full $18,000, or 40 percent of your salary. Am I wrong?
Answer: The maximum the IRS allows someone under 50 to contribute to a 401(k), 403(b), most 457 plans and the federal government’s Thrift Savings Plan is $18,000 in 2015. The additional “catch up” contribution limit for people 50 and older is $6,000.
The plans themselves, though, may impose lower limits. Even if the plan doesn’t cap contributions, your contributions may be limited if you’re considered a “highly compensated employee.” Last year, highly compensated employees were those who earned more than $115,000 or owned more than 5 percent of the business. If lower-earning employees don’t contribute enough to the plan, higher earners may not be able to put in as much as they’d like.
Question: My wife owns a house that was separate property before our marriage. She has since fallen ill and needs round-the-clock care. I am selling the house to support this and will net about $250,000 at close. Will we have to pay capital gains taxes, or can I claim a one-time exemption, based upon this not being community property?
Answer: If your wife lived in the property as her principal residence for at least two of the five years prior to the sale, the profit would qualify for the capital gains exemption of up to $250,000 per owner.
People who have to sell their principal homes before they meet the two-year residency requirement may qualify for a partial exclusion if the sale was triggered by special circumstances such as a change in health or employment or “unforeseen circumstances.” You’ll want to talk to a tax pro about whether your wife’s situation qualifies.
Even if the gain is taxable, she may not owe tax on the entire amount netted from the sale. When figuring home sale profit, her basis in the home — essentially, what she paid for it, plus any qualifying improvements — is subtracted from what she nets from the sale.
There’s another way to avoid paying taxes on home sale gains, and that’s to hold on to the property until your wife’s death. At that point, the home would get a “step up” in tax basis to the current market value. An inheritor who sold the home at that market value wouldn’t owe any tax, said Mark Luscombe, principal analyst for Wolters Kluwer Tax & Accounting U.S.
Liz Weston is the author of The 10 Commandments of Money: Survive and Thrive in the New Economy . Questions for possible inclusion in her column may be sent to 3940 Laurel Canyon, No. 238, Studio City, Calif. 91604, or by email at firstname.lastname@example.org. Distributed by No More Red Inc.