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Practice Management

The Bipartisan Budget Act of 2015 eliminates some popular claiming strategies couples use to increase benefits.

This Practice Management article is intended for financial advisors only (registered representatives of broker/dealers or associated persons of Registered Investment Advisors).
 

When Congress passed the Senior Citizens Freedom to Work Act in 2000, it introduced a new concept called “voluntary suspension” of benefits, allowing those who had already started Social Security benefits to stop their payments and earn delayed retirement credits. In the process, however, the new voluntary-suspension rules unleashed several additional Social Security claiming strategies, including various “claim-now, claim-more-later” tactics involving “file-and-suspend” and “restricted applications” for spousal benefits.

Those appear to be going away. Under the recent two-year budget agreement between Congressional leaders and the White House, Congress will close these loopholes in the Social Security rules. Barring any changes, the new rules mean that anyone receiving spousal benefits under file-and-suspend would have them terminated next spring.

The agreement actually extends the rules for deemed application, making it no longer possible to file a restricted application for just spousal benefits. In addition, by also extending the “suspension” rules that stipulate that suspending an individual’s benefits also suspends any benefits to other people based on the same earnings record, Congress will negate the various “file-and-suspend” strategies that permit spousal and dependent benefits to be paid while the primary earner still receives delayed-retirement credits.

Perhaps the most notable aspect of this new Social Security crackdown, though, is the effective date. While the new limits to Restricted Application will not apply to anyone who is already age 62 or older in 2015, the new crackdown may suspend current spousal or dependent benefits in six months for those who are only receiving those benefits thanks to file-and-suspend. In other words, those who already are engaged in the file-and-suspend strategy may find it terminated mid-stream, and no benefits will be payable until the individual who suspended chooses to reinstate benefits (either to restart them now, or continue waiting until age 70).

Notably, the crackdown on these voluntary suspension-related tactics doesn’t actually kill the rules for voluntary suspension itself, which remains on the books. But now, aside from a few esoteric scenarios (including the recent Hold Harmless Medicare claiming strategy), voluntary suspension will be relegated to those unique scenarios where someone truly started benefits early, and has had a change of mind and wants to stop them (after a year has passed and it’s already too late to withdraw the application) in favor of earning delayed retirement credits.

Of course, ideally, those who wish to delay benefits for the value of earning delayed retirement credits will simply delay from the start to maximize the benefit, which will make voluntary suspension a moot point altogether for most retirees.

File-and-suspend and restricted application under the Senior Citizens Freedom to Work Act of 2000 that President Clinton signed into law was intended to increase the flexibility for seniors to continue working even while receiving Social Security benefits. Accordingly, the new rules eliminated the earnings test for those who had reached full retirement age, and gave those who were already receiving benefits at full retirement age the opportunity to suspend their benefits to earn delayed retirement credits.

While the original purpose of these “voluntary suspension” rules were simply to allow those who had already claimed Social Security benefits to cease receiving benefits and earn delayed retirement credits, they also paved the way for another strategy: Retired couples could choose to file for benefits at full retirement and then immediately suspend.

Why do this? By filing for benefits, a spouse or even dependent children could become eligible for their benefits, and by suspending the primary worker could still not receive benefits and earn delayed retirement credits. This was far more appealing than the prior alternative, where if the primary worker wanted to earn delayed retirement credits by waiting until age 70, spousal and dependent benefits had to be put off as well.

A related strategy under these new voluntary suspension rules for couples was to file for benefits at full retirement age—both retirement and spousal benefits—but then immediately suspend the retirement benefit and only receive the spousal benefit instead. The effective result was that a spouse could choose to claim “just” a spousal benefit from full retirement age until age 70, and then reactivate and switch back to the original retirement benefit.

In the subsequent years, the Social Security Administration even expedited the process by formalizing the rules to “restrict the scope of their Social Security application” (or “file a restricted application” for short) to receive just spousal benefits and not individual retirement benefits.

Section 831 of the 2015 Budget Legislation Closes Social Security “Loopholes”
While these file-and-suspend and restricted application strategies were entirely legal and permissible under the Social Security rules as a part of the new voluntary suspension rules under the Senior Citizens Freedom to Work Act, it was not entirely clear that Congress truly intended to make such “claim-now, claim-more-later” strategies available to married couples.

Within a decade, the Center for Retirement Research was estimating that the availability of these strategies could “cost” the Social Security Administration as much as $9.5 billion in additional benefits being paid out every year (if everyone did it). Furthermore, 46% of the additional benefits were being paid out to the top two wealth quintiles, and the biggest additional benefits going to households that otherwise had similar earnings between spouses.

Given this dynamic, some began to label the restricted application and file-and-suspend rules a loophole, and by 2014, President Obama’s budget proposal for FY2015 was calling for a change to the rules to “prevent duplicative or excessive benefit payments,” including “aggressive Social Security claiming strategies, which allow upper-income beneficiaries to manipulate the timing of collection of Social Security benefits in order to maximize delayed retirement credits.”

But now, the so-called “Bipartisan Budget Act of 2015,” signed by President Obama on November 2, eliminates these strategies altogether, under Section 831 entitled “Closure of unintended [Social Security] loopholes.”

Deemed Application for All “Claim-Now, Claim-More-Later” Restricted Application Strategies
Under the standard rules for Social Security benefits, anyone who applies for an early (i.e., “reduced”) retirement benefit or spousal benefit is “deemed” to have applied for any/all eligible benefits. As a result, early retirees have always been required to file for and claim all benefits they are eligible for, and since it wasn’t possible to voluntarily suspend retirement benefits before full retirement age, the claimant would be “stuck” claiming all benefits (which in practice means simply getting a benefit check for whichever was greater, individual or spousal benefits).

With the new rules under Section 831 of the Bipartisan Budget Act, Section 202(r)(1) of the Social Security Act is altered to expand the deemed application rules from applying only to early benefits—instead of applying to all benefits regardless of age.

Thus, anyone who is eligible for a wife’s or husband’s spousal benefit is deemed to have filed for their old-age retirement benefit as well, and similarly anyone who is eligible for a retirement benefit is deemed to have filed for any spousal benefits to which he/she is entitled.

The end result is that it will no longer be feasible to file a restricted application, as any retiree who files for one benefit (retirement) is presumed to and deemed to have filed for the other (spousal) benefit as well—regardless of whether it was/is an early benefit or at full retirement age. (On the other hand, it appears that Social Security survivor benefits will still be eligible for claiming separate from retirement benefits, allowing widows/widowers to still optimize the timing of when to start each.)

Effective Date for Elimination Of Restricted Application
Notably, though, the new rules for restricted application apply only to those who attain age 62 in any calendar year after 2015. Thus, it appears that today’s retirees who are full retirement age (or simply who are already at least age 62 in 2015) will still be able to utilize a restricted application. Only future retirees— those who turn 62 in 2016 or later, which means those who would have been planning to engage in a restricted application in 2020 or later—will lose access to the restricted application claiming strategy.

Suspending All Benefits under File-and-Suspend
To further limit some of the perceived “loophole” abuses under voluntary-suspension claiming strategies, the Bipartisan Budget Act also includes a new Social Security Act subsection 202(z), which stipulates that if an individual chooses to suspend benefits, then:

1. All benefits payable to that individual will be suspended, based on both his/her own earnings record (i.e., retirement benefits) and also based on any other person’s earnings record (i.e., spousal benefits).

2. No other individual will be eligible for benefits based on the earnings record of the person who voluntarily suspends benefits.

The first prong of these new rules puts yet another nail in the coffin for any type of restricted-application strategy, as not only will the deemed application rules require that if an individual is eligible for one benefit then both must be claimed, but for those who suspend a benefit, both must be suspended.

The second provision effectively kills all of the File-and-Suspend strategies as well. After all, the whole point of the file-and-suspend strategy was that if one person (e.g., the husband) files and suspends benefits at full retirement age, he can earn delayed retirement credits while making his wife eligible for spousal benefits. Yet under these new rules, when the husband suspends, it suspends not only his benefits, but all benefits payable based on his earnings record, which means he would no longer be able to trigger spousal benefits either (because his wife’s spousal benefit is based on his earnings, which are no longer considered).

And notably, because the new rule applies to any other individual receiving benefits based on the primary worker’s earnings record, a voluntary suspension of benefits would trigger a suspension of the individual’s own retirement benefits, and any spousal benefits he/she is eligible for, and anyone else’s spousal benefits that person was eligible for, and even any dependent benefits being paid based on that parent’s/worker’s earnings record.

In point of fact, the new suspension provision is so broad, it may even unintentionally limit access to an ex-spouse’s divorced spouse benefits if the primary worker spouse voluntarily suspends, although this was likely not intended and will hopefully be fixed before the effective date for the new rules.

Effective Date for Ending File-and-Suspend Impacts Current Retirees
While the new rules on deemed applications will only apply to those who turn age 62 in 2016 or later, the new rules limiting suspended benefits will apply just six months after the effective date of the legislation. (Or at least, the Social Security Administration is authorized to begin applying the new rules within six months of when the legislation is passed.)

This is significant, because once the new rules are effective, any benefits being paid in relation to an individual who suspended his/her own benefits may no longer be payable, which means couples currently receiving a spousal benefit under file-and-suspend may find their checks cease once the effective date has passed.

Of course, the maximum benefit that a spouse could claim under file-and-suspend was limited to 50% of a worker’s Primary Insurance Amount (PIA), which would be half of $2,787.80, or $1,393.90/month, or about $16,700 per year. And at the most, the strategy would only unlock four years’ worth of benefits (from when the retiree reached full retirement age at 66, until age 70 when benefits would have started anyway). Nonetheless, the new rules could cut off as much as about $67,000 of benefits over a four-year time window for those who planned to engage in file-and-suspend and as much as 3.5 years of benefits for those who were already receiving File-and-Suspend-based benefits (if the Social Security Administration promptly enforces an effective date in six months).

For those who want to ‘undo’ the impact of losing benefits under these new rules, and activate their individual retirement benefits in order to also continue receiving spousal benefits, they will be required to file for a reinstatement of voluntarily suspended benefits to “re-start” both the spousal benefits and begin their own. Or alternatively, the retiree can continue to delay his/her individual benefits until age 70, recognizing that will now also delay a spousal benefit, and may delay a dependent benefit so far out that the child will be too old to receive dependent benefits when the time comes.

Start, Stop, Start —Voluntary Suspension of Social Security Benefits Still Exists
Notwithstanding all the new changes, the original rule allowing for voluntary suspension of an individual’s retirement benefits remains in place.

Now more narrowly construed, the rule exists for those who started retirement benefits early (prior to full retirement age), who have now “changed their mind” and wish to delay Social Security benefits and earn delayed retirement credits (especially in light of today’s low return environment and the appealing implied return of delaying Social Security). Given that the Social Security Administration shut down the “withdraw-and-reapply” Social Security strategy five years ago, voluntary suspension remains the only way for someone who has a change of mind (or circumstances) and wants to earn delayed retirement credits after having already received benefits for at least a year.

A voluntary suspension will also remain relevant in other limited scenarios, such as individuals (not couples) who wish to engage in the strategy simply so that they have the option of changing their mind and reinstating benefits between full retirement age and age 70 (which allows them to get all of their benefits paid retroactively back to full retirement age if they have a change in health and decide it wasn’t valuable to delay after all). For those with young dependents, who are approaching age 62, it may also still be appealing to file for benefits early to get retirement and dependent benefits, and then suspend at full retirement age (after the children may no longer be eligible for benefits anyway) to still earn the delayed retirement credits later. Or perhaps even those who have started Social Security benefits earlier given the looming “Hold Harmless”-driven 52% spike in Medicare premiums, who will choose to suspend later to earn some delayed retirement credits (although notably, the new legislation also contains at least a partial fix for the premium spike, but it appears to simply spread out the impact of the spike, not eliminate it).

Still, aside from these somewhat esoteric circumstances, the new rules effectively kill most forms of “claim now, claim more later” and “start-stop-start” Social Security claiming strategies. For everyone else, the decision of whether to delay Social Security to age 70 or not will simply be evaluated by the implied value of delaying all of a person’s individual and spousal benefits. Which means delaying one person’s benefit effectively holds all spousal benefits hostage in the meantime. Of course, in situations with married couples, where it rarely pays for both spouses to delay Social Security benefits, one spouse may start early while the other delays, but no spousal benefits will be payable for either spouse until that delay is over.

The signing of the budget agreement immediately started the clock on the end of restricted application for anyone still under age 62 by year-end. Anyone receiving spousal benefits under file-and-suspend would find those checks terminated next spring—or at least until any voluntary suspensions of benefits by either member of a couple is ended.

—Michael Kitces

Michael Kitces, CFP, is a Financial Planning contributing writer, and a partner and director of research at Pinnacle Advisory Group in Columbia, Md. He’s also publisher of the planning industry blog Nerd’s Eye View.

 

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