Some public employees face Social Security hurdles

There are about 2,700 different rules that govern Social Security benefits, but two of them stand out as the most confusing and unfair — at least according to the subset of workers and family members who are subject to them. About a quarter of employees of state and local governments — including public school teachers, first responders and civil servants in select states — as well as federal employees hired before 1984 do not pay FICA taxes on their earnings and therefore do not qualify for Social Security benefits. But many of them are eligible for Social Security benefits based on their work in the private sector or as a spouse or surviving spouse of a worker who is entitled to benefits. In many cases, retirees and their financial advisers are shocked to discover that those Social Security benefits can be reduced or even eliminated if those retirees also receive a public pension based on work where they did not pay FICA taxes. The Windfall Elimination Provision applies to workers with non-covered public pensions who also worked at least 10 years in the private sector and are eligible for Social Security benefits on their own earnings record. A good way to remember this rule is to focus on the "w" as in worker and windfall. The WEP can reduce such workers' Social Security benefits by up to half of the amount of their pension, but by no more than $447.50 per month in 2018. For example, if a retired public employee receives a pension of $3,000 a month and is entitled to a Social Security benefit of $1,000 per month, his Social Security benefit would be reduced by the maximum $447.50 to $552.50 per month. A separate rule — the Government Pension Offset (GPO) — applies to spouses and widows or widowers, as well as ex-spouses and surviving ex-spouses, who were married at least 10 years before divorcing (and who did not remarry before age 60). The GPO can reduce a Social Security spousal or survivor benefit by two-thirds of the amount of the government pension, with no dollar limit. So if a retired public school teacher in one of the 15 affected states has a pension of $3,000 per month, her potential Social Security spousal or survivor benefit could be reduced by $2,000 per month (two-thirds of $3,000). That would wipe out any spousal benefit and significantly reduce or even eliminate most survivor benefits. A spousal benefit is worth up to 50% of a worker's full retirement age benefit amount if the spouse claims it at full retirement age or later. A survivor benefit is worth up to 100% of what the deceased worker was collecting or entitled to collect at time of death, including any delayed retirement credits, if the surviving spouse is at least full retirement age. There are a dozen states where public employees are not covered by Social Security: Alaska, California, Colorado, Connecticut, Illinois, Louisiana, Maine, Massachusetts, Missouri, Nevada, Ohio and Texas. In addition, employees of certain local governments in Georgia, Kentucky and Rhode Island do not participate in Social Security. Federal employees hired before 1984 who participate in the Civil Service Retirement System are also affected by WEP and GPO rules. So are people who receive a pension from an employer in a foreign country. Federal employees hired after the Social Security reform legislation of 1983 pay FICA taxes as part of the Federal Employees Retirement System and are not affected by the WEP reductions. Neither are railroad retirees whose only pension is from railroad employment. The triggering factor for benefit reductions is the receipt of a non-covered pension, so it is possible for someone to claim unreduced Social Security benefits first and reduced benefits later once their pension begins. And don't think you can skirt the rules by collecting the pension in a lump sum. The Social Security Administration will calculate the annuity value of the pension and apply the offsets accordingly. There are some escape hatches to these offset rules, including working longer and paying FICA taxes at the end of a public service career. Workers with 30 or more years of "substantial earnings" subject to Social Security payroll taxes can avoid the WEP completely, and the WEP impact is reduced for workers with 21 to 29 years of substantial earnings. In 2018, substantial earnings are defined as $23,850 or more. Those with fewer than 20 years of substantial earnings feel the full impact of the WEP reduction on their Social Security benefits. The GPO reduces Social Security spousal and survivor benefits only if you receive a retirement or disability pension from a federal, state or local government based on your own work where you didn't pay Social Security taxes. The GPO does not apply if you receive a government pension as a spouse or surviving spouse that is based on someone else's earnings. There is another important exception to the GPO rule: Reductions do not apply to federal, state or local government employees who paid Social Security taxes on their earnings during the last 60 months of government service.