Social Security Fairness Act Explained: What It Means for Your Retirement
Millions of people will begin receiving much higher Social Security income benefits because of the Social Security Fairness Act. Does this impact you directly? How does it impact overall retirement planning, including the tax side of things? I think, most importantly, how will this indirectly impact everyone in this country who is now receiving Social Security or will soon receive it?
Explaining the Government Pension Offset (GPO)
We’re going to start by giving you some examples of people that are impacted by the Social Security Fairness Act. Now, the GPO and the WEP, Government Pension Offset and Windfall Elimination Provision, if you have any of those old Social Security statements and you pull them out, you’ll see. I believe these were defined on the first page for years. Now, Social Security changed the statements. They changed the timing of when they’re mailing them out, but I bet they’re still on there. I haven’t looked in a little bit. We’re going to start with the Government Pension Offset or GPO.
Now, what we’re going to go through here is the law prior to the Social Security Fairness Act being in place. We’re going to show you the steps that we had to go through just briefly to calculate the reduction. That’ll help you understand what this law actually means and I think, more importantly, how much more money is going to be leaving the Social Security Trust Fund to help pay for the Social Security Fairness Act that’s put in place. That’s how it’s going to directly impact you even if you don’t have a pension or your spouse never had a pension. We’re going to briefly go through what it is and we’re going to talk about how it is now or you’ll understand what has been repealed in greater depth.
Real-Life Example of GPO Impact
What it says is that if you’re eligible for a spousal benefit, just simply if you had a spouse that worked and qualified for Social Security, or a survivor benefit, you had a spouse that had Social Security and they passed away, the GPO said that if you had a pension, you’d have to take two-thirds of your pension and then subtract it from your spousal benefit or survivor benefit. The net remaining is what you would get as far as a Social Security benefit.
Now, it’s easier to see that math. This is, again, what it used to be and this is what has been repealed. This is the first part. The second part is the Windfall Elimination Provision. The wife says she was a teacher, had a $2,000-a-month pension. The husband worked in the private sector, a $3,000-a-month Social Security check. The GPO said that, step one, to calculate what your reduction of your spousal benefits or survivor benefits is. You have to take two-thirds of your pension.
In this case, it’d be $1,320, so two-thirds of the pension. Calculate what your spousal benefit is. By law, it can be up to 50% of your Social Security, but it’s important to remember if you elect spousal benefits prior to your full retirement age, it is reduced. It could be reduced by as much as 25%, I believe. Up to 50% of your Social Security, so the spousal benefit in this case is $1,500 because that’s 50% of the husband’s Social Security.
We have the first two parts here. We have the two-thirds of the pension and then we have what the spousal benefit is. Prior to the Social Security Fairness Act, you would have had a reduction in your Social Security by two-thirds of the pension. The spousal benefit, $1,500, we reduce it by two-thirds of the pension. The net spousal benefit would be $180 per month. You were leaving $1,320 on the table if you had what’s known as a non-covered pension, which we’re going to get into in just a minute.
In this particular situation, instead of the wife receiving the full spousal benefit for retirement income, they received her pension. Her husband’s Social Security, so it’s $5,000 a month and an extra $180 a month as a spousal benefit from the Social Security Administration. With the passage of the Social Security Fairness Act, this reduction that you previously had to calculate and no longer received is now being added back in.
They’re going to have to go back and calculate this and it’s not just for 2025 and moving forward. They’re going to pay out a lump-sum check for 2024. How long it’s going to take for them to determine all this and calculate it and get it right because I’m sure, they’ll get it wrong and have to come back and make some corrections and make some adjustments. If you are going to benefit from this, you may want to do your own calculations.
This is what’s ultimately going to happen is, now, the Social Security Reserve Fund is going to be exhausted much sooner because there will be a significant amount of more money coming out of the Social Security system. We already don’t have enough revenue coming in to cover all the liabilities. In 2024, there was about a $100 billion shortfall estimated. This is going to significantly increase the shortfall.
Cash coming in from payroll taxes, cash going out to pay Social Security benefits. It’s already not enough. This is going to massively increase the amount. The CBO says by about $200 billion, but the government is always underestimating these costs. There’s another reason I’m going to touch on later in this video, why they probably are significantly underestimating this cost. The projection is about $200 billion in extra cost to the Social Security system over a 10-year period.
You can see here, this particular family, their retirement income is going to jump from $3,000, $2,000, $5,000 plus $180, so $5,180 under the old system. Now, it’s going to be $3,000, $2,000 plus the spousal benefit of up to $1,500. Now, up to $6,500 per month income. That’s $1,320 per month, the previous reduction, which they will now receive, and of course, inflation adjustments on all this money moving forward.
Introduction to the Windfall Elimination Provision (WEP)
The GPO has been repealed, and so has the Windfall Elimination Provision. The WEP, the W-E-P, the Windfall Elimination Provision, applies to or, I should say, did apply to those who worked in the public sector and also the private sector. They have a job that was part of the public sector that gave them a pension. They also worked in the private sector and qualified for Social Security.
Now, I mentioned the words “non-covered pension” earlier. All that simply means is that you had a job in the public sector that when you received your paycheck, Social Security taxes were not taken out. You did not pay FICA. If you have a covered pension, for example, I was talking to someone in Kansas recently, we have a client up there, and they had a covered pension. When they were paying into or, excuse me, receiving paychecks from their job as a teacher, money was coming out of their paycheck and going to Social Security.
What the WEP said was you could have a maximum of 50% reduction to your Social Security based on your pension. We’ve run into this a lot where someone had one career. Typically, it was in the private sector for maybe 10 or 15 years. Then they decide mid-career to change course and they want to become a teacher or whatever it might be. It could be vice versa. Maybe they were a firefighter or worked in the police force and then go into the private sector. Either way, you’ve qualified for two different pensions.
When you had your pension job, FICA taxes were not taken out of your paycheck. That’s who the WEP applies to. Just a quick refresher. The GPO. Remember, that was spousal benefits or survivor benefits. This is for you, the individual that has two pensions. Okay, so this is how high level, how it worked. Again, it was up to 50% and the calculation’s a bit more complicated, which you don’t have to worry about too much anymore because this has been repealed, but this is how it was calculated.
What we’re really trying to get at here is how much more money is going to come out of the Social Security system. If someone worked one job and they have a pension of $3,000 a month and then, job two, they qualify for a Social Security of $2,000 a month, the Windfall Elimination Provision said, “Well, you have two pensions here. One pension, one Social Security check. Your Social Security is going to be reduced by 50% of your pension. 50% of the pension is $1,500. We’re going to reduce your Social Security check by $1,500 per month.”
How the Repeal Affects Retirement Income
I have the basic math right here. What that means is, in retirement, someone who was subject to the Windfall Elimination Provision, they would still receive all of their pension, but their income would only increase by $500 per month from Social Security because of this WEP provision. Their total retirement income, guaranteed lifetime income, would be $3,500 per month. Now, with the elimination of this, the full Social Security from my understanding is going to be reinstated. Again, back pay for 2024 will be provided. In this case, it’s an extra $1,500 per month in this example. That’s 18,000 a year coming out of the Social Security reserve system and essentially going to this person.
Now, I’m not arguing whether any of this is right or wrong. That’s not the point of this discussion. We look at things from a financial planning perspective. Already, the reserve fund was expected to exhaust in 2033. For many years, it’s been creeping closer and closer to the point of exhaustion sooner than projected. As previously stated, this is going to be an estimated $200 billion. It’s going to exhaust the trust fund much sooner. Here’s the problem. There’s two problems. One, the CBO, they’re always underestimating these projections. Let’s just take their $200 billion and turn it into $400 billion as a rough estimate.
Now, the government in that $200 billion calculation, it is my understanding that they are only counting the people with the government pension offset that had applied for spousal benefits or survivor benefits and they had been denied. There are potentially hundreds of thousands, if not millions of people that never applied for their spousal benefits or survivor benefits because they were aware of the GPO and the WEP. Their calculations could be significantly undercounting the amount of people who are going to benefit from the Social Security Fairness Act.
Again, feel free to put your comments down there, how you feel about this, but I’m not saying this is right or wrong. That’s not my job. I’m not an analyst. I’m not a political commentator. I’m not an economic analyst. My job is to tell you how it’s going to impact you, your retirement potentially, and, of course, the overall financial planning ramifications, which we’re going to transition to right now.
Okay, so financial planning. There are really two areas in our client’s retirement plans and two areas where I think you should be considering looking at this. The first one is, when do you take Social Security? If you have or if you’re considered a high-net-worth individual, ultra-high net worth, or let’s just say you have somewhere around $1 million plus in your retirement account. The question you have to ask yourself is, “What will my required minimum distributions be in the future?”
Potential Solutions: Means Testing
Because when you take those RMDs out, they go onto your tax return. Without a lot of planning in your 50s and 60s, you could possibly be in a very high income tax bracket. Why does this matter when we’re talking about Social Security? Well, it’s my belief that one of the solutions that ultimately will be brought to the table whenever the trust fund exhausts, the Social Security trust fund, will be a means testing.
If you have X amount of income, you will have to reduce your Social Security benefits by this amount. If you have Y amount, you’re going to have to reduce by this amount. It’s an easy solution where they can politically pitch it as something that’s only going to impact the wealthy, the ultra-rich, but the truth of the matter is required minimum distributions as a function of having a large IRA balance and not doing enough planning leading up to that point could potentially put you into a very high-income situation in the future.
Now, all of a sudden, you’re considered one of these high-income individuals who doesn’t deserve all of their Social Security. This is part of the current options on the table for them to consider. Point being here with hundreds of billions of dollars now being used to exhaust the trust fund much sooner, could be seven years, could be eight years, it’s up in the air. The question becomes, when will you take Social Security?
In short, because of the required minimum distributions and depending on what our clients’ tax plans are, which ones are addressing it, which ones are deciding to kick the can down the road, we’re looking at all of the options on the table. One thing for you to consider in your personal retirement plan is, “Is this going to impact me in a negative way because the trust fund is exhausted much sooner than otherwise and I just want to take my Social Security benefits sooner?” That’s a question for you to decide with your family, your advisors, whomever you have that you rely on for these types of decisions, but it’s something that you really need to consider.
The second thing to consider is your overall tax plan, because if you take Social Security sooner, that has an increase to your adjusted gross income and, therefore, your taxable income, which could potentially impact your tax bracket, which, of course, is going to impact your overall tax plan. High level, what a tax plan is, is how do we take income from our various retirement buckets? Your IRA, your non-IRAs, your investment accounts, how do we manage all this to generate income from multiple sources while keeping our taxes down over the course of retirement? Do you pay more now to pay less later? Do you pay less today to pay more later?
Everyone’s situation is unique. It’s something that really should be planned for in retirement. As a consequence and many of you have heard me say this a lot, every decision you make in retirement is a domino effect. It impacts something else. When you take Social Security earlier, it increases your income. It impacts your taxes. Therefore, it impacts your tax plan. Look at your tax plan. Look at your income plan. Look at your Social Security election decision. Whether you have a non-covered pension because you were a federal, state, local government worker or not, I do believe that this law will impact everyone in the country who has Social Security benefits in one way or another.
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