Federal Laws Don’t Offer Clarity on Retirement Age

Workers who are confused about when to retire cannot look for clarity from Social Security, Medicare, and pension laws, because those three groups offer conflicting incentives to retire earlier or later than the traditional retirement age.

A new report from the Government Accountability Office (GAO) pointed out the availability of reduced Social Security benefits at age 62 provides an incentive to retire before the program’s age requirement for full retirement benefits; however, the gradual increase in this age from 65 to 67 provides an incentive for workers to wait to secure full benefits. In addition, the elimination of the Social Security earnings test in 2000 for those at or above their full retirement age also provides an incentive to work.

Medicare’s eligibility age of 65 continues to provide a strong incentive for those without retiree health insurance to wait until then to retire, but it can also be an incentive to retire before the full retirement age, the GAO study concluded. Finally, federal tax policy creates an indirect incentive to retire earlier by setting broad parameters for the ages at which retirement funds can be withdrawn from pensions without penalty.

The GAO found in its study that nearly half of workers report being fully retired before turning age 63 and that they have started drawing Social Security benefits at the earliest opportunity – age 62. However, evidence suggests small changes in this pattern now. Traditionally, some workers started benefits when they reached age 65, but recently, workers with full retirement ages after they turned 65 waited until those ages to start benefits, according to the report. Also, following the elimination of the earnings test, some evidence shows increased workforce participation among people at or above full retirement age.

Retiree health insurance and pension plans are strongly associated with when workers retire, according to the GAO analysis. After controlling for other influences such as income, GAO found that those with retiree health insurance were substantially more likely to retire before the Medicare eligibility age of 65 than those without. Men with defined benefit plans were more likely to retire before age 62 than those without, and both men and women with defined contribution plans were less likely to do so.

Because with defined contribution plans benefit levels depend on total employer and employee contributions and investment earnings, they do not offer the same age-related retirement incentive as defined benefit plans, the GAO said. In addition, since at retirement most DC plans allow people to receive the accumulated value of the funds in their account as a lump sum, individuals also bear the risk of outliving their resources. The fact that different people will make different contribution and investment decisions is likely to lead to a greater variability in retirement ages, GAO concluded.

The report pointed out the necessity of the analysis was driven by the fact that the age at which workers retire is important for the sake of their retirement income security, the cost of federal programs for the elderly, federal tax revenue, and the strength of the U.S. economy. For the report GAO assessed:

  • The incentives federal policies provide for when to retire,
  • Recent retirement patterns and whether there is evidence that changes in Social Security requirements have resulted in later retirements, and
  • Whether tax-favored private retiree health insurance and pension benefits influence when people retire.

“Ultimately, it will be important for policy makers to understand the incentive structures that their policies create, and to coordinate their decisions to allow for individual flexibility, but send signals that consistently encourage those who are able to continue working to do so,” GAO concluded in its report.

The GAO report is available at http://www.gao.gov/new.items/d07753.pdf.