Maximizing Social Security and Medicare Benefits: A Comprehensive Guide for Retirement Planning

Social Security and Medicare are the cornerstones of most retirement planning strategies. One provides an income stream that you cannot outlive. The other provides health insurance when you are most likely to need it.

How Your Social Security Payment Is Determined

Social Security takes your highest 35 years of reported income, adjusts them for inflation, adds them up, and divides by 35 to arrive at your average income. Then a sliding scale is used to determine what percentage of that average income you will receive. The higher your average, the less of a percentage Social Security will replace. The standard amount to be replaced is around 42% of your average income.

Age Determines Full Retirement Age

The year you were born determines the age (full retirement age, or FRA) that you can retire and start receiving your full Social Security. For people born before 1960, it is around age 66 plus some months. For anyone born after that, it is age 67.

Suppose you decide to start receiving your Social Security at the earliest time, age 62. In that case, you will receive somewhere around 70% of your full retirement benefit. (A percentage reduces your retirement benefit for every month that you receive your benefit prior to your FRA.) Anyone who delays receiving their Social Security past their full retirement age sees their payment increase 8% per year until age 70. After age 70, the 8% increases end.

The breakeven point for someone whose FRA is age 66 but takes Social Security at 62 is age 78. After that age, the total payments received would have been larger if they had waited until age 66 to start their payments. People who start taking their benefit when they reach their FRA of 66, instead of waiting until age 70 and getting the additional 8% a year, bump up breakeven to age 82 1/2.

Spousal Benefits

An individual claiming a benefit based on their spouse’s work record must be at least 62 years old. The maximum spousal benefit is 50% of their spouse’s FRA benefit. At age 62, it is 35%. For a citizen to receive Social Security based on their spouse’s work record, the spouse with the work record must also be taking Social Security payments. Many people are usually eligible for a more significant payment based on their employment history. Social Security pays the higher of the two.

Divorced Spouses

Individuals are eligible for a benefit on the worker’s record if they were married to the worker for ten years and have not remarried. However, because many people qualify today on their work history, the 50% maximum spousal/divorced spouse benefit is usually less than the amount that they are eligible for on their record.

One difference for divorced spouses is that the worker does not need to be receiving social security for the divorced spouse to qualify.

Widows and Widowers

Widows and widowers are eligible for their deceased spouse’s benefit. If their spouse started social security early, for example, at age 62, after they pass, the remaining party would qualify for that amount, or 82.5% of their FRA benefit, whichever is more significant. If their spouse waited until age 70 to receive their maximum amount, that amount is compared to their work record to determine which amount they will receive.

Widows and widowers have the option to start receiving a widow’s benefit at age 60, two years earlier than anyone else. They can also take their widow’s payments and let their earned Social Security benefit increase up to age 70.

To receive a widow’s payment, the surviving spouse must be unmarried or must have been married after age 60.

Divorced spouses are also eligible for a payment if they were married for over ten years. They, too, must be unmarried or have gotten married after age 60.

Receiving Social Security While Working

After you reach your FRA, you can make any amount without reducing your Social Security payment. If you are not at your FRA, then you could experience a significant drop in your Social Security payment. 

In 2023, you can earn up to $21,240 without a reduction in Social Security. If you earn more than that, then you will have one dollar of Social Security withheld for every two dollars you earn. So, if you make an additional $40,000 for a total of $58,960, then $20,000 of Social Security payments will be withheld.

That money is not lost. Social Security adds back what was withheld to your future payments, paid when you reach your FRA.

In the Year of Retirement, Certain Limits Apply

There is another rule for the year you retire. If the year you start drawing Social Security is before your FRA, then you can make as much as you want in the months before you get your first payment. In the subsequent months in that year, if you make less than $1,580 a month (less than $18,960 a year), then you can keep all your Social Security for that month. If you make more than that, then you will receive no Social Security in that month.

If you retire in the year when you reach your FRA, then Social Security only uses the months before you reach the FRA. You can make as much as $50,520 a year or $4,210 a month in those months without reducing Social Security. If you make more than that, then the reduction is $1 for every $3. Once you reach the FRA, you can make any amount without any reduction in Social Security. 

Taxes on Social Security Payments

Low earners do not pay taxes on their Social Security. High earners do but only on 85% of it. To determine if your Social Security is taxable, you take your gross income and any tax-free income and one-half of your Social Security.

If you are single and your added number is less than $25,000, you owe no taxes on your Social Security. If you are married and filing jointly and make less than $32,000, you owe no Social Security taxes.

Medicare Parts A, B, C, and D

Medicare consists of four components: Parts A, B, C, and D. Remember, you and your spouse will have your own plans. There are no family plans.

Part A covers hospitalization and has no cost to the participant. It pays for hospitalization for 60 days. After that, the participant must pick up part of the price. It has a reasonably good-sized deductible, which someone might end up paying more than once a year.

Part B is medical insurance. It is voluntary. It has a premium based on your income and a copayment of 20%. It covers doctors’ costs, testing, and other medical costs separate from hospitalization.

Part C replaces Parts A and B with a private plan that looks like the kinds of insurance you get from work. You still must pay the Part B premium and a premium to your Part C provider. Some Part C plans provide for prescription drugs.

Part D is the newest component. It pays for medical drugs, is voluntary, and has a premium. However, it does not pay all costs. As you might be aware, it has a famous doughnut-hole structure.

Special Enrollment Period

Most people become eligible for Medicare when they reach age 65. If they happen to be on Social Security already, then they are automatically enrolled in Medicare. If not enrolled in Social Security, it is highly recommended that an individual contact Social Security three months before age 65 to discuss their Medicare options.

If not automatically enrolled, an individual has three opportunities to sign up for Medicare. The initial enrollment period is at age 65. The special enrollment period is for individuals over 65 who are still working and who have health insurance from their work or their spouse’s work. They can sign up for Medicare without penalty when their employment or insurance ends. The third enrollment period is the one you want to avoid. It is the general enrollment period. Late enrollees incur penalties, and coverage delays apply.

General enrollment penalties include a permanent 10% per year increase in your Part B premiums. The enrollment period is limited to the first three months of the year. Coverage does not begin until July of that year.

Medigap Plans

There is another type of plan called Medigap or Medicare supplement plans that fill in some of the Medicare gaps, such as the Part A limit on the number of days allowed in a hospital, the 20% copay in Part B, or the fact that Medicare does not pay for foreign care.

However, these plans are private. There is a six-month window starting when someone turns 65. If you are over 65 but are still working with health insurance through your work or your spouse’s work, you cannot be denied coverage for a preexisting condition or pay a higher premium because of that condition.

Some people might get tricked and miss this enrollment period and subject themselves to Medicare’s general enrollment penalties if they have retiree health insurance, which might make them forget to sign up for Medicare Part B at age 65. Remember that the ability to sign up for Medicare after age 65 and enroll in a Medigap plan without regard to preexisting conditions happens when you have health insurance from your work or your spouse’s work, not from having retiree health insurance.

Conclusion

Social Security and Medicare are the cornerstones of most retirement planning strategies. Social Security provides an income stream that you cannot outlive, while Medicare provides health insurance when you are most likely to need it. Understanding how Social Security and Medicare work is essential for making informed decisions about your retirement. Knowing the rules and regulations for each program can help you maximize your benefits and ensure that you receive the coverage you need.

Works Cited

Landis, Andy, “Social Security the Inside Story”, An Expert Explains Your Rights and Benefits, CreateSpace Independent Publishing Platform, North Charleston, SC 2016 Edition, https://www.amazon.com/Social-Security-Inside-Story-2016/dp/1523650249, Andy Landis Website http://www.andylandis.biz/

How much can I earn in the year I reach full retirement age without losing Social Security benefits? AARP, Updated December 23, 2020 https://www.aarp.org/retirement/social-security/questions-answers/social-security-earning-full-retirement/

Anspach, Dana, How to Avoid the Social Security Earnings Limit, Sensible Money, December 10, 2020, https://www.sensiblemoney.com/learn/dont-get-pinged-by-the-social-security-earnings-limit/#:~:text=There%20is%20a%20larger%20earnings,in%202020%20it%20was%20%2448%2C600.)

Backman, Maurice, In 2021, you could earn up to $18,960 without having it impact your Social Security benefits, Motley Fool, Oct 25, 2020, https://www.usatoday.com/story/money/personalfinance/retirement/2020/10/25/what-are-the-2021-social-security-earnings-test-limits/42869155/

Retirement Benefits Securing today and tomorrow, SSA.gov, 2021, https://www.ssa.gov/pubs/EN-05-10035.pdf

When can I buy Medigap? Medicare.gov, https://www.medicare.gov/supplements-other-insurance/when-can-i-buy-medigap

Are social security benefits taxable? H&R Block, https://www.hrblock.com/tax-center/income/retirement-income/how-much-of-your-ssdi-is-taxable/

Retirement Benefits Special Earnings Limit Rule, Social Security, https://www.ssa.gov/benefits/retirement/planner/rule.html#:~:text=The%20special%20rule%20lets%20us,regardless%20of%20your%20yearly%20earnings.&text=Reach%20full%20retirement%20age%20in,substantial%20services%20in%20self%2Demployment.

Securing today and tomorrow, How Work Affects Your Benefits, SSA.gov, 2021, https://www.ssa.gov/pubs/EN-05-10069.pdf

These are the opinions of Financial Advisor Tim Hayes and not necessarily those of Cambridge Investment Research. They are for informational purposes only and should not be construed or acted upon as individualized investment advice. Content provided via links to third party sites should not be considered an endorsement of content, which we cannot verify completeness or accuracy of.