WCI #19: Social Security

This is the White Coat Investor Podcast where we help those who wear the white coat get a fair shake on Wall Street. We've been helping doctors and other high income professionals stop doing dumb things with their money since 2011. Here's your host, Dr. Jim Dahli. Welcome to White Coat Investor podcast 19 Social Security Today's podcast is sponsored by Set for Life Insurance. Set for Life Insurance was founded by Jamie K. Fleischner in 1993. They specialize in individual term life, disability and long term care insurance. They work on the client's behalf to shop around to find the most suitable products at the most cost effective rate. For more information visit www.setforlifeinsurance.com. well, welcome back to the podcast. I hope you've been enjoying these. I guess if you've gotten down to number 19, they must be reasonably good. Although I can't imagine that a financial podcast is the most entertaining one on your podcast list. But either way, we appreciate you listening. We appreciate you giving us great ratings. We appreciate you sharing this important message with your friends and colleagues. Our quote of the day today comes from cardiologist Robert Dorigozzi. If it is your desire to appear rich and important with all of the luxuries, do not expect financial security. Boy, isn't that the truth. Today we're going to be talking about Social Security, and I don't pretend to be a Social Security expert by any means. In fact, I don't think I've ever actually gotten any type of benefit from Social Security yet. It's mostly just a tax for me at this point in my life. But I think it's an important program to understand, not only because a lot of our income goes toward it, but also because it is a major player in the financial lives of so many people in the United States. I get a lot of questions when I'm out speaking asking, what do you think is going to happen to Social Security, Is it going away, should I plan on it, etc. You know, I don't personally think Social Security is going anywhere. This is one of the most popular programs the government does. I mean, try to make a list of congressmen and senators that would vote against Social Security. It's a very small list and nowhere near even a significant minority, much less a majority. It's popular for a reason, not only because there's lots of people getting benefits from it, but because it's really a pretty good program, one of the better things our government's done. So the votes to abolish it simply are not there. Now, whether it's the very best investment out there is a totally different question. But the fact remains that it fills a pretty big hole in the financial lives of a large percentage of our citizens. So I don't think it's going anywhere. I mean, can you imagine the riots in the streets if you got rid of Social Security? There's 54 million people right now currently receiving benefits. Getting rid of it completely is just not going to happen. That said, Social Security will probably change. You know, it's detractors, they have a lot of good points. Social Security does need to be shored up, projected at current, you know, revenues and spending to go broke in, you know, 10 or 20 years or whatever it is. The number always seems to be changing, but this isn't the first time it's been shored up. This has happened before. The formula really isn't that complicated. You can raise the retirement age, which I think is probably the best solution. You can raise taxes a little bit, you can lower the benefits or just lower the inflation adjustment on the benefits and you can tax more of the benefit for more of the people that are currently paying taxes on it. You could even take the benefit away from certain people, I suppose, but that seems a much less likely solution. I mean, people are always talking about means testing Social Security, right? Well, guess what? It's already means tested. It's a very progressive system already. Those who don't pay much in get a higher benefit proportionally than those who paid in a whole bunch of. And plus, when you take it out, if you have a lot of other income, you pay more in taxes on the benefit than you do if you don't have much, much other income. So it's already means tested, it's already progressive. So the solution to fixing Social Security, which I'm sure our government will do once they've tried everything else, probably will involve a combination of those various fixes. And it's probably going to be done at the last minute and maybe gradually over a few years. But I don't think it's going to go insolvent. You want to worry about a government program going insolvent? I'd start worrying about Medicare. I think it's important to realize that your benefit, your Social Security retirement benefit as a high income professional is extremely valuable. Take a look at your most recent Social Security statement if you don't agree. Mine says if I work until 70 and thus continue to pay in the maximum Social Security tax every year from now until then, then my Benefits can be $3,407 per month in today's dollars. Now, chances are I'm not going to work until 70, so my benefit will be somewhat smaller than that. Let's call it 3,000amonth starting at age 70. My partner is going to get 50% of that because we're married. And so that's about $4,500 total per month, or about $54,000 per year adjusted to inflation and guaranteed until we die. What's that worth? That's worth a lot. Who else can I buy something like that from? And at what price? I mean, insurance companies do sell inflation adjusted immediate annuities. Their guarantee isn't quite as good as the one from the government, but it's probably good enough. And that $54,000 per year benefit being purchased at age 70 would cost 1.35 million. So that's what my Social Security benefit is worth, over a million dollars. You know, that's not quite a military pension at age 38, health care forever, but it's still a significant part of my assets and probably of that of most doctors. So when people talk about I'm just going to ignore Social Security in my calculations, well, really, you're going to ignore it? You're going to ignore a million dollars? There are real consequences to doing that. You know, if you ignore it, it means you're going to have to save 10% more or work 8% or eight years longer. You know, there are real consequences to pretending Social Security is going to go away. Obviously, if it really does go away, that also means that you, you know, would have less for retirement and have to work longer. But I think the likelihood of that happening is pretty low. So what I would do, if you're one of these people that's really worried about Social Security, is I'd play it by ear. You know, if you're 55 or 60 already, it's almost surely not going anywhere in the next little bit. If you're 30, maybe you want to hedge your bets a little bit because that's a few decades off in the future. Another important concept to understand with Social Security is the concept of bend points. There are multiple bend points in Social Security, but the most important ones are the first and the second. Now, what I mean by bend point is a change in the slope of the graph. When you graph out how much you pay into Social Security against what you get out of it. The first few dollars in get a very good return. The last few dollars in don't get nearly as good of a return. The first Bend point comes at $372,000 this year. Now, what that means is your first $372,000 in Social Security wages, meaning the wages you earn that are subject to Social Security tax, which, which this year is about the first $125,000 or so of your earnings go toward those totals. And so for a doctor who's maxing them out, that's about three years worth of attending earnings to get to the first bend point, meaning that first few years of money you pay into Social Security has a very good return. The second bend point comes at a total of about 2.2 million wages subject to Social Security that you earn. Now, that might be an entire career for most people, although most doctors who have a reasonably long career are going to exceed that. Even if it's only 100 or $125,000 per year, that's probably, you know, you're going to hit that in less than 20 years. Beyond that, the return on your Social Security payments really is nearly as good. But up to that first and somewhat up to that second bend point, the return on your investment is actually pretty good. Mike Piper wrote a great book called Social Security Made simple. It's about 100 pages and really takes you through the nuts and bolts of Social Security. Now, it's not terribly interesting book if you're nowhere near the time when it comes to claim Social Security, but if you're facing that decision, it's certainly well worth the read. But in that book, he outlines six rules of thumb that are useful when looking at Social Security. I'd like to go through those here. The first rule is that the longer you expect to live or the more worried you are about running out of money, if you do live to have a long retirement, the better off you are to hold off on taking your benefits. Second rule is if you're an unmarried person and you're trying to decide whether to claim your Social Security benefits early or late, the break even is about age 80 and a half. But since the life expectancy of a 62 year old is to age 83, most of the time you're going to be better off waiting to age 70 to claim your benefits. Rule number three applies to married couples. The person with the higher primary insurance amount should delay the benefits that will increase the amount the couple will receive per month as long as either spouse is alive. Rule number four is also for married couples. If the spouse having the spouse with the lower primary insurance amount delay benefits only increases the amount the couple will receive per month. While Both spouses are still alive. Rule number five, the restricted application rule. And this is a technique people were using a lot until the last few years when they claim their benefits can give you a few years of free benefits, but not if you're not already 62. So for the rest of us who are under 62, that one's really not going to be helpful anymore, thanks to rule changes they made. And the final rule is rule number six. The higher the after inflation rate of return that you can earn on your investments, the better it becomes to take Social Security early and invest the money. As a result, if inflation adjusted interest rates are very high, which they aren't right now, or if you have a very high risk tolerance, you may be better off taking the money early and investing it. But for the vast majority of investors, you're probably better off just delaying Social Security. I think it's important to realize that Social Security is more than just a retirement benefit. It has an old age benefit which basically replaces your need to save for retirement, has a survivor's benefit which reduces or replaces your need for life insurance, and has a disability benefit which reduces or replaces your need for disability insurance. It's really three different types of financial products rolled into one. And it's important to realize that because a lot of us assume we're on our own for all this stuff. Well, that's probably a good assumption to make and that you actually take charge of your financial life. But the truth is the founders of Social Security realized that vast majority of Americans were not buying life insurance, were not buying disability insurance, and we're not saving for retirement. And so they decided to at least do some minimum amount toward each of these. But you know, take a look when you get your statement and see what your benefits are. For example, let's talk about the disability benefit, right? My disability benefit is $2,200 per month if I become disabled. Now, the rules for becoming disabled under Social Security are a little bit stricter than the rules under the disability insurance policies I bought because I paid extra for a true own occupation definition of disability. But the truth of the matter is if I was really disabled, I would get that $2,200 a month from Social Security in addition to what my disability insurance policies pay. In addition, that survivor's benefit is not insignificant. Take a look at that sheet and see what you get. My statement says that if I die, my spouse caring for my child will get $1,961 per month, and each of my children will get $1,961.00 per month, with our total family benefits totaling not more than 4,577 per month. Okay, the rules are a little bit weird, but basically if I die, my spouse starts getting about $4,600 per month, indexed to inflation. And that will continue until my second youngest graduates from high school more than a decade from now, at which time it would decrease to about $3,900 for another four years until the youngest is 16, at which time that spousal survival benefit goes away until she hits full retirement age. But for another two years until the youngest turned 18 and finished high school, she would get another couple thousand dollars per month. At that point, my spouse would be 56 and closing in on retirement age anyway. And a full retirement age, she would get $2,615 per month. You know, basically the bottom line is that just the Social Security survivor benefit would pay my surviving spouse almost $55,000 per year for over a decade, with a lesser amount for most of another decade. You know, that's not insignificant when it comes to planning how much life insurance you need. You probably ought to at least look at how much you're going to be getting from Social Security because it does not only help with, you know, retirement with that old age benefit, but it helps with, you know, life insurance needs with the survivor benefit, and it helps with your disability insurance needs with the disability benefit. Alright, let's take a look at some of the questions I've been getting by email and on the forums. This one comes in from a 2 MD couple with pretty good income, about $650,000 between the two of them. Basically all W2 employee kind of income. They have been saving well, and they've got a few debts, but have got rid of their student loans and have started saving for retirement. Well, they found out recently they're going to be given a share of a business that's worth about $500,000. So that in conjunction with their net worth, basically made them millionaires in their 30s. And so they're wondering, well, you know, how does this affect our lives? How should this affect how we save and how should this affect how, you know, what retirement accounts we use, etc. The basic question was, should we go from a 20% savings rate to a 15% savings rate? Well, I thought that was interesting when you dive into more details with them, it turned out that the business wasn't paying them any income anytime soon at all. It was basically just this asset that if it maintained its value, would eventually give them, you Know, a big chunk of change. And I think an asset that you're really not gonna be able to convert to cash anytime soon maybe shouldn't affect how much you save or how you live your financial life all that much. It's a little bit like this business we have, the white coat investor, right? It's terribly illiquid, and it's terribly difficult to value. Is it worth something? Absolutely, it's worth something. It's worth a lot. It's a big chunk of our net worth. But when you were actually valuing it, you really got to be a little bit careful how you do it. And probably due to its illiquidity and due to, you know, the amount of time before we can really liquidate it, you know, you got to discount it significantly. Some people say 30% is a reasonable amount to discount a business for illiquidity. And, you know, and that's a business that's actually paying a significant income every month. This business that this couple have inherited isn't paying any income at all for quite some time. And so I'd be pretty careful, you know, doing things like lowering my savings rate based on inheriting, something like that. I mean, it's great to get, but, you know, I think you should bear in mind that it's like the two birds in the bush, right? You don't want to put too much stock into it. Next question. This is one I see a lot. This writer says a recurring suggestion I've seen is to buy disability insurance early in residency, since that is when it's the cheapest plus the most useful. I unfortunately did not know about this and still don't have disability insurance other than what is provided by the training program. But since I'll be graduating in just a few weeks, does it make a big difference whether I buy it now versus when I start my attending job? Well, you know, I get this at least once a month, it seems like. I mean, your highest risk for disability is the earliest in your career because you have the fewest other assets and you have the most years of your career ahead of you. So if there's ever a time where you need disability insurance, it's early in your career. So when should you buy it if you don't have it and you need it? Well, right now you should buy it whether you're a resident or whether you're an attending or whether you're a brand new intern. You know, there are even some medical students out there who buy disability insurance, although it's a little bit harder to buy As a medical student, they really don't sell you much, so you need to buy it as early as possible. But if you're sitting there at the end of residency wondering, should I buy it the month before I graduate or the month after, the right answer is usually the month before. And that's for a few reasons. One, sometimes you change occupational class and as you go from being a resident to an attending, although most of the time you're in the same one. But that can be a significant source of discount. You also might be moving to a state where disability insurance costs more than the state you're in. And you can ask an independent disability insurance agent whether your current state or your future state is a better one to buy disability insurance in. But another reason, aside from just the fact that you're a month younger, is that you don't have a disability insurance policy coming from your new employer that's going to limit the amount you can buy. If you've already got, you know, a $10,000 a month benefit policy in place, the insurance company might not sell you as much as you want. For example, if you wanted to buy a $25,000 a month benefit and you already had 10 or $15,000 in place through your employer, you know, they may not let you buy anymore. But whereas if you had bought 10 or $15,000 as an individual policy before starting with that employer, you could then stack on the employer's benefit in addition to what you already had. So in general, you buy it before you finish residency, before you start that attending job, unless there's something very unusual about your situation, like you're moving to a state where it's going to be dramatically cheaper in the new state than it is in the current state. Will it make a big difference? It might not make a big difference, but I think enough of the time it does make a difference that the time to do it is before you start that new job. Next question. How do you handle health insurance as an early retiree? Do you get it through a spouse at this point? Some days I feel I'm working just for the benefits. Well, I'm not sure how much of an early retiree you are if you're getting your health insurance through your spouse. I mean, that just means you're the stay at home spouse, right? You know, I mean, someone's still working in that scenario. You're not really retired, are you? But I don't want to be the retirement police, but that's what I'd say as far as getting it through your spouse Being an option. This is interesting that I get this question so often, and I think it's because so few of us are actually buying health insurance on the open market. I go to the on the open market every year and buy my health insurance through a health insurance broker. Since we're self employed, we end up writing it off as an above the line deduction. It's a nice little deduction for us, but I know exactly what health insurance costs for us. It costs about $1,200 a month for our family of six. I'm told that's actually a pretty good price. Lots of people who are in their 50s are paying, you know, $2,000 a month just for a couple. Health insurance is expensive stuff. But you handle health insurance as an early retiree just like you handle any other expense. As an early retiree, how do you handle your housing expense? How do you handle your food expense? How do you handle your travel expense? Well, the way you do it as an early retiree is you save up enough money that you can pay for all your expenses without ever having to work again. That's how you handle it. You know, obviously when you turn 65, you can qualify for Medicare. And so that's nice to have, you know, maybe a portion of your of your health care costs go down when you hit 65, but that's something you can just work into the math as you figure out whether you have enough to retire. I certainly wouldn't stay in a job I hated when I wanted to be retired just for the health benefits if I had enough money to purchase them on my own on the side. And so I think that's, you know, the answer to that question. You know, obviously if you want to, you find some gig you like to do that's going to provide you health insurance, that's fine to stick with it, you know, knowing that that's a significant portion of your pay. But for the most part, the way you handle it as an early retiree is you save up enough to pay for it. Today's podcast was sponsored by Set for Life Insurance, a client centric company. They listen carefully to the needs of clients and shop around to find the best products available at the best rate. Because of the volume and exceptional reputation of Set for Life Insurance, as well as the relationships they have developed over the years, Set for Life clients have access to special services not available elsewhere in the industry, including discounts, gender neutral policies, priority underwriting, handling, and on some occasions, exceptions in the underwriting process. Visit www.setforlifeinsurance.com today. Thanks for listening to the podcast and thanks for what you do. Be sure to send your questions in by email to editorhitecoatinvestor.com or via Twitter @wc investor, and we'll answer as many of those on the podcast as we can. Thanks for your support and see you next time.