Employers with 401(k)-type plans already do a lot to help their workers accumulate money for retirement. What if they also helped them manage withdrawals better, with an eye on maximizing Social Security benefits?
That’s the gist of an idea that’s making its way around academic circles: Older workers and especially retirees could withdraw money from their 401(k) accounts sooner than they otherwise would, live on that money and thus “buy” or qualify for higher Social Security payments later.
A recent paper by the Center for Retirement Research at Boston College might prompt more thinking about this. The study explored the notion of employers with 401(k) programs offering “bridge” withdrawal options so that workers or retirees in their 60s could delay claiming Social Security retirement benefits while those payments increased, preferably to age 70 when payments reach a maximum.
“It’s a reallocation of what already exists, accelerating 401(k) withdrawals to defer Social Security,” said Gal Wettstein, senior research economist at Boston College and co-author of the study.
Essentially, employers would help distribute payments to retirees from their 401(k) plans roughly equal to the Social Security benefits those people would receive if they claimed now. For example, if you retired at 65 and were in line for, say, $2,000 in monthly Social Security payments at that age, that’s what you would withdraw from the 401(k) plan.
Social Security payments rise gradually from age 62, when participants can first claim them, until they max out at 70. The longer people wait, the higher their eventual benefits.
Why waiting to take benefits matters
Most people start claiming in their early- to mid-60s, locking in relatively low payments for the rest of their lives. Hardly anyone waits until 70. There are many reasons people don’t wait, from underestimating one’s life expectancy to doubting Social Security’s long-term viability to needing the money now to make ends meet.
Regardless, experts routinely suggest that people delay if they can.
Many Americans have various other options to maximize retirement assets and income. These include working longer, buying annuities from an insurance company, taking out a reverse mortgage and generating income from rental properties, noted Steve Vernon, a consulting research scholar at the Stanford Center on Longevity.
But in a 2018 report that discussed “pensionizing” 401(k) plans and Individual Retirement Accounts, he described Social Security as close to the “perfect” income generator, especially as it relieves participants of investment risk, protects them from outliving their money and hedges against inflation through annual COLAs or cost-of-living adjustments.
As such, Vernon argued that it “makes sense for workers to maximize the value of this important benefit, usually by delaying the start of benefits.”
In the paper, he too suggested various strategies such as withdrawing a portion of personal savings to live on while delaying Social Security.
Where employers come in
Individuals could put together their own informal plan to withdraw money from retirement accounts and defer Social Security. Perhaps some people do. However, Wettstein said guidance from an employer could help explain what’s involved and encourage people to make the commitment to follow through, though participation would be voluntary and could be changed at any time.
“People who do this on their own are likely sophisticated,” Wettstein said in an interview. “It would be hard to do it without any structure.”
Anyone considering this type of strategy also would also need a sufficient amount of retirement assets with which to work.
The average 401(k) account balance was around $73,700 at the end of 2018, according to a study by the Employee Benefit Research Institute and the Investment Company Institute, and the median or midpoint was much lower, at $16,000. However, older workers and those who have invested consistently over time have much higher balances than new employees and younger workers, who drag down the averages.
As envisioned by the Boston College study, a bridge strategy would allow investors to use their own 401(k) assets to withdraw an amount roughly equal to what would have been their Social Security benefits if they claimed now. They could live on this money for as long as they wanted or as long as their assets lasted, if not fully to age 70.
“But even postponing Social Security for a couple of years would result in a substantial increase in benefits,” Wettstein said.
Making it automatic could help
The study was designed to gauge the public’s potential interest in a bridge option and to suggest ways to encourage participation.
For example, the study recommends making a bridge strategy a default option, meaning a percentage of a worker or retiree’s 401(k) assets would get withdrawn automatically, without the person needing to authorize each transaction. Many retirement plans already sign up workers to participate as a default option, meaning workers participate automatically unless they opt out.
In this case, automatic withdrawals would happen unless people decided not to participate or decided to discontinue.
Although Wettstein said he isn’t aware of any employers offering this type of guidance, employers could implement a bridge strategy without any legislative or regulatory changes. Employers wouldn’t have to offer matching funds or other incentives to encourage participation, though some might choose to do so.
In the study, various bridge-strategy options were briefly explained to a sample of older workers, who were then asked what they thought of the idea and how much of their 401(k) balances would they allocate to it. Most participants didn’t buy into the plan, but a “substantial minority” expressed various degrees of interest.
Taxes play a role in decision
It’s important to note that anyone implementing a bridge strategy would need to heed various tax issues.
Most retirement-plan withdrawals are taxable (unless coming from a Roth option). That suggests that some people might want to pull out money before claiming Social Security, to minimize the possibility that some of their retirement withdrawals could push their Social Security benefits into the taxable category.
Then again, making voluntary 401(k) or IRA withdrawals now could be preferable to waiting until RMDs or required minimum withdrawals kick in, generally after age 72.
The suitability of a bridge-withdrawal strategy depends on many factors including whether you could afford to do it, whether you would have the discipline to follow the plan and how, if married, your spouse’s financial situation might affect the analysis.
But it’s a strategy worth considering, on your own or with an employer’s help, if you haven’t yet claimed Social Security.
