Chances are advisors, particularly those in large states, have at least a few clients that are public workers, be they employees of the city or state. That’s a potentially expansive roster of clients because it includes firefighters, police officers, teachers and many more.
Advisors also know that such clients often receive defined benefit pensions, often generous in scope, upon retirement. So these clients have ready-made retirement savings and often have other traditional retirement accounts, meaning they’re highly receptive to professional advice.
These clients also need to be aware of issues that aren’t germane to others. Notably, advisors should be fluent in the Windfall Elimination Provision (WEP). In simple terms, WEP is a formula used by the Social Security Administration (SSA) to adjust non-covered pensions. Such pensions are prominent in the public sector and DO NOT withhold Social Security taxes.
“Congress passed the WEP to prevent workers who receive non-covered pensions from receiving higher Social Security benefits as if they were long-time, low-wage earners,” according to the SSA. “In 2020, the WEP applied to 3.0 percent of all beneficiaries (1.95 million beneficiaries out of 64.85 million total beneficiaries).”
That 1.95 million is certainly higher today, implying the probability an advisor is working with WEP-affected clients is also higher than it was four years ago.
Understanding How WEP Works
Clients receiving public pensions certainly know that Social Security taxes were taken from their pay checks. What many don’t realize is that while they paid into Social Security, their pensions likely provide greater benefits than Social Security and those perks likely far exceed what taxpayers, who partially funded those pensions, receive when working in the private sector.
As such, one of the aims of WEP is to bring some level of fairness to the Social Security benefits to workers eligible for non-covered pensions.
“The WEP calculation is applied before other benefit-adjustment calculations, such as early retirement reductions, delayed retirement credits and cost of living adjustments. The SSA guarantees that any reduction in the Social Security benefit amount caused by the WEP formula can never exceed more than one-half of the noncovered pension,” notes George Schein of Nationwide.
As Schein points out, the longer an employee eligible for a non-covered pension works, the less the effects of WEP are. Work of 20 years or more, and the impact of WEP declines. Go beyond 30 years and there’s essentially no impact to the retiree’s Social Security benefits.
Other Tips
Scheing offers up some other easy-to-implement ideas. One includes delaying taking Social Security. That doesn’t reduce the effects of WEP, but it does increase the overall benefit. In theory, delaying receipt of Social Security should be easier for clients with monthly pension payments rolling in.
It also pays for the advisor to be proactive. For an example, if an advisor has a 35-year-old teacher or 40-year-old police officer as a client, realize that if they’ve been in those roles since their early 20s, full pensions are likely less than 20 years away. So now is a good time to work WEP considerations into a broader retirement plan.
“It’s crucial to factor in the WEP when calculating a client’s expected Social Security benefit as part of a more comprehensive retirement plan, to educate clients about how it works, and what they can do to minimize its effects,” concludes Schein. “With careful planning and strategic decision-making, it’s possible to minimize the negative impacts of the WEP and maximize Social Security benefits.”
Related: Understanding the Confidence Gap in Women’s Financial Outlooks