Executive Summary
In recent years, a little-known strategy of withdrawing from and reapplying for Social Security retirement benefits has been receiving increasing attention. So much, in fact, that it looks like the Federal government's Office of Management and Budget may soon be shutting the strategy down for good. However, the impact may not actually be very significant after all!
The withdraw-and-reapply Social Security strategy was first discussed on this blog over 2.5 years ago. And since that time, articles have proliferated all over both the industry and consumer media explaining the strategy; in fact, it was also covered in the November 2009 issue of The Kitces Report, and the aforementioned blog post itself has been read over 10,000 times!
Unfortunately, though, the strategy may have become a little too popular. As an article in Kiplinger's pointed out this past August, the Federal government's Office of Management and Budget is considering a new rule which would effectively end the availability (and usefulness) of the existing strategy in most situations, by restricting a withdrawal and reapplication for benefits to be available only within the first 12 months after a Social Security recipient first begins to receive benefits. In practice, this would revert the withdrawal and reapplication approach from a "strategy" to be completed anytime to simply a way for someone who just started benefits to change his/her mind.
However, the Kiplinger's article includes another very interesting note. In 2007 - before the strategy was widely known - 500 people went through the withdraw, payback, and reapply process for Social Security benefits. After the strategy went through a virtual explosion in consumer and industry media discussion, the number of people engaging in the strategy by 2009 had... doubled. So if there were 500 people completing the process in 2007, there were approximately 1,000 doing it in 2009. And accordingly to the Kiplinger's article, this is out of an estimated 37 million people receiving Social Security retirement benefits!
So apparently, not withstanding all the furor of discussion about considering the withdrawal and reapplication strategy, apparently hardly anyone is actually doing it! After all, as mentioned earlier, this blog's own post on the Social Security strategy has been read 10,000 times in 2.5 years... yet only 500 more people were actually completing the process in 2009 than 2007!?
So why aren't more people filling that Form SSA-521 for withdrawal of application and then reapplying for their Social Security retirement benefits? It's not for a lack of appeal for the client with an eye on the long-term value of the strategy; as I have written in the past in both this blog and in prior newsletters, for those clients who live significantly beyond their life expectancy, this Social Security strategy will represent one of the best investments they'll ever make. And it "performs" best when the client lives a very, very long time, or when there is significant inflation (since the reset-to-a-higher-level benefits still enjoy the Social Security cost-of-living adjustment annually), which are the exact times that you'd want the strategy to work.
So I can only presume that the inhibitors to the strategy are something else. Perhaps, in the end, clients still fear a strategy that is analogous to an annuity, with similar investment characteristics - a tremendous value if you live a long time, but a significant financial loss if you pass away shortly after making that lump sum repayment of benefits. So to the extent that clients are often fearful to buy immediate annuities, perhaps they're afraid to do a Social Security payback as well. In addition, as was shown in the prior post on this blog, the value of the strategy declines rapidly once the individual passes age 70, so perhaps many retirees are discovering the strategy "too late" to be feasible anyway. And it is also likely true that for many Social Security recipients, the strategy is not feasible simply because the individual or couple can't afford the lump sum (often as much as $100,000) required to complete the repayment in the first place; nonetheless, that doesn't entirely explain why 36.999 million out of 37 million Social Security retirement recipients don't elect to try the strategy. On the other hand, for most clients of financial planners - who tend to have a higher average wealth than the average American - the strategy still seems to be popular as a point of discussion (we all like to have choices to consider), but not as an actual strategy to implement.
In point of fact, given how little the strategy is actually being used, one has to wonder why the Office of Management and Budget (OMB) feels the need to close this "loophole" anyway. Perhaps the reason has less to do with the direct financial ramifications of the strategy, and more to the administrative impact for the Federal government's operation of Social Security. After all, given the number of inquiries to financial planners and the times this blog's own discussion about the strategy has been read, I can only presume that the Social Security Administration itself has been inundated with requests for information and estimates of the payback cost and increased benefit amount. And given that the strategy actually isn't being used very much, perhaps OMB believes that it will provide significant administrative relief to the agency to eliminate the strategy (so people stop asking so many questions about it!) while having very little actual impact on the 99.99%+ of Social Security recipients who haven't opted to do it anyway.
Nonetheless, if you or your client are still considering a Social Security reset, now is the time to get it done. As the Kiplinger's article pointed out back in August, the new rule ending the widespread availability of the withdrawal-and-reapplication strategy could take effect "within a few months" - and that was printed over 2 months ago! So there may not be much time left!
What do you think about the change? Have you had clients asking about this strategy? Have you actually gone through with it for any clients?
Michael,
Thanks for this posting. This is very important information. I always suspected that sooner or later they’d close this loophole. After all, on Form SSA-521, there is already a box SSA can check that says “not approved because”. So, it’s easy for the SSA to simply implement this new policy.
From my experience, in general most clients prefer other available stratgies when optimizing their Social Security benefits like file and suspend or file now claim more later. These strategies do not require you to pay back a lump sum so I think you’re right when you say it’s the pyschological impact of having to pay back a lump sum that gives pause to clients.Also, remember, it’s a paperwork hassle to boot.
However, when I look at the pure numbers and flexibility of all the available strategies, it is clear that the withdraw and reapply has, at least from my point of view, the greatest upside potential. After all, the other strategies have break even points too. So, if the withdraw and reapply strategy has a similar breakeven point, why wouldn’t you use that approach? It gives you far more flexibility and allows you to invest your benefit immediately which may add to the overall potential return on your decision.
I think you’re right that it’s not so much the number of people doing the strategy that has the SSA rethinking this policy, but rather the administrative relief this new policy will have on the agengy itself. I think also that the agency is realizing that with all the inquiries, there could be in the near future more and more individuals using this strategy and now is the time to “nip it in the bud”. After all, this loophole was meant to be used by people who really didn’t know that they could have delayed benefits. While ignorance of course should be no excuse, there are situations where people honestly did not know the rules. But, when this loophole is used by wealthy individuals to optimize their benefits just because they can afford to do so (which by the way has the potential to put more stress on the system), it does’t seem like a good use of the agency’s resources nor the intended use of Social Security itself.
Thanks,
Doug
The risk right now is that a taxpayer who has opted to consider the “repay-and-reapply” strategy and has applied for their benefit early could get caught with a permanently reduced benefit if they allow 12 months to pass since applying and the OMB makes a decision to implement closing the loophole. I have a few clients for whom that is an issue.
Here is what I’ve read is happening now but I have not been able to directly confirm any of it:
The Social Security Administration sent its proposed rule to the Office of Management and Budget in June. The next step is up to OMB which could approve, reject or modify the proposal. SSA says there is no provision to grandfather existing retirees under the proposed regulation. Because the proposal would change agency procedures, rather than any part of the Social Security Act, it does not requrie congressional action. The next step is up to OMB to approve, deny or modify the SSA proposal. Although OMB has 90 days to review it, there is no legal deadline for action which could come in the form of a proposed regulation subject to public comments or a final regulation with an immediate effective date.
once the form is submitted, is there anyway to expedite
the process? It seems to be in limbo???
Telephone them. Wish I had a better solution, but I’ve had some good experiences with SSA lately on this. I’m sure it varies so start with your local SSA office then call back if you get a less than helpful bureaucrat and try another.
My husband applied for social security at age 62. He lost nearly 30% of his full benefits because he continued to work part-time and exceeded the earnings limit. In January, he will turn 65. Is there any reason NOT to payback and reapply? He is in great health and we have the necessary funds in a savings account. Thanks.
Gail,
If your husband’s early retirement benefits were reduced due to employment earnings received, his benefits will automatically be adjusted higher when he reaches his normal retirement age. There is no need to withdraw and reapply to recover the value of those benefits – the formulas apply it automatically when he reaches normal retirement age.
For additional information on the adjustment due to earnings, see: http://www.socialsecurity.gov/pubs/10069.html#receive
To determine his Normal Retirement Age, see:
http://www.ssa.gov/OACT/ProgData/nra.html
I hope that helps a little!
– Michael
There may be an other option: Keep collecting you SS and use the income to convert your IRA’S to Roth IRA’S .The future income will be tax free and your can pass the income along after you die YOUR COMMENTS PLEASE
He also lost 25% of his benefit for having applied for SS prior to his Full Retirement Age and if you apply for a Spousal benefit that will also be discounted due to his early application. So the payback and reapply strategy may be appropriate if the break-even for having done so is reasonable (low risk of death shortly thereafter)…among other issues to consider. I understand you can apply for credit/refund of taxes paid on the benefits paid to you to the degree they are attributable to his SS income.
It’s official. On Wednesday 12/8/10 the Social Security Administration published final rules, effective immediately, that limit the time period for beneficiaries to withdraw an application for retirement benefits to within 12 months of the first month of entitlement and to one withdrawal per lifetime. In addition, beneficiaries entitled to retirement benefits may voluntarily suspend benefits only for the months beginning after the month in which the request is made.
The agency said it is changing its withdrawal policy because recent media articles have promoted the use of the current policy as a means for retired beneficiaries to acquire an “interest-free loan.” However, this “free loan” costs the Social Security Trust Fund the use of money during the period the beneficiary is receiving benefits with the intent of later withdrawing the application and the interest earned on these funds. The processing of these withdrawal applications is also a poor use of the agency’s limited administrative resources in a time of fiscal austerityresources that could be better used to serve the millions of Americans who need Social Security’s services.
Although the new rules are effective immediately, the agency is providing for a 60-day public comment period. The agency will consider any relevant comments received and publish another final rule to respond to comments and to make any appropriate changes to the rule.
See the Federal Register for a complete discussion of the rule change.