Workers who held jobs in both the private and public sectors over their careers could be in for a shock when it comes time to claim Social Security. If you get a government pension, the Social Security benefit that you earned from your private job could be slashed by hundreds of dollars a month.
That came as a big surprise to Jim Knight, 68, of Vallejo, Cal., who filed for his Social Security benefit at age 66. He had paid into the system in the years before he took a public teaching job. "I had earned my credits," says Knight, which provided him a Social Security retirement benefit of about $1,000 a month. But a year ago, Knight started getting his teacher's pension check and his monthly Social Security benefit dropped to $600. "It's unfair. That money is mine," he says.
Knight was hit by what's known as the "windfall elimination provision," or WEP. This provision affects workers who have had two careers: private-sector jobs that were covered by Social Security and state or local government jobs that were exempt from the Social Security payroll tax.
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Many public pensioners get hit twice. If they apply for a Social Security spousal or survivor benefit based on a spouse's earnings record, those benefits will be reduced as well -- and possibly eliminated. That rule is known as the "government pension offset," or GPO.
The windfall provision does not apply to public pensioners who have 30 years or more of substantial earnings under Social Security. And Social Security benefits are not reduced for those with military pensions (but benefits are still reduced for those who also have a pension from public sector work not covered by Social Security).
The WEP was aimed at correcting a quirk in the calculation of Social Security benefits. Benefits are based on average monthly earnings and are meant to replace only a percentage of a worker's salary. The formula replaces a greater percentage of a lower-wage worker's salary than it does a higher-wage worker's salary.
Until the early 1980s, the Social Security Administration assumed that workers who had zero annual earnings for a certain number of years were low-wage workers -- even though they may have received paychecks from public jobs. In 1983, Congress approved a new formula to end this "windfall."
Say a person worked for 10 years in the private sector at $50,000 a year and drew a public pension of $2,500 a month. If the windfall provision did not exist, she would receive a Social Security benefit of $894 a month at age 66. But under the provision, her benefit is $487. (The maximum WEP reduction for 2014 is $408.)
The WEP also affects a Social Security spousal benefit based on the public pensioner's earnings record, says Jason Visner, a financial adviser for Brook Capital, in Brookfield, Wisc. In this example, the pensioner's spouse would qualify for a spousal benefit of up to half of $487, instead of half of $894. A surviving spouse, however, will get the pensioner's full Social Security benefit without the WEP reduction.
A Hit on Spousal and Survivor Benefits
The public pensioner who applies for a spousal or survivor benefit based on a spouse's Social Security earnings record also faces reductions. Usually, a spouse gets up to 50% of a worker's Social Security benefit, and a survivor gets up to 100% of the worker's benefit.
The GPO provision reduces the spousal or survivor benefit by two-thirds of the public worker's pension amount. Say your late spouse worked his entire career in the private sector and had a Social Security benefit of $2,500 when he died. If you're getting a public pension payment of $2,000 a month, your Social Security survivor benefit will be $1,167. (That's $2,500 minus $1,333, which is two-thirds of $2,000.)
The GPO was meant to keep benefits in line with Social Security rules covering private workers. A beneficiary, for instance, is not entitled to claim both her full retirement benefit and a full spousal benefit. So if a beneficiary is entitled to a retirement benefit of $800 and qualifies for a spousal benefit of $1,000, she gets her $800 benefit plus $200 of the spousal benefit.
Still, those hit by the WEP and GPO say the formulas are arbitrary. "The figures are not based on reality. It was political football," says retired teacher Bonnie Cediel, whose group Social Security Fairness wants Congress to repeal the provisions.
Don't expect a fix anytime soon. In the meantime, you can find out whether you'll be subject to the GPO and WEP and determine how they could affect your retirement income. "If you don't know that's coming, you're in for a rude awakening," Visner says.
Check your Social Security statement, which you can find online if you sign up for a "My Social Security" account at www.socialsecurity.gov. Zeros will show up in years in which your earnings came from a job that wasn't covered by Social Security. You can calculate the impact on your benefit by using the site's WEP calculator. To estimate your monthly Social Security benefit, plug into the calculator your earnings from years of private work, zeros for your years of public-sector earnings and your monthly public pension benefit.
The windfall provision will take a bite from your Social Security benefit no matter when you claim. But if you claim before full retirement age, your benefit will be reduced both by the windfall provision and for claiming early. If you wait until 70, you'll still be hit by the WEP, but you'll get an 8% delayed retirement credit for each year you delay past your full retirement age.
Those rules in part are motivating Michael Medaglia, 64, and his wife, Denise, 63, of Groveland, Mass., to consider delaying their Social Security benefits. Denise retired three years ago as a public school teacher. She receives a public pension and is also eligible for a small Social Security benefit. Michael is still working full time in the private sector.
Even with a delay, the WEP slashes Denise's benefit and the GPO reduces any spousal or survivor benefit she would get on Michael's record. But the survivor benefit would be larger if Michael delays. "It makes good economic sense to defer as long as we can," he says.
For couples who want to maximize benefits, delaying could also make sense if the higher-earning spouse's Social Security is slashed by the windfall provision. Say the higher earner at 66 has a $1,500 monthly benefit but it's reduced to about $1,100 a month. Meanwhile, his lower-earning spouse has her own $1,200 benefit. Because the WEP doesn't slash the survivor benefit, the lower earner could get a $1,500 survivor benefit if she outlives the higher earner. And if the higher earner delays his benefit to age 70, the survivor benefit will be $1,980.
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