Getting the Most from Social Security

Boston University professor and Social Security expert Laurence Kotlikoff, after years of studying Social Security's "devilishly complex" provisions, has formulated three general rules for maximizing one's lifetime benefits:

Rule A: Take Social Security's really good deal, namely waiting to collect much higher benefits, over somewhat fewer years.

Rule B: Take spousal, survivor, mother/father, and child benefits, which may be available to you based on your current or former spouse's earnings history.

Rule C: Make sure that following Rule A doesn't undermine following Rule B and vice versa.

Using a hypothetical example, CBS Moneywatch confirms his approach:

A working husband files for his benefits at full retirement age [currently 66 to 67, depending on one's date of birth], and his spouse (with little or no earnings history) files for her spousal benefits.

The husband's request to file also includes an immediate request to suspend his benefits. By doing this, his wife can begin to receive her spousal benefits.

Later, ideally at age 70, the husband can claim his benefits when the monthly amount is larger.

There are many exceptions, of course, to the traditional-American-family-plus-lengthy-golden-years scenario. Both spouses may have long earnings histories, either or both may have divorced and remarried, either or both may have poor health, or the family finances may not be able to afford deferring the benefits. Most individuals will require expert help to run the numbers; failing that, they may decide to make an important and irreversible decision based on "gut feel."

It is a sad fact of modern life that interactions with our government, such as paying taxes, receiving benefits, or applying for permits and licenses, are complex and burdensome, where the penalties for making a mistake can be significant. Thanks go to Prof. Kotlikoff, whose articles on Social Security are a regular feature on pbs.org, for helping us to navigate these treacherous waters. © 2013 Stephen Yuen

Cognac Taste on a Beer Budget

Most of its customers shop at Costco because of its low prices, but the local warehouse occasionally offers items out of the normal price range. I stopped for a moment to marvel at the $2,149.99 bottle of Remy Martin, lowered my sights to the $999.99 Chateau Margaux, then slunk away. Neither would be a suitable accompaniment to the $4.99 rotisserie chicken that I had thrown into the cart.

It's hard to stick to the savings plan if one possesses a credit card with a generous credit limit. Experts say that a $1 million nest egg is barely enough: retirement on that once-princely sum still is possible if one has a paid-up house, Social Security income, and sticks to a beer budget. Just remember to avoid the locked liquor display. © 2013 Stephen Yuen

Corpus from Corpses

I first came across the notion of a tontine (TON-teen) trust in an Agatha Christie murder mystery. The structure of a tontine ("an organization of individuals who enter into an agreement to pool sums of money or something of value other than money, permitting the last survivor of the group to take everything") was a magnet for mischief, as members received increasing shares of distributions---and ultimately the corpus itself--as other members died. Tontine arrangements are now outlawed in most jurisdictions.

Professor Moshe Milevsky suggests that it is time to resurrect tontines as a retirement planning device. Not only is it impossible to outlive the funds, a tontine is one of the rare investments whose returns are guaranteed to increase over time. The good professor is not blind to the drawbacks.

the objections include: moral hazard ("Do you want a bunch of old people running around killing each other?") regulatory concerns ("The insurance commissioner will never go for it.") and sale concerns ("People hate giving up principal. It wouldn't be profitable.")

He need not be so pessimistic about tontine's prospects. It's a fair bet that the financial wizards of Wall Street are transforming this 19th-century device to make it palatable to 21st-century suckers investors. After all, Ponzi schemes pop up every 20 years or so under different guises. There's a new generation to educate!

Take the (Retirement) Money and Run

The following financial news item may seem alarming:

Combined pension deficits among the 100 largest U.S. corporate pension plans soared last year to a record $388.8 billion, according to actuarial and benefits consulting firm Milliman Inc.

In a later paragraph, we discover:

At year end, the 100 largest pensions were 77.2% funded combined, down from 79.2% at the end of 2011, Milliman said.

It's really not that bad. Using simple arithmetic, we can easily calculate that the present value of these pension plan obligations is about $1.7 trillion, while the assets are a little over $1.3 trillion. Because of the size of the assets already in the plan, rising financial markets can reduce the deficit significantly. Also, depending on the age of the workforce, companies have years, perhaps decades to make up the shorfall, if any. Workers who participate in these plans should not lose any sleep over the security of their retirement.

All that said, I jumped at the chance to take my pension in a lump sum when I early-retired several years ago. Very roughly, the lump sum was about the same as ten times the annual pension (for example, receive $100,000 now or $10,000 per year from age 65 until death). My employer was a company with an investment-grade credit rating and can easily manage indefinitely its total required actuarial contribution of a few million dollars per year. Making good on the pension obligations was not a concern. Nevertheless, I elected the lump sum and rolled the distribution into an Individual Retirement Account.

The reasoning was: 1) Take the bird in the hand. If I were hit by the proverbial bus, the funds would be in the estate. If there were an emergency, the funds would be available. 2) If I did live to a ripe old age, I was confident that I could beat the returns that my company would earn on its pension assets. 3) Tax flexibility was also a benefit. During a high-income year, no funds need be withdrawn from the IRA. Distributions would occur in low bracket years. (Note: flexibility is reduced after the age of 70 1/2, when "required minimum distributions" must commence.)

So far, everything is going according to plan. Though there's more work to be done than waiting for and depositing a monthly check, I'm less worried now that I have taken the retirement money and run. Wish I had the same option for my Social Security checks, though....... © 2013 Stephen Yuen

Not Your Stereotypical Homeless

A retired California couple of moderate means is on a "permanent" trip around the world:

we're senior gypsies. In early 2011 we sold our house in California and moved the few objects we wanted to keep into a 10-by-15-foot storage unit. Since then, we have lived in furnished apartments and houses in Mexico, Argentina, Florida, Turkey, France, Italy and England. In the next couple of months, we will live in Ireland and Morocco before returning briefly to the U.S. for the holidays.

70-year-old writer Lynne Martin and her husband Tim, 66, have figured out how to make the finances work. [bold added]

Serious number-crunching showed that selling our home in California would allow us to live comfortably almost anyplace in the world. Not having property taxes or a roof that needs fixing can pay for a lot of train rides.

A few specifics about money. Our financial adviser sends us about $6,000 a month, generated from investments. We also collect Social Security and a small pension. [snip]

Since we have eliminated homeownership, we have few bills to pay. We use an online bill-paying service, and we buy almost everything by credit card so we can rack up mileage rewards. One of our daughters receives the mail, which has dwindled to almost nothing.

A good Internet connection is essential. Our computers link us with family and friends, help us plan future travels, and are our source of entertainment in places where movies and television in English are elusive. Each of us has a laptop and an iPhone, and our Kindles house our library and travel books.

We have Medicare and supplemental plans, and when we return to the U.S., we see our doctors for annual checkups. We also have international health insurance covering medical emergencies and evacuations. The plan has a big deductible to help reduce our overhead, since our experiences with health-care providers abroad have been very positive.

The Martins' household budget in California was nearly $8,000 per month. They've been able to keep their expenses to less than that, even in the priciest cities.

WSJ graphic

Observations:

1) The Martins are by no means poor. Working backward from their $6,000 monthly stipend, they would need investment assets of $1.8 million, assuming that they're making withdrawals according to the four-percent rule ($1,800,000 x 4% x 1/12 = $6,000). Selling an average paid-up home in the Bay Area or Orange County would have produced 30-40% of their nest egg.

2) Good health, as well as comprehensive and inexpensive worldwide medical coverage, is key to the peripatetic lifestyle.

3) They are a fortunate couple to have no one dependent on them. The majority of people we know have someone---parents, siblings, children, or grandchildren---who rely on their continued presence and ministrations.

Yes, Lynne and Tim are indeed lucky. Through planning, hard work, and the willingness to take prudent risks they've showed that achieving one's dream is possible even if one begins late in life. Here's hoping that "the wheels [won't] fall off" for many, many years. © 2013 Stephen Yuen

A World to Which Few Aspire

Megan McArdle on two categories of people:

Let’s be honest: [parents] are your emergency fund. If you get sick, they’ll take you in and care for you. But Calvin Trillin once noted that by the age of 35, almost everyone falls into one of two categories: people who are still being taken care of by their parents, and people who are in some way starting to care for their parents.

What Calvin Trillin said may be true, but it is a world to which few aspire. No one I know wants to be dependent on others (clarification: being able to pay their own way for needed services is being independent), and few people, deep down, want others to be dependent on them. Dependency constrains both parties.

If most people are not being "taken care of" by other family members, society has a large margin for error. When an emergency does hit, there are more people willing and able to step in and help. How we spread the wealth---and independence for the greatest number of people--is one of the central questions of our time. © 2013 Stephen Yuen

The Price of Paradise

Many baby boomers approaching the age of 65 don't have the savings to retire. The reasons are legion: spending beyond their means, too much debt, marriage dissolution and other family issues, unemployability following a layoff, poor health, living in a high-cost region, etc. For those at the margin of self-sufficiency, one possibility has been the option of moving to a lower-cost-of-living, lower-tax state. Now that escape hatch may be closing:

Some states are starting to have second thoughts about the tax breaks they give older people.

For decades, state governments have been generous with those breaks, perhaps because older Americans tend to show up at the polls to vote. But mired in budget deficits, some states are starting to limit or even rescind tax exemptions for these residents—and experts say others may follow. [snip]

For retirees contemplating relocating to a state with a lower tax burden, the trend highlights an emerging risk: The retiree tax exemptions on the books today may be gone tomorrow.

States where taxes have recently gone up are in red, down are in green (WSJ graphic)

The National Conference of State Legislators has published an interactive table that shows how specific taxes have changed on a state-by-state basis. My home state of Hawaii, where we're thinking of retiring, has recently raised the following taxes according to the table.

In our particular case, state taxes won't be the key factor in determining where we eventually rest our weary heads. However, at the margin surely some wealthy retirees will decide that the price of paradise is too high.

The bigger problem is that younger, high-income producers who currently pay into the system much more than they take out will move away or stay away. Hawaii, which is the most expensive state in which to live but is ninth in median income (according to the U.S. Census Bureau) can ill afford to widen the disparity, but that appears to be the direction that it's headed.  © 2013 Stephen Yuen