Morningstar - Q3 2023 - 59

Szapiro: But what if the rules change? You've looked at
a bunch of proposals for reforming Social Security.
What did you find?
Look: We looked at actual proposals to reform
or change Social Security over the past 10 years
and concluded that delaying claiming Social
Security will likely remain the top lifetime
income strategy. The different proposals out there
in some way, shape, or form scale back benefits,
but they're not changing the adjustment
factors. That 8% delayed retirement credit was
still intact in these proposals, though you can
never say with certainty until something is
passed in Washington. There is less confidence in
Social Security, which is totally understandable
given what's going on. However, I think it's
very likely that any type of big change would be
phased in over a longer 30- or 40-year period.
Szapiro: Wade, you've done some work on combining
delaying Social Security and other lifetime income
strategies. How should advisors and near-retirees think
about this?
Pfau: I usually view Social Security as insurance:
an inflation-adjusted lifetime income with
a survivor benefit, so that the benefit for the higher
earner in a couple lasts for the joint lifetime
of the couple. That 8% delay credit was designed
in 1983 as part of the reforms at that time. They
were assuming a real interest rate of 2.9%,
whereas TIPS yields are much lower than that.
They're higher than they have been in the
past at this point, but still in a 1.4% range. And
people are living a lot longer now. In 1983, it was
supposed to be fair in the sense that it didn't
matter if you claimed at 62 or 70-if you lived to
your life expectancy, you'd have the same
lifetime benefits. But when you make that
calculation today in a lower-interest-rate world
with greater longevity, especially for the high
earner in a couple, the odds are really in favor of
benefiting by delaying Social Security.
But if I retire at 62 and I decide to wait until 70
to turn on the Social Security benefit, I now have
to spend more from my investments for the next
eight years. If I simply do that from my diversified
portfolio, I'm creating sequence-of-returns risk.
That creates a lot of stress for the portfolio. So, it's
very important to carve something out of the
portfolio and create a Social Security delay bridge.
There's always a concern that ...
complication obscures the effort of the insurance
company to take a disproportionate amount
of the benefits ...
Wade Pfau
One option is to build an eight-year CD ladder
or hold individual bonds. But given the tax deferral,
maybe I want to look at a period-certain
income annuity or a deferred fixed annuity, or
a multiyear guaranteed annuity.
Because the implied returns on delaying Social
Security are so strong, it reduces the distribution
pressure on the rest of those investments
after you've carved out that piece for the delay
bridge. Now, in the short term, you'd have
a bit less of a legacy if you didn't live to 70
because you were spending your investments
more quickly. But once you're living past
about age 80, you're going to leave more legacy
behind because so much more of your spending
is being covered through Social Security.
Watch Your Behavior
Szapiro: Let's dig into fixed index annuities with
guaranteed withdrawal benefits. Spencer, you've noted
some behavioral risks there.
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Morningstar - Q3 2023

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