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Your pension might reduce the Social Security benefits that your adult child receives

My own children as well as some of the students that I teach are getting excited for Halloween. Besides free candy, the attraction of Halloween is the chance, for a day, to create mystery, surrounding your identity. You might be a typical little-league-and-piano-playing-third-grader or a homework-doing-swim-team-practicing seventh grader, but on Halloween, you can be a notorious (and even dead) world leader, a multi-platinum rock star, a famous professional sports player, or even a Roswell alien. If you are really clever, no one (including your friends) will guess who you are or how you put together such a fab costume. Mystery and not-knowing are fun, when it comes to Halloween and surprise birthday parties, but not fun, when it comes to Social Security benefits that you count on for funding your retirement or part of the living expenses for your adult child with a disability. For some people, avoiding that mystery and surprise requires delving into some of the lesser-known provisions of the Social Security code, such as the Windfall Elimination Provision, abbreviated, as all things in the Social Security world must be as “WEP”. (photo courtesy of Yogurt via Unsplash).

WEP may apply, when a person who is entitled to Social Security Disability Insurance Benefits or Retirement benefits, is also entitled to a pension from non-covered employment. Non-covered employment is employment in which the worker was not required to pay Social Security tax (also known as Federal Insurance Contribution Act or “FICA” taxes). Teaching in the public school system and working for government agencies are frequently examples of non-covered employment. The WEP reduces the worker’s Primary Insurance Amount or PIA. The PIA is calculated by applying certain percentage rates to traunches of a worker’s Average Indexed Monthly Earnings (AIME). For 2021, the basic PIA calculation is as follows:

  • 90% of the first $996 of a worker’s AIME plus

  • 32% of the AIME amount over $996 but not over $6002

  • 15% of the AIME amount over $6002

The WEP reduces the percentage, applied to the first portion from 90% to between 85% and 40%. The exact amount of reduction depends on how many of the years in which the worker was paying FICA tax produced what Social Security considers “substantial earnings”. In general, a worker’s disability benefit as well as her/his full-retirement-age (FRA) benefit is equal to that worker’s PIA, so the WEP serves effectively to reduce the worker’s disability or retirement benefits payable. This remains true, even when the worker delays collecting retirement benefits until s/he is above her/his full retirement age because the credits given for such a delay are still based on the PIA.

In addition, auxiliary benefits, such as spousal benefits, benefits paid to minor children, and benefits paid to adult children with disabilities—called “Childhood Disability Benefits” (“CDB”) or “Disabled Adult Child” (“DAC”) benefits--are calculated on the PIA as is the family maximum that limits the amount that all the auxiliaries, claiming on the same work record, can be paid. In effect, then, the WEP can potentially reduce not only the disability or retirement benefit of the worker who receives the pension, but also the benefits of any auxiliary, including an adult child with a disability, who is also paid on that work record. For an adult child with a disability, who either does not work or who does not have a significant work income, these CDB/DAC benefits may contribute a disproportionately significant amount of her/his income. So, it is important that parents, who have non-covered employment, understand the specific rules of WEP.

Some pension plans are defined benefit (DB) plans. In these plans, a specific formula, generally based on years of service, is applied to a certain average of the worker’s salary, while in service to calculate a definite amount that will be paid to the worker during each month of retirement. An example of a simple pension formula would be an average annual salary for the five highest-earning years X 1.5% X the number of years of service. Typically, DB plans are funded entirely by the employer. Therefore, DB plans generate WEP. Defined contribution (DC) plans are generally funded by a combination of employee contributions (deferred compensation) and employer contributions. DC plans, such as 457 plans, may be considered a pension, and may generate WEP if the following things are true:

  • The plan is a benefit for an employment position that is not covered; that is, the employee pays no FICA tax on those earnings and…

  • The plan is the primary retirement plan for that position or…

  • The plan is not the primary retirement plan for the position, but it does include employer as well as employee contributions.

Some non-covered workers are exempt from WEP reductions. These are workers, who (in addition to the non-covered work that is generating the pension), also have 30 years of covered work that is substantial. The chart found in this publication shows the amount of covered work that the Social Security Administration considers “substantial” for each year since 1937. For 2021, covered work is substantial if it generates in $26,550 or more of income. Workers, who have between 21 and 29 years of substantial covered work, are partially exempt from the WEP reduction. That is why the WEP calculation may apply a percentage as high as 85% to the first traunche of the workers AIME or a percentage as low as 40%.

WEP applies when the pension and the Social Security benefit are attributable to the same worker. If a worker is eligible for a pension based on her/his own non-covered work at the same time that s/he is eligible for a Social Security spousal benefit based on her/his spouse’s work record; then the spousal benefit may be subject to a different reduction, known as the Government Pension Offset or GPO. The impact of the GPO is limited to potentially reducing the spousal benefit.

If you have a mixed-employment history that includes both covered and non-covered work and if you are eligible or will be eligible for a pension based on your non-covered work, you will want to understand and anticipate the impact the WEP could have not only on your Social Security benefits, but also on those of any auxiliary, including an adult child with a disability, who can claim benefits on your work record. When it comes to Social Security benefits, none of us wants any mystery or surprise around what we and our loved ones will receive. As for Halloween, though, knock yourself out in the costuming department!

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