Side Effect from COVID: Lower Social Security?

Aaron Williams, CFP®

This year has already given us a series of interesting (and often unfortunate) events so far. So far, we’ve had Australian brushfires, Kobe Bryant’s passing, a global lockdown to help slow the spread of COVID-19, the stock market pullback (and subsequent recovery), a historic stimulus bill passed, protests/riots across the country and globe, there was some mention about murder hornets, a giant dust cloud moved across half of the country, and we are only a little over halfway through this year. COVID has yet to stop messing with our lives, and it has another target in its sights….Social Security. Before I continue any further, please note that for the vast majority of you, there is no impact to your Social Security benefits. However, if you were born in 1960, then your Social Security benefits will take a hit as a side effect of COVID-19.

Calculating Social Security

To understand what the impact may be, it’s worth discussing a high-level overview of how Social Security benefits are calculated. First, all of your recorded working years are laid out from the moment you started working until the moment you retire(d). Your earnings in each of those years are then indexed, or brought up to current levels, by what is known as the Average Wage Index (AWI). After the earnings are indexed, the highest 35 earning years are then selected, divided by 12 months, and an average is calculated. This average is known as your Average Indexed Monthly Earnings (AIME). Finally, your AIME is parsed off into three sections (each being reduced by specific rates) and the sum of those three sections creates your Primary Insurance Amount (PIA), or the Social Security benefit you will receive at your Full Retirement Age (between the ages of 66-67 depending on your birth year).

Now, I know you didn’t come here for a full breakdown of Social Security, but I wanted to lay that out so we can highlight the area impacted by COVID-19 and why it specifically is impacting those born in 1960. The culprit here is the AWI which indexes, or inflates, all of your historical earnings prior to age 60. AWI is essentially calculated by taking the total wages paid in the U.S. and dividing that number by the total amount of those who worked at any point during the year. With the pandemic hitting this year and record numbers of individuals losing their jobs and filing for unemployment, we would expect to see two impacts to both sides of that fraction: a lower numerator with lower total wages paid throughout the year, and a larger denominator as we had record employment numbers earlier this year. A lower numerator with a larger denominator results in a lower index (inflation) factor. Who ever said fractions are not fun?

Potential Impact of 2020's Low AWI

You might be wondering how big of an impact we are talking about. Well, Andrew Biggs, the first person to reveal this impact, estimates that the 2020 national average wage could be 6.7% lower than in 2019 (when it was initially expected to be 8% higher). That’s a statistically significant difference when you are talking about monthly earnings that one will receive for potentially 20+ years. Because Social Security is already weighted to assist those with lower earnings history, a lower AWI will impact higher earners disproportionally. Some could see benefits cut by over $4,000 per year.

Solutions to the problem

Will this impact come to fruition? Unfortunately, as has been the case with much of 2020, we are in a holding pattern. There are multiple ways that Congress could resolve the matter, but two of my favorites would be either (1) calculating AWI on a quarterly basis or (2) instituting a provision that if AWI were to drop, the previous year’s AWI would be used. The latter is very similar to the “Hold Harmless” provision that is already in place where if CPI declines Social Security recipients do not get a Cost of Living Adjustment, but their benefit does not decrease.

Lastly, if you are impacted, here are a few things that you can do to help mitigate the impact on your retirement:

  • If you are able to, you can work beyond age 60. For the years beyond age 60, wages are indexed by the AWI for the year in which they are earned.
  • Lobby to Congress for a legislative fix.
  • If you are in good health, delaying taking Social Security beyond your Full Retirement Age allows your monthly benefit to grow until age 70. Be flexible. If no other changes can be made, saving a little more now and/or being a little more frugal can help to offset the impact.

Understanding why your Social Security may be lower is a good thing. Being able to adjust your financial plan to accommodate the lower benefit is where a good financial advisor can help.

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Want to talk through the intricacies of your Social Security? Please give me a call.

Aaron Williams, CFP®
Partner | Senior Financial Planner | Chief People Officer


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