4 Mistakes to avoid when collecting social security while working
For many, the idea of collecting Social Security benefits while still working can be an attractive one, offering a potential boost to current income. However, this decision comes with its own set of complexities and potential pitfalls. This week, we'll delve into four common mistakes you'll want to avoid if you're considering collecting your Social Security benefit while continuing your career, using a real-life example to illustrate these points.
As you likely know, you become eligible to collect your Social Security benefit once you reach age 62. However, collecting benefits before your full retirement age (FRA) results in a permanent reduction in the amount you receive. Conversely, waiting until age 70 can significantly increase your benefit, with an 8% increase for each year you delay collection past your FRA. These factors are crucial when deciding your collection strategy, as claiming early can substantially reduce your lifetime Social Security income.
Beyond the benefit amount, there are four other critical factors to consider if you plan to collect Social Security while continuing to work.
————— Breaking Down the FERS Retirement System for Federal Employees, Episode #255 ———————-
Mistake #1: Earning Above the Social Security Limit
If you collect Social Security while still working, it's crucial to be aware of the earnings limit. The good news is that once you reach your full Social Security retirement age (which varies based on your birth year), there is no limit to how much you can earn while collecting benefits. For example, if your FRA is 66 and 8 months, you can collect your full Social Security benefit without worry from that month forward.
However, if you collect benefits before your FRA, you need to be mindful of two earnings limits:
From age 62 until the year you reach your full retirement age: You are limited to earning $23,400 per year. If you earn over this amount, your benefits will be reduced by $1 for every $2 you earn above the limit. This amount sees a slight annual increase for inflation.
In the year you reach your full retirement age: You are limited to earning $62,160 up until the month you reach your full retirement age. If you earn over this, your benefit is reduced by $1 for every $3 you earn above the limit. This figure also experiences a small annual inflation adjustment. It's important to note that only the income earned up until the month of your FRA is counted.
Let's look at Kathy, one of my clients. Kathy is a teacher in Connecticut, earning $75,000 annually. Her birthday is in October, and her full retirement age is 66 and 8 months. She turned 66 last October and will reach her FRA in June of this year. This means she could begin collecting her full Social Security benefits in June without worrying about the earnings limit, as she will have reached her FRA. At her FRA, she expects to receive about $1,800 per month from Social Security. While she is also eligible for a spousal benefit (half of her husband's full retirement benefit), her own benefit will be slightly higher due to prior employment. (Teachers in Connecticut and many other states often don't pay into Social Security, frequently relying on spousal benefits.)
Because she will reach her FRA this year, her earnings limit for the first five months of the year is $62,120, which breaks down to approximately $12,424 per month. Since Kathy earns about $6,250 per month, she could have started collecting her benefit as early as January. However, this brings us to the next important consideration.
Mistake #2: Eliminating Your Ability to Make HSA Contributions
When you collect Social Security past age 65, you are automatically enrolled in Medicare Part A. This is not optional. If you are still working past age 65 and are covered under an employer health plan with 20 or more employees, you are generally exempt from actively enrolling in Medicare. For many individuals covered by high-deductible health plans, they prefer not to enroll in Medicare Part A while still working.
The primary reason for this preference is that once you enroll in Medicare Part A, you can no longer contribute to your Health Savings Account (HSA). This applies to both your contributions and any employer contributions. Furthermore, Part A is backdated six months, meaning you could be penalized for any HSA contributions made within the six months prior to enrolling in Medicare Part A. Ideally, you should stop all employee and employer HSA contributions six months before enrolling in Medicare Part A or collecting Social Security.
To correct excess contributions, you can request a withdrawal of the excess funds from your HSA custodian without penalty. If you don't remove them and have already filed your taxes, you could be subject to a 6% excise penalty on the excess contributions until they are removed.
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So, even if you could collect your Social Security benefits at your full retirement age without any benefit reduction while still working, it could eliminate your ability to contribute to your HSA. While you don't lose your existing HSA funds, you lose the opportunity for future tax-deductible contributions and any employer contributions. If you enroll in Medicare Part A and your employer contributes to your HSA, notify them, preferably six months prior to enrollment, so they can cease their contributions.
Revisiting Kathy, her employer contributes $1,500 annually to her HSA, and she contributes $2,000. If she begins collecting Social Security next month (June), she would forfeit the employer contribution and her own contributions starting in June. She would also need to remove the past six months of contributions (both hers and her employer's) or face a 6% excise penalty.
Kathy's husband waited until age 70 to collect his benefits and is five years older than her, ensuring she will receive the maximum survivor benefit if she outlives him. Her decision to collect her own benefits should be based on what is best for her. If she collects $1,800 per month starting in June, one strategy could be to apply for benefits in June, making her Medicare Part A effective on July 1st (Medicare Part A becomes effective on the first day of the month following enrollment). If she then removed all HSA contributions for this year, she wouldn't face the six-month 6% excise tax.
Alternatively, she could delay her Social Security enrollment longer and make a prorated contribution to her HSA. The annual HSA contribution limit is divided by 12 to determine the monthly contribution amount. For Kathy, with the family health plan and the $1,000 catch-up contribution, her total HSA limit for 2025 is $9,550, or $795.83 per month. If she chose to start collecting Social Security on January 1st of next year, she could contribute $4,775 to her HSA in 2025.
Mistake #3: Accidentally Enrolling in Medicare Part B
If you plan to continue working and collecting Social Security past age 65, and wish to remain on your employer's health plan, this is generally not an issue if your employer has 20 or more employees. In such cases, your employer's medical insurance will remain your primary insurance. You typically won't want to enroll in Medicare Part B for a few reasons:
Cost: Medicare Part B is not free; the standard premium is currently $185 per month and can be higher based on your income. You don't want to pay for coverage you don't need.
Redundancy: Even if you think Part B will provide additional coverage on top of your company medical insurance, this is incorrect. Your employer coverage will always be your primary insurance, and Medicare Part B will not pay anything. Medicare will only become your primary insurance once you are no longer covered by an employer health plan with 20 or more employees. You would essentially be paying for something you cannot use.
Initial Enrollment Period: Enrolling in Part B also triggers the six-month initial enrollment period, during which you can elect a Medigap plan without underwriting for pre-existing conditions. After this period, you could be denied Medigap coverage due to pre-existing conditions.
Once you enroll in Social Security, you usually receive a letter asking if you want to enroll in Part B. If you do not wish to enroll, simply complete and return the form indicating your refusal.
Kathy and her husband were concerned that she and her husband would not be able to remain on her employer's health plan if she started collecting Social Security and went on Medicare Part A. However, this is not a concern; they can remain on the health plan, although she will no longer be able to contribute to her HSA. Enrolling in Medicare Part A does not terminate your employer's health plan.
Mistake #4: Not Withholding Taxes on Your Social Security Payment
For most individuals, especially those who are working and collecting Social Security, Social Security benefits are taxable income. This means you will owe income taxes on that money. While you can pay any owed taxes when you file your annual return, this could subject you to tax penalties.
It's advisable to consult with your accountant or financial advisor (if they have tax expertise) to determine the likely tax liability on your Social Security income. You then have the option to have federal taxes withheld from each payment you receive. This can be done by completing Form W-4V, the Voluntary Withholding Request Form. You can choose from four withholding percentages: 7%, 10%, 12%, or 22%, to have these amounts withheld from each payment before you receive it.
Alternatively, you can pay quarterly estimated taxes or increase the withholding on other income sources to account for the additional income tax you may owe on your Social Security benefits.
If Kathy begins collecting Social Security this year, we will review her and her husband's projected income to determine the appropriate amount of tax withholding. Our goal is for them to owe less than $1,000 in state or federal income tax to avoid penalties. We will then devise a strategy for where to withhold this income tax. One crucial point to remember is that Social Security does not allow you to withhold state income tax. If you will owe state income tax on your benefits, you would need to have it withheld from another income source or submit quarterly estimated taxes to your state.
Making informed decisions about collecting Social Security while working is crucial for a successful financial future. By avoiding these common mistakes, you can optimize your benefits and navigate this important transition effectively.
If you have a question or topic that you’d like to have considered for a future episode/blog post, you can request it by going to www.retirewithryan.com and clicking on ask a question.
As always, have a great day, a better week, and I look forward to talking with you on the next blog post, podcast, YouTube video, or wherever we have the pleasure of connecting!
Written by Ryan Morrissey
Founder & CEO of Morrissey Wealth Management
Host of the Retire with Ryan Podcast