What is your return rate if you delay taking Social Security?
Posted on February 21, 2025
I previously stated that you save A LOT in taxes if you delay taking Social Security (SS) and replace your SS benefit with a distribution from your traditional IRA. (See here.) You’re saving because the distribution that replaces SS is taxed at roughly 5% and not 22% or greater if you held on to it and distributed it later. This post answers the question, “What rate of return am I earning if I delay taking SS?” I find the rate of return is about 6% after-tax return guaranteed. Unbeatable.
== When you take SS early . . . ==
The maximum SS benefit starts at age 70. Let’s assume I’m turning 69; I’ll assume my life expectancy is 17 years. I can take SS of $30,000 this year. I forgo the ~8% real increase in benefit that I get for waiting a year. Since the $30,000 adjusts for inflation, that’s my SS benefit in constant spending power for as long as I live. I keep $30,000 of securities invested that I would otherwise sell for my spending this year.
Most folks have no idea of how much they can safely pay themselves – withdraw from their portfolio for their spending. It doesn’t sit well to spend their own hard earned savings for spending now to pass up SS. 90% of retirees are in this boat and take SS early – before they would get maximum benefit at age 70. I was with them when I faced my decision to start or delay SS. I started SS early.
== When you delay . . . ==
When you delay SS for a year, you get a real ~8% increase in benefits for the rest of your life. You must sell securities from your nest egg to replace the cash you’d get from SS. You’ll only do this when you know you have enough to never outlive your nest egg. Most folks have no way to figure this out.
Nest Eggers can more logically decide, since we can calculate their Safe Spending Amount from their portfolio (SSA. Chapter 2, Nest Egg Care (NEC)). Some will calculate that they have “more than enough:” their SS benefit + SSA gives them more than their desired spending for the year (Chapter 5, NEC).
Patti faced her decision on SS after we were able calculate and convince ourselves that we had “more than enough.” She waited to get her maximum benefit at age 70: her real benefit increased 8% each year from the amount she would have received at age 66, her Full Retirement Age. She’ll keep those increases for the rest of her life. Her benefit is greater than mine; if I outlive her, I’ll keep those increases the rest of my life.
== Unbeatable financial return ==
It’s a terrific investment if you delay. I think I have the correct math here, and I conclude that the return rate is about guaranteed 6% real return rate per year – assuming you live a reasonable number of years. Nothing beats that.
Details:
In my example, I sell and distribute $30,000 securities from my traditional IRA to replace $30,000 of SS benefit for the year. I will gain $200 per month or $2,400 each year into the future.
I want to calculate the after-tax return for using $30,000 of my traditional IRA for our spending in return for the increased $2,400 per year.
== What am I investing after taxes? ==
If I keep the $30,000 invested, I would ultimately pay at least 22% marginal tax when I distribute it in the future. RMD will require me to distribute this: I assume this amount is my last increment of RMD each year and is taxed at my highest marginal rate or the highest marginal rate for my heirs. I therefore assume $6,600 in tax and my after-tax investment is 78% of $30,000 or $23,400.
[My tax rate would be higher if my last increments of RMD cause me to cross an IMRAA tripwire or if I ever cross into the 24% marginal tax bracket. (This is a real possiblity in the, hopefully, distant future when it is just one of us alive.)]
But I LOWER that by $5,230 to $18,170, because the IRS, in effect, is handing me an added check for that amount. The added check is from the lower tax that I actually pay. My $30,000 isn’t taxed at 22% or $6,600. I pay tax at a ~5% effective rate, $1,370 – $5,370 less tax. I pay this low tax because the first $16,600 is not taxed and the balance is taxed mostly at the 10% rate.
== What am I getting? ==
I’m investing $18,170 to gain, after a year, $2,100 guaranteed after-tax benefit per year for the rest of my life: I assume the $2,400 benefit is taxed as the last increment of base SS at 12%.
== ~6% guaranteed return rate ==
I can find the rate of return on the guaranteed stream of $2,100 per year for my $18,170 investment. My return rate varies by the number of years that I’ll receive the $2,100. My years to cash break even is ~nine years: $18,170/$2,100. My return for fewer than ~nine years is negative.
But in a few more years, the real, after tax-return rate is 3% guaranteed. That’s very attractive. For 17 years, the assumed life expectancy in this example, the guaranteed real return rate is about 6%. That’s unbeatable.
Your expected return for delaying at age 68 is better than delaying at at 69; your expected return for delaying at age 67 is better than delaying at age 68; and so on. Your expected returns improves because your have a greater chance – probability – of living 17 years to earn 6% real return.
Conclusion: When you distribute from your traditional IRA for your spending to delay Social Security (SS), you gain a significant tax benefit. Your distribution is taxed at about 5% rather than 22% or more over time. The IRS, in effect, is handing you an additional check of many $1000s to delay taking SS. You are investing a relatively small amount of your nest egg for the benefit of 6% real increase in SS benefits for your life expectancy. This is unbeatable.
It can be tough to trust that you have “more than enough” in your financial portfolio and can “afford” to distribute an added amount to substitute for your SS benefit. We nest eggers have a way to calculate if we have “more than enough.” That makes is easier to decide. If you trust that you have “more than enough” and distribute from your traditional IRA to replace the cash you’d get from SS, you are making a sound financial decision.