If you will receive a pension in retirement, you may not be aware that your Social Security benefit may be reduced as a result. The Windfall Elimination Provision (WEP) was endorsed as part of the Social Security Amendments of 1983. Its targeted goal was to eliminate the potential windfall in Social Security benefits that a covered employee would receive if the employee is also due a pension from non-covered work, such as teachers and local government employees. This reduction is often unexpected. Workers often overestimate their retirement income because this reduction in benefits can be substantial.
On page 2 of a Social Security Statement, you will find the following paragraph that addresses WEP:
If you receive a pension from employment in which you did not pay Social Security taxes and you also qualify for your own Social Security retirement or disability benefit, your Social Security benefit may be reduced, but not eliminated, by WEP. The amount of the reduction, if any, depends on your earnings and number of years in jobs in which you paid Social Security taxes, and the year you are age 62 or become disabled.
The reasoning behind WEP is that Social Security pays lower-income workers a disproportionately higher percentage of benefits than higher-income workers. Without WEP, a higher-income worker, who has worked the majority of his career in a non-covered government job and is due to receive a government pension, could be classified as a low-income worker for purposes of Social Security benefits because of covered employment earlier in his career. In this situation, the worker would receive Social Security benefits at the maximum payout percentage. However, with the Windfall Elimination Provision, the government pension is factored in and the Social Security benefits are paid out at a lower rate.
To illustrate the impact of WEP, consider the following example:
A teacher at a public high school should receive a pension of $30,000, annually, upon her retirement at age 66. Her Social Security statement indicates that she is due $736 in monthly benefits at her full retirement age of 66, based on covered earnings during her lifetime. However, because of the Windfall Elimination Provision, her Social Security benefits are recalculated and reduced to $373 (a reduction of $363). WEP factors in the teacher's pension, so she is no longer classified in the lower-income worker category. For 2010, the maximum reduction based on WEP is $381 monthly.
Bottom Line
As you can see, there are many factors that need to be considered when calculating your retirement income. The Windfall Elimination Provision is one that often surprises workers, as they do not realize their Social Security benefits will be reduced as a result of their pensions. If you are unsure about how all your retirement accounts and benefits will work together in retirement, consult a financial adviser. A financial adviser can look at the sources of your retirement income and any benefits you may receive, and give you a clearer picture on what you can expect when you retire. For more information on the Windfall Elimination Provision, please contact The Henssler Financial Group at 770-429-9166 or comments@henssler.com.
