When it comes to planning for retirement income for those clients who have a history of working in both the public and private sectors, things can get tricky. Specifically, there are two legislative provisions—the windfall elimination provision (WEP) and the government pension offset (GPO)—designed to prevent these individuals from receiving their full pensions and social security benefits, which can drastically affect how much retirement income they receive.
Here, we’ll discuss the potential impact of the WEP and GPO on social security income to help you more accurately predict clients' cash flow and make plans to fill any gaps that may arise.
Learn how to cover your clients' pension and social security income gaps with our Ultimate Retirement Income Planning Guide.
If your client will receive a pension from a job not covered by social security and is also eligible for social security benefits from working at another job, his or her social security payments may be reduced by the WEP.
The formula depends on the number of years in which the client had "substantial earnings" under social security and his or her eligibility year (i.e., the year the client turns 62 or becomes totally disabled). The maximum reduction is limited to half the amount of the noncovered pension in the first month of entitlement.
- The WEP cannot reduce the social security benefit to $0.
- It does not apply if the worker has 30 or more years of substantial earnings under social security. (For 2016, this amount is $22,050.)
- Workers with between 21 and 29 years of substantial earnings will see some offset but not as much as those with 20 or fewer years of substantial earnings.
If your client will receive a pension from a job not covered by social security and is also eligible for social security benefits as the spouse or survivor of a worker, his or her spousal or survivor social security payments may be reduced by two-thirds of the client's government pension. If the pension is equal to or greater than 1.5 times the social security spousal or survivor benefit, the benefit will be reduced to $0.
Crunching the Numbers
The Social Security Administration offers two calculators to help you and your clients determine the potential reduction in benefits for government and public workers.
- To use the WEP Online Calculator, you will need the earnings listed on the client's annual statement.
- To use the GPO Online Calculator, you will need the spouse's statement.
Let’s look at some examples of how these calculators can help you more accurately account for social security benefits in your client's retirement income plan:
Jill taught first grade at the local public school for most of her working life, and like many teachers, she worked during her summer breaks. She didn't earn much at those summer jobs, but she did earn enough credits to be fully insured for social security.
Jill expects to receive $5,000 per month through her state's teachers retirement program, and her social security statement reports that her benefit will be $434 per month at her full retirement age (FRA) of 66.
Using the WEP Calculator, Jill finds that her benefit will be reduced to $192 per month. If she retires earlier than her FRA, it will be reduced even more.
Jill's husband, Jack, has always worked in the private sector. His social security benefit will be $2,500 per month at FRA. How will Jill's pension affect her spousal benefit?
The GPO Calculator shows that Jill's spousal benefit will be completely offset. The most she can expect to receive is $192 per month on her own earnings record.
What's the Effect of Social Security Rule Changes?
Before the Bipartisan Budget Act of 2015 was signed into law, you likely recommended that clients consider the "claim now and claim more later" (also known as file and suspend) strategy, which aimed to maximize a couple’s social security benefits over their lifetime. With the recent legislation, however, this popular strategy was eliminated, which has left clients wondering how to get the most benefits from the system: claiming early or waiting until age 70.
Private-sector workers. James and Tina both turned 66 on September 1, 2016. They have full retirement age benefits of $2,600 and $500, respectively. Inflation and life expectancy assumptions are 2 percent and 88 years, respectively.
The claiming strategy that will give them the most cumulative benefits out of the system is a delayed benefits strategy.
- Tina claims her benefits at age 66 ($500).
- James files a restricted application for spousal benefits only at age 66 ($250).
- James switches to his benefits at age 70 ($3,715).
- Tina switches to spousal benefits at age 70 ($1,407).
Over the next four years, they will receive a combined $750 per month. Once they both turn age 70, their benefits will increase significantly to $5,122 per month. Alternatively, what if James had filed at 66 and Tina immediately claimed spousal benefits? Under this scenario they would have received $3,900 per month over the next four years. Most important, the crossover point where the delayed strategy catches up is age 83 and 5 months for both spouses.
Now let's revisit Jill and Jack. The WEP reduces the government worker's social security benefit, as well as the spouse's benefit, since it is based on the worker's benefit. It can, however, still make sense for the spouse with the higher social security benefit to delay claiming until age 70 and instead file a restricted application for spousal benefits.
- In Jack's case, at age 66, he could receive a check for one-half of Jill's WEP-reduced benefit of $192, which comes to $96 per month.
- Although the WEP reduces how much Jack can receive as a spouse now, what's important is that he is accruing delayed retirement credits on his record.
- At age 70, Jack can claim his own worker benefit, which will have grown from $2,500 to $3,330 per month.
- Further, claiming a $96-per-month spousal benefit for four years would have no effect on Jack's future benefit, but if he didn't claim it at his FRA, it would be money left on the table.
Given these provisions, it's possible that clients who are eligible for both pensions and social security benefits won't receive as much retirement income as they may have expected. But if you proactively address the impact of the WEP and GPO on your clients' benefits, you can help ensure that they don't encounter any financial surprises during their retirement years.
How have you addressed these provisions in your clients' retirement income plans? Share your successes and challenges by commenting below.
Editor's Note: This post was originally published in February 2015, but we've updated it to bring you more relevant and timely information.
This material has been provided for general informational purposes. Although we go to great lengths to make sure our information is accurate and useful, we recommend you consult your tax, legal, or financial advisor regarding your specific circumstances.