Why You Can't Believe Your Social Security Statement

It's a wonderful feeling to pull up your Social Security statement online and see how much money you'll be getting in benefits each month once you retire. There's just one problem: The benefit amount on your statement is probably wrong, and if you're more than a few years from retirement, it's probably very wrong.

Anyone who has earned enough work credits to qualify for Social Security benefits (it takes 40 credits, which for most people means 10 years of work) can view their Social Security statement online. This statement includes estimates of the benefits you'll receive if you retire at your full retirement age, at age 70, or at age 62; the amount you'd get in disability benefits if you became disabled now; and the amount your family would get in survivor benefits if you died this year.

Because the disability benefit and survivor benefit numbers are based on current information, they're accurate (at least for today; in a year or two, those numbers may have changed). However, the retirement benefits are estimated based on your earnings record up to the previous year.

How the statement calculates retirement benefits

To calculate your Social Security benefits, the Social Security Administration calculates your average inflation-adjusted income from the 35 years in which you earned the most, divides it by 12 to determine your "average indexed monthly earnings" (AIME), and then plugs your AIME into a formula to determine your benefit amount. But the agency doesn't have access to a crystal ball, so it has no idea how much you'll earn in future years. So, to come up with the estimated benefit that you see on your statement, the agency assumes you will earn exactly the same amount you earned last year until the day you retire.

Factors that can affect your benefits

Because the benefit estimate on your Social Security statement is based on pretty dubious guesswork, you need to take those numbers with a grain of salt. And the further you are from your planned retirement date, the less reliable those numbers are. The most likely factor to change your benefits would be a change in your wages. Should your salary rise or fall, your benefits could rise or fall along with it.

But your earnings aren't the only potential wild card. You've likely heard that Social Security is on shaky financial footing at this point. Because the retirees taking Social Security benefits have begun to outnumber the workers paying Social Security payroll taxes, the program will soon be running at a deficit. If nothing changes, then by 2035, Social Security benefits will have to be cut by 21%. To see how that would affect you, multiply the number on your Social Security statement by 79%; that's how much money you'd actually get each month under this scenario.

Will Social Security really go broke?

If lawmakers do nothing to make Social Security sustainable, Social Security will not disappear completely. After all, workers will continue to pay Social Security taxes, which will in turn fund benefits. The problem is that there won't be enough in taxes coming into pay for all the benefits that Social Security has promised to pay, so the agency would have to reduce (but not eliminate) benefit checks.

However, it's unlikely that legislators will just leave the Social Security system untouched until 2035. Both major political parties have proposed different ways to fix Social Security, most of which involve increasing Social Security taxes, decreasing benefits -- either directly or through any number of indirect ways -- or some combination of the two. In any case, you'd be wise to assume that your benefits will be at least a little smaller than your Social Security statement claims.

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