A Social Security bridge payment can significantly boost your lifetime retirement income.
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Older workers who are approaching retirement face a series of complex decisions that come with high stakes. One particularly critical decision is when to start your Social Security benefits. It’s worth your time to develop a strategy for optimizing your Social Security income. Let’s see why.
Social Security income has great advantages
Many workers can substantially increase the amount of retirement income they’ll receive over their lifetime by maximizing their Social Security benefits. That’s essential, because Social Security offers the most risk protection compared to any other retirement income generator (RIG). With Social Security benefits, your monthly income is increased for inflation each year, it won’t drop if the stock market crashes, and it’s paid for the rest of your life, no matter how long you live. Risk-protected retirement income is looking pretty good these days!
Social Security benefits have even more advantages: A portion of your Social Security income isn’t subject to income taxes, and it pays valuable survivor benefits if you’re married.
Most people can maximize their Social Security if they delay starting Social Security as long as possible, but no later than age 70 (because there’s no financial advantage to delaying the start of Social Security benefits beyond age 70).
One of the best ways to delay starting Social Security benefits is to earn enough money from working so you don’t need Social Security income to cover your living expenses. However, if you’d rather not work, or can’t find work, then the next best way to delay starting Social Security benefits is to set up a Social Security bridge payment.
What’s a Social Security bridge payment?
If you retire before you start your Social Security benefits, you can delay starting Social Security by using a portion of your retirement savings to temporarily substitute for the estimated income you’ll get from Social Security until you actually start your Social Security benefits. This strategy is called a “Social Security bridge payment.”
For many people, using their savings to fund a Social Security bridge payment is one of the most strategic ways to use their hard-earned retirement savings, as described by recent research from the Stanford Center on Longevity.
You can see why in the following example.
Suppose you reach age 65 in 2020 and your monthly Social Security income is $1,176 at that age. In this case, if you delay starting Social Security income until age 70, your monthly benefit would be $1,667 per month, an increase of $491 per month compared to starting Social Security at age 65. To create a Social Security bridge payment, you would set aside enough savings to pay yourself $1,667 per month for 60 months, from age 65 to age 70.
If you do the math, $1,667 times 60 months works out to $100,020. (I picked the numbers in this example to be close to $100,000, to make it easy to compare the results to what you’d get from different RIGs.)
Using a Social Security bridge payment, you’d receive $1,667 a month for life—paid from your Social Security bridge fund from age 65 to age 70, and then paid by Social Security from age 70 for the rest of your life. In fact, once you start your actual Social Security benefits, the $1,667 amount will be increased due to cost of living adjustments.
When setting up your Social Security bridge fund, it’s generally a good idea to invest your funds to avoid stock market risk. To do so, choose such investments as a CD, money market fund, short-term bond fund, or stable value fund in a 401(k) plan. You could use any interest earnings to increase your Social Security bridge payment in the years after you retire.
A Social Security bridge payment generates more income than other RIGs
In the above example, by using $100,020 in savings to fund your Social Security bridge payment, in effect, you’ve “bought” an additional $491 in monthly lifetime retirement income. This works out to $5,892 per year.
The “annual payout rate” is a common metric to assess different retirement income generators. For this RIG, you’ll realize an annual payout rate of 5.89% (by dividing $5,892 by $100,020). This rate is significantly higher than payout rates from other RIGs.
For example, if you invest your savings and use a dynamic 4% withdrawal strategy, the payout rate of 4% is almost one-third less than the payout rate of the Social Security bridge payment.
If instead you used the original “four percent rule,” nowadays the “safe” payout rate is 2.4%, which is less than half the payout rate of a Social Security bridge payment.
The current payout rates for annuities also typically fall short of the payout rate for a Social Security bridge payment.
Of course, the payout rate is just one consideration for building your retirement income portfolio. There are other considerations, such as a desire to maintain liquid funds you can access for emergencies.
A few notes and variations
The term “Social Security bridge payment” is a generic term — you can’t go to a financial institution and ask if you can buy such a product. You’ll need to set it up yourself, or if you need help, you’ll need to work with a financial adviser.
Also, you can’t “buy” an unlimited amount of extra retirement income with a Social Security bridge payment. You can only increase the Social Security benefit you’ve already earned by delaying the actual start of your Social Security benefits.
Finally, there are a few variations on the Social Security bridge payment strategy. For example, delaying the start of your Social Security benefits all the way to age 70 usually produces the most financial advantage. However, you’d still realize significant advantages by delaying your benefits to your late 60s. If you decide to do that, it would take less savings to fund your Social Security bridge payment, compared to delaying Social Security until age 70, and you’d still realize payout rates that are significantly higher than other RIGs.
In the previous example, another variation would be for the Social Security bridge payment to substitute for your age 65 Social Security income instead of your age 70 income. This variation would require less money to fund your Social Security bridge payment, but you’d also receive less income between ages 65 and 70. You’d still receive the same increased Social Security benefit at age 70.
As you can see, it’s going to take some time and effort to build a portfolio of retirement income that best meets your individual goals and circumstances. Since you’re planning for financial security for the rest of your life, it’s time well spent!