How Social Security Is Calculated
Social Security can look complicated because the Social Security Administration (SSA) does not simply take your last salary and multiply it by a percentage. Your benefit is based on decades of covered earnings, wage indexing, your highest 35 earning years, a benefit formula, and the age when you claim.
But calculating your Social Security benefit is only half the job. Once you know approximately what Social Security will pay at ages 62, full retirement age, and 70, you need to compare those amounts with what it actually costs to maintain your lifestyle.
If you are earning or spending $10,000 per month before retirement and Social Security will replace only $5,000 per month, you still have a $5,000 monthly retirement-income gap. That is the number you have to solve for.
One way to do that is to reverse-engineer an annuity capable of generating the missing income for life. Social Security then becomes the first layer of guaranteed retirement income, while the annuity becomes the second. The objective is not merely to retire. The objective is to build enough dependable income that you are still financially comfortable at 75, 80, 85, or 90, when healthcare and long-term-care expenses may become substantially more important.
The Quick Version: How Social Security Is Calculated
- Review your Social Security earnings history.
- Index your past covered earnings for wage growth.
- Select your highest 35 years of indexed earnings.
- Calculate your Average Indexed Monthly Earnings, or AIME.
- Apply Social Security’s benefit formula to determine your Primary Insurance Amount, or PIA.
Your PIA is essentially the starting point for the retirement benefit payable at your full retirement age. Your actual monthly benefit can then be lower if you claim before full retirement age or higher if you delay beyond full retirement age.
For people born in 1960 or later, full retirement age is 67. Claiming at 62 can reduce a worker’s benefit by approximately 30% compared with claiming at 67. Waiting from age 67 until age 70 can increase the retirement benefit through delayed retirement credits. There is no additional delayed-retirement-credit increase for waiting beyond age 70.
Step 1: Get Your Social Security Earnings Record
Before calculating anything manually, start with your actual earnings history. Create or sign in to your My Social Security Account and review your reported earnings. You can also use the SSA estimates and calculators to compare potential benefits at different claiming ages.
Look carefully for missing years, incorrect earnings, years showing zero income when you actually worked, or earnings that appear substantially lower than your records. Your benefit is calculated from the earnings SSA has on file, so an error in that history could affect the calculation.
Step 2: Index Your Earnings
SSA adjusts earlier earnings to account for changes in nationwide wage levels. For retirement benefits, earnings are generally indexed to the national average wage level from the year you turn 60. Earnings from age 60 and later are generally used at their actual amount rather than being wage-indexed upward.
This matters because earning $30,000 decades ago does not have the same economic meaning as earning $30,000 today. Wage indexing attempts to put earnings from different stages of your career on a more comparable basis.
Step 3: Take Your Highest 35 Years and Calculate AIME
SSA takes your 35 highest years of indexed earnings and uses them to calculate your benefit. If you do not have 35 years of earnings, zero-earning years can be included in the calculation. Those zeros can pull down your average.
That is why continuing to work can sometimes increase Social Security even later in your career. If a new higher-income year replaces one of the lower earning years in your 35-year record, your benefit calculation can improve.
Add your highest 35 years of indexed earnings and divide that total by 420 months. The resulting number, after SSA’s applicable rounding rules, is your Average Indexed Monthly Earnings, or AIME.
AIME does not equal your Social Security check. AIME is the income figure that gets plugged into the Social Security benefit formula.
Step 4: Apply the 2026 PIA Formula
For a worker first eligible for retirement benefits in 2026, the PIA formula uses two bend points: $1,286 and $7,749.
- 90% of the first $1,286 of AIME
- Plus 32% of AIME between $1,286 and $7,749
- Plus 15% of AIME above $7,749
The result becomes the worker’s Primary Insurance Amount, or PIA, subject to SSA’s calculation and rounding rules.
This formula is deliberately progressive. Social Security replaces a greater percentage of career earnings for lower-wage workers than it does for higher earners.
Important 2026 Social Security Numbers
- 2026 COLA: 2.8%
- Maximum earnings subject to Social Security tax: $184,500
- 2026 earnings-test limit if under full retirement age all year: $24,480
- 2026 earnings-test limit in the year full retirement age is reached: $65,160
- First PIA bend point: $1,286
- Second PIA bend point: $7,749
For someone with the earnings history necessary to qualify for the maximum benefit and retiring in 2026, the maximum monthly retirement benefit can vary substantially depending on claiming age. Your own benefit may be much lower depending on your earnings history, so use your actual Social Security record rather than assuming the maximum applies to you.
Step 5: Adjust for When You Claim
Claiming at Age 62
Age 62 is generally the earliest age you can claim your own retirement benefit. For someone whose full retirement age is 67, claiming at 62 can result in about a 30% reduction compared with the full-retirement-age benefit.
Pros: Income begins earlier, it can help if you cannot continue working, and it may reduce withdrawals from other assets during the early retirement years.
Cons: You lock in a lower starting retirement benefit, which can become more painful later in retirement. The retirement earnings test can also apply if you continue working before full retirement age.
Who could benefit: Someone with poor health, limited life expectancy, an immediate cash-flow need, or no practical way to bridge the years until full retirement age.
Who might not benefit: Someone with enough savings or employment income to delay, especially if longevity runs in the family and maximizing guaranteed lifetime income is a priority.
Claiming at Full Retirement Age
For people born in 1960 or later, full retirement age is 67. This can be a reasonable middle ground for someone who cannot or does not want to delay until 70.
Pros: There is no early-claiming reduction, and the retirement earnings test no longer applies beginning with the month you reach full retirement age.
Cons: Your monthly benefit will still be lower than it would be if you delayed until age 70, and you need another source of income if you stop working before 67.
Who could benefit: Retirees who want the full PIA without waiting three more years and who have enough income or assets to reach full retirement age.
Who might not benefit: Someone who can comfortably delay to 70 and wants to maximize the monthly Social Security benefit available through delayed retirement credits.
Claiming at Age 70
For many retirees who have the financial ability to wait, age 70 deserves serious consideration because delaying beyond full retirement age can increase the monthly retirement benefit through delayed retirement credits. There is no additional delayed-retirement-credit increase after age 70.
Pros: You create a larger guaranteed lifetime-income foundation, which can be especially valuable if you live a long life and face rising healthcare or living expenses later.
Cons: You give up payments you could have received earlier, and you need income from work, savings, investments, pensions, or annuities while delaying.
Who could benefit: Healthy retirees with longevity in the family, sufficient bridge assets, and a strong preference for maximizing lifetime guaranteed income.
Who might not benefit: Someone with seriously impaired health, shortened life expectancy, or an immediate income need that cannot reasonably be covered elsewhere.
The Retirement Earnings Test
If you claim Social Security before full retirement age and continue working, the retirement earnings test can temporarily withhold benefits. In 2026, if you are under full retirement age for the entire year, SSA generally withholds $1 of benefits for every $2 of earnings above $24,480.
During the year you reach full retirement age, SSA generally withholds $1 for every $3 earned above $65,160, counting earnings before the month you reach full retirement age. Beginning with the month you reach full retirement age, the earnings test no longer applies. SSA later recalculates benefits to credit months when benefits were withheld because of excess earnings.
WEP and GPO Have Been Repealed
This is a major change for teachers, government workers, police officers, firefighters, and other workers who may receive pensions from employment that did not participate in Social Security. The Windfall Elimination Provision (WEP) and Government Pension Offset (GPO) were repealed by law. People previously affected by these rules should not rely on older retirement estimates that still assume WEP or GPO reductions apply.
Once You Know Your Social Security Benefit, Calculate Your Income Gap
This is the part retirees frequently overlook. Do not stop when SSA tells you what your check will be. Compare it with your lifestyle and your actual monthly cash-flow needs. You can also use our Social Security calculators as part of that process.
Suppose you are currently bringing home or spending approximately $10,000 per month. You estimate Social Security at your chosen retirement age will provide $5,000 per month. Your retirement-income shortfall is therefore $5,000 per month, or $60,000 per year.
Now you have a specific problem to solve. Instead of saying, “I think I have enough saved,” you can ask how much money you need today to generate another $60,000 per year for the rest of your life.
Using an Annuity to Build the Second Layer of Retirement Income
Annuities can be used to create a second layer of retirement income when Social Security and pensions do not cover your monthly expenses. A fixed or fixed-indexed annuity with a Guaranteed Lifetime Withdrawal Benefit, or GLWB, can be structured to provide contractually guaranteed withdrawals for life, assuming the contract requirements are followed.
The primary reason to consider this strategy is not investment performance. It is longevity protection: transferring part of the risk of living longer than expected to an insurance company. Depending on the design, annuities can provide steady payments for life, helping you build an income foundation that does not depend entirely on selling investments during favorable market conditions.
A Simple Income-Gap Example
- Social Security: $5,000 per month
- Annuity GLWB: $5,000 per month
- Total retirement income: $10,000 per month
Now the retiree has replaced the $10,000-per-month cash flow used during the working years with two sources designed to continue for life. Depending on the policy, a joint-life income option can continue covered income for as long as either covered spouse is living.
Many deferred annuities can also retain an account value, provide contract-defined liquidity, and pass remaining contract value to beneficiaries. However, the death benefit is not the same thing as the lifetime-income guarantee. If withdrawals eventually reduce the account value to zero, there may be no remaining account value to inherit even though the income rider continues paying lifetime income. Read the actual contract.
Why Consider an Annuity?
Pros: An annuity can create predictable lifetime income, offer single-life or joint-life options, reduce direct exposure of that income stream to stock-market losses in fixed and fixed-indexed designs, and help address the risk of outliving savings. Some contracts can also retain a beneficiary value and limited liquidity.
Cons: Income riders may have fees, surrender charges can limit early access, withdrawals beyond contract limits can reduce guarantees, and not every annuity offers attractive payout economics. Guarantees also depend on the claims-paying ability of the issuing insurer.
Who could benefit: Someone without a traditional pension, a retiree with a meaningful gap between Social Security and essential expenses, a married couple wanting joint lifetime income, or someone who does not want every necessary expense dependent on portfolio performance.
Who might not benefit: Someone whose Social Security and pension already cover essential expenses, someone who needs maximum short-term liquidity, or a retiree with enough assets and risk tolerance to comfortably self-fund longevity risk.
How to Reverse-Engineer the Annuity
Do not begin by asking, “Where should I put $500,000?” Start by asking, “How much guaranteed income do I actually need?” If your shortfall is $60,000 annually, compare annuity quotes based on the amount of premium required to generate that income.
- Current age
- Age income will begin
- Single-life versus joint-life income
- Level versus increasing income
- Premium required to generate the target income
- Rider costs
- Liquidity and surrender period
- Death-benefit provisions
- Financial strength of the insurer
The amount of time between the purchase date and the income-start date can materially affect future guaranteed income, depending on the contract. That is why someone several years from retirement may want to compare income annuities before the day income is actually needed.
Other Ways to Fill the Social Security Income Gap
An annuity is not the only solution. You can combine several strategies depending on your goals, risk tolerance, tax situation, liquidity needs, and life expectancy.
Delay Social Security
Use employment, savings, investments, or other income while delaying your Social Security claim.
Pros: A higher eventual Social Security check and a larger guaranteed lifetime-income base.
Cons: You need another source of cash flow while delaying, and the strategy may be less attractive for someone with a significantly shortened life expectancy.
Who could benefit: Healthy retirees with sufficient bridge assets. Who might not benefit: Someone who needs income immediately or has serious health concerns.
Continue Working
Working longer can provide wages, allow more time to save, delay portfolio withdrawals, and potentially replace lower earning years in the Social Security calculation.
Pros: More savings time, potentially higher Social Security, and fewer years the portfolio must support. Cons: You have to keep working, and health or job availability may make that impossible.
Who could benefit: Someone who enjoys working or needs additional accumulation years. Who might not benefit: Someone whose health, caregiving responsibilities, or employment options make continued work unrealistic.
Portfolio Withdrawals
Stocks, bonds, mutual funds, and ETFs can provide flexible retirement withdrawals and long-term growth potential.
Pros: Liquidity, control, growth potential, and easier access to capital. Cons: Market risk, sequence-of-returns risk, and no inherent guarantee that the money will last for life.
Who could benefit: Retirees with substantial assets, flexibility, and tolerance for market volatility. Who might not benefit: Someone who becomes anxious when essential monthly expenses depend on investment performance.
CD or Treasury Ladders
A ladder can create predictable maturities that fund near-term spending while preserving liquidity better than many long-term insurance contracts.
Pros: Predictable maturities and useful short-term cash-flow planning. Cons: Reinvestment risk and no built-in lifetime-income guarantee.
Who could benefit: Retirees who want a conservative bridge strategy or emergency reserve. Who might not benefit: Someone specifically trying to insure against living far longer than expected.
Protect the Surviving Spouse With Life Insurance
Retirement-income planning should also answer a second question: what happens financially when the first spouse dies? A couple may be comfortable while both Social Security benefits are being received, but a surviving spouse generally cannot simply continue receiving two full retirement checks indefinitely. Survivor rules determine what remains payable.
Life insurance can provide a lump-sum death benefit that can help replace lost income, pay debts, cover final expenses, provide money for children, or protect a surviving spouse’s retirement.
Pros: Immediate liquidity at death, income replacement, debt payoff, and legacy planning. Cons: Premium cost, underwriting, and the possibility of paying for coverage that is no longer needed later.
Who could benefit: Couples where one spouse would face an income shortfall after the other’s death, parents with financially dependent children, or families with debt or legacy goals. Who might not benefit: Someone who is fully self-insured and whose surviving family would remain financially secure without additional death-benefit protection.
Long-Term Care Insurance Protects a Different Risk
Long-term care is a separate retirement risk. Many people eventually need some form of help with activities of daily living, whether care is provided at home, in assisted living, memory care, or a nursing facility. The financial impact can be substantial and can place pressure on the surviving spouse, children, and the retirement portfolio.
Medicare Is Not Long-Term Care Insurance
Medicare can cover qualifying skilled nursing and home-health services under specific circumstances, but it generally does not pay indefinitely for custodial long-term care simply because someone needs help with bathing, dressing, eating, toileting, or other activities of daily living.
Medicaid Is Not the Same as Medicare
Medicaid is an important payer of long-term services and supports, including nursing-facility care, but eligibility is based on state-specific financial and other requirements. Saying you must literally “go broke” is too simplistic, because state rules can include protections and planning provisions for spouses, homes, income, and certain assets. However, people who want to preserve more control over their assets and care choices should not automatically treat Medicaid as their entire long-term-care plan.
Traditional Long-Term Care Insurance
Traditional long-term care insurance is designed specifically to provide benefits for qualifying long-term-care expenses.
Pros: Strong long-term-care-specific leverage and the ability to protect retirement assets from a major care event. Cons: Premiums can be significant, underwriting becomes harder as health deteriorates, and some policy premiums may increase subject to policy terms and regulatory approval.
Who could benefit: Healthy people who want to transfer a meaningful portion of future care risk to an insurer. Who might not benefit: Someone who can comfortably self-fund care or who cannot medically qualify.
Hybrid Life Insurance With Long-Term Care Benefits
Hybrid policies combine life insurance with long-term-care benefits, giving the policy value whether care is needed or not, subject to the contract.
Pros: If qualifying care is needed, benefits may be available during life; if care is never needed, a death benefit may still remain. Cons: Premiums can be larger than basic life insurance, and using benefits for care generally reduces what remains for beneficiaries.
Who could benefit: Someone who dislikes the “use it or lose it” perception of traditional long-term care insurance and also has a permanent life insurance need. Who might not benefit: Someone whose only goal is maximizing long-term-care coverage per premium dollar.
Long-Term Care Annuities and Chronic Illness Riders
Certain annuities and life insurance policies offer enhanced benefits for qualifying long-term-care or chronic-illness needs. These can be useful when you already have assets that could be repositioned for future care expenses.
Pros: Can combine asset accumulation, income, death benefits, or care benefits in one contract. Cons: Qualification triggers, benefit multipliers, underwriting, liquidity, inflation protection, and policy costs vary substantially by product.
Who could benefit: Someone who wants multiple uses for the same pool of money. Who might not benefit: Someone who needs maximum liquidity or who can obtain stronger stand-alone long-term-care coverage elsewhere.
Why Delaying Social Security Can Matter More Later Than It Does Today
Someone at 62 may look at an extra Social Security payment and think, “I want the money now.” But retirement planning should not only solve today’s problem. Think about what your finances could look like 15 or 20 years from now.
- Higher healthcare expenses
- Higher housing and insurance costs
- Long-term-care expenses
- The death of a spouse
- Reduced household Social Security income
- Inflation reducing purchasing power
- Fewer opportunities to return to work
Waiting until 70 is not right for everybody. But if you have the assets and health circumstances that allow you to delay, increasing the guaranteed Social Security income you will receive for the rest of your life deserves serious consideration. You can then use an annuity to fill whatever portion of your lifestyle Social Security does not replace. This can also help reduce reliance on market withdrawals if you are concerned about a future Social Security shortfall or want to protect retirement income beyond Social Security.
What We Recommend
Start with the income, not the investment product. First determine what maintaining your lifestyle actually requires, then build your retirement-income plan around the difference between that target and your guaranteed income sources.
- Calculate Social Security at 62, full retirement age, and 70. Do not rely solely on a single estimate.
- Determine how much monthly income you want in retirement. If you live on $10,000 per month today, determine whether $10,000 is still the appropriate retirement target.
- Subtract Social Security and pensions. If guaranteed sources provide $5,000, your gap is $5,000.
- Reverse-engineer an annuity to cover some or all of the remaining gap. Instead of guessing how much to invest, determine the amount of capital required to generate the desired contractual lifetime income.
- Protect both spouses. Compare joint-life annuity income and Social Security survivor benefits. Add life insurance when losing one person’s income would leave the survivor financially vulnerable.
- Plan separately for long-term care. Social Security is retirement income. Medicare is health insurance. Neither should be mistaken for comprehensive long-term-care insurance.
- Keep liquidity outside the annuity. Do not put every available dollar into an income annuity. Maintain appropriate emergency reserves and liquid investments.
The objective is an income foundation: Social Security + pension income + guaranteed annuity income = essential retirement expenses covered for life. Growth assets can then be used for inflation, discretionary spending, emergencies, and legacy goals instead of being forced to generate every dollar needed to pay essential bills.
How The Annuity Expert Can Help
At The Annuity Expert, we can help you compare Social Security timing with annuity income options and determine approximately how much money would be required to fill your retirement-income gap. If Social Security will provide $5,000 per month but you need $10,000, the goal is to compare insurers and determine what it would take to contractually generate the remaining $5,000 per month for life.
We can compare level lifetime income, increasing lifetime income, joint versus single-life income, fixed and fixed-indexed annuities, Guaranteed Lifetime Withdrawal Benefits, life insurance, traditional and hybrid long-term-care insurance, and other retirement planning strategies.
Use our retirement and annuity calculators to estimate what you may need, then compare actual income quotes before making a decision. An annuity should solve a specific income problem, not simply give you another financial product to own.
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