You need to know how Social Security calculates your benefits. Here is the formula

OWhether you’re retiring soon or decades away, you need to know how Social Security works. This source of income is protected against inflation and is guaranteed for life. This will be important to you in retirement, so you need to figure it out now.

In concrete terms, you must know how your benefits will be calculated.

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The formula used by Social Security to calculate your benefits

Social security benefits are benefits earned based on your salary during your career. It is therefore not surprising that the formula for Social Security benefits takes into account your income. Specifically, when calculating your benefit:

  • The Social Security Administration adjusts your salary over the course of your career to account for wage growth. You get a credit for wages up to an annual “basic wage limit”. In 2022, the base salary limit is $147,000.
  • Then your average indexed monthly earnings (AIME) are calculated based on the average monthly earnings during the 35 years when your earnings were highest

You will then receive benefits equal to a percentage of your AIME. The specific percentage depends on what you earn. Concretely, you receive:

  • 90% of AIME to a first “bend point”
  • 32% AIME up to a second “bend point”
  • 15% AIME up to a third “bend point”

Bend points are income levels based on average monthly earnings. They change annually, and the ones that apply to you are those in effect. when you’re 62. For anyone turning 62 in 2022, the first endpoint is $1,024 and the second is $6,172.

So if your average monthly earnings over your 35 most earning years were $7,000, you would receive 90% of your earnings up to $1,204, 32% of your earnings between $1,024 and $6,172 $ and 15% of your income above this amount. amount, so 15% of $828.

This calculation would give you your primary insurance amount (PIA). This would be available to you full retirement age, which is between 66 and four months and 67 if you were born in 1956 or later.

Your benefits would then be adjusted if you waited past your full retirement age, since you could earn deferred retirement credits between FRA and 70. But if you claimed earlier than FRA, your PIA would be adjusted downward. by early deposit penalties.

Why do you need to know the benefit formula?

So why is knowing this formula important? First, you can make more informed choices if you know how the benefit formula works.

In concrete terms, knowing that your benefit is calculated on the basis of an average of 35 years of income, you can be sure of working for at least 35 years. You can also decide to work longer to increase this average. If you earn much later in life, each additional high-earning year you accrue would replace one low-earning year in your formula.

You can also be more realistic about assessing the role your benefits will play. Unless you have very low incomes, you will only get benefits equal to a small percentage of what you earn. So Social Security isn’t going to come close to replacing your pre-retirement earnings. Instead, for most people, it replaces about 40% of what you earned before you left the workforce.

Understanding this means you can be sure to have plenty of savings to supplement your benefits. Finally, you can also make smart choices about when to claim benefits knowing that you’ll get less monthly money (but more checks) if you file early, or get bigger payments but less if you delay.

Since Social Security will be an important source of income, understanding all of these realities allows you to make the most of your benefits so you can have a more comfortable life as a retiree.

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