En español | Q. I'll be turning 66 soon and plan to apply for my Social Security retirement benefits. But I'm curious about something: How will Social Security figure out how much money to send me each month?
A. Thank you for this interesting question. I'll explain how the folks at Social Security arrive at the magic number, but don't be surprised if the explanation gets a bit complicated. Fortunately, there are computers that do all the necessary calculations.
It's worth noting that Social Security has had a lot of practice at this task. In June of last year, there were 43.7 million retired workers and their dependents receiving $57 billion a year in benefits. The average monthly retirement benefit this past January was $1,360.
Q. So how much will I get?
A. Hold on a minute, please! Before we get into questions like that, let's review a couple of basic concepts that will affect your benefit. The first is that a Social Security benefit is an earned benefit. It's not a freebie. We Americans earn our benefits by working for many years and paying the Social Security tax in each of those years.
That tax is 6.2 percent of your wages up to a ceiling ($127,200 in 2017). Plus, your employer matches the 6.2 percent payment for a total of 12.4 percent of your wages. (You also pay 1.45 percent of your wages, with an employer match, for Medicare. And if you earn more than $200,000 a year, you'll pay an additional 0.9 percent Medicare tax — as part of the Affordable Care Act.)
To even be eligible for retirement benefits, you generally need 10 years (40 quarters) of gainful employment. In 2017, you need to earn at least $1,300 in a quarter for it to count as a credit.
A final basic concept that will affect your benefit is that, in principle, the more money you earn during your working years, the higher your benefit will be. There are limits to how high it can go, however, because wages above the ceiling aren't subject to Social Security tax and aren't counted in your benefit calculation.
OK, now that we know the rules of the retirement road, let's see how Social Security figures out the dollars and cents that become your monthly benefit.
Each year that you've worked and filed an income tax return, your income figure has been transmitted to the Social Security Administration to become part of a crucial piece of bookkeeping known as your work record.
The figures in this record will form the basis of your benefit. But first, they undergo some numerical kneading to produce a calculation called average indexed monthly earnings (AIME).
See also: AARP Social Security Calculator
The purpose of the calculation is to adjust your career earnings to reflect the changes in general wage levels that took place during the years of your career. The job that paid you, say, a $300 monthly income 40 years ago, would yield quite a bit more today.
Social Security says that the adjustments "ensure that a worker's future benefits reflect the general rise in the standard of living that occurred during his or her working lifetime."
The next step is to calculate your all-important primary insurance amount (PIA). It represents your basic retirement benefit at full retirement age — 66 for people born between 1943 and 1954.
Q. How does that calculation work?
A. It starts with Social Security examining your earnings history — with an emphasis on the money you earned during your 35 highest-paid years.
That means that if you worked 40 years, Social Security would use your highest-paid 35 years in its calculations and ignore the other five. If you worked only 25 years, Social Security would consider those 25 years and factor in an additional 10 years as zeros.
The calculation of your PIA is subject to a set of percentages derived from the AIME, known as "bend points." Essentially, the PIA is the sum of three parts of your AIME. For instance: In 2017, retirees get 90 percent of the first $885 of the AIME, plus 32 percent of any AIME dollars between $885 and $5,336, plus 15 percent of AIME amounts above $5,336. Want to know more? Have a look at this Social Security web page.
The effect of these calculations is that a Social Security benefit "replaces" more of the income of lower-wage earners than it does for higher-wage earners. The effect is to help level the playing field in retirement between workers of different income levels.
With your PIA in hand, Social Security is ready to cut your first check as a full-retirement-age retiree.
Q. Does the PIA affect other benefit amounts, too?
A. Yes. First and foremost is your own benefit amount should you retire "early" — meaning before full retirement age — or after that age. Starting to receive benefits early will reduce the amount, which is calculated as a discount of your PIA. The reason: If you start early, you will get more payments for a longer period of time, but with smaller amounts of money in each payment.
Or you can wait until age 70 and thereby earn a 32 percent bonus over your PIA from delayed retirement credits of 8 percent a year.
As an example, if your PIA worked out at $1,000, it would be discounted down to $750 if you took benefits at the earliest possible age, 62. If you decided to go for your maximum possible benefit and put off collecting until age 70, your monthly payment would be $1,320. You can learn more from this Social Security pamphlet.
If you're married, the PIA will also figure in any benefit amount that your spouse would be due, generally 50 percent of your PIA if the spouse turns on the tap at full retirement age. The PIA is also the basis of a survivor's benefit and a child's benefit.
Stan Hinden, a former columnist for the Washington Post, wrote How to Retire Happy: The 12 Most Important Decisions You Must Make Before You Retire. Have a question? Check out the Social Security Mailbox archive. If you don't find your answer there, send an email to the Social Security Mailbox.