Pros and Cons of Working in Retirement

For a variety of reasons – some financial, some having to do with personal fulfillment, many retirees are returning to work. In this article we will consider some of the pros and cons of working during retirement – including the impact on your retirement nest egg, your pension and other employer sponsored retirement plans as well as Social Security, and health insurance benefits.

The Pros and Cons of Working During Retirement

Are you still retired if you return to work? For an increasing number of retirees, working for a paycheck after retirement is not an option – they need the extra income. For others, working after retirement is a personal choice. Some retirees “don’t do retirement well” and find themselves bored after a few months. Whatever the reason, returning to work does have a practical impact on your finances that you need to take into account. Let’s take a look at how working after retirement impacts your retirement nest egg, Social Security, pension payments and your health benefits.

Your retirement nest egg – By working after retirement you can reduce the amount of income you need to take from your nest egg. This can be especially important if you retire during a bear (down) market. The combination of the drop in the value of your nest egg plus withdrawals to meet your living expenses can significantly shorten the expected life of your portfolio. Instead of lasting 25 or 30 years, you may find yourself running out of money in just 15 years or less depending on the severity of the bear market.

By earning a paycheck for a few years after retirement you can reduce the amount of income withdrawn from your nest egg. This can extend the life of your portfolio significantly. For example, if you retire and work part time earning just one-third of your pre-retirement salary for 5 years, you can extend the life of your portfolio by as much as 40% (i.e. in our example, from 20 years to 28 years).

Your Social Security benefits – If you retire before reaching your full Social Security retirement age, working may result in a reduction in benefits. When a worker retires they have the option of taking a reduced benefit as early as age 62. But if they return to work while taking the reduced benefit and before reaching their full retirement age (age 65 to 67 depending on the year you were born), the benefits may be reduced. In 2008 earnings above the threshold of $13,560 will result in the benefit reduction (the threshold increases each year). For every $2 you earn above $13,560 you will lose $1 in Social Security benefits. Note that special rules (and a higher dollar limit) apply in the year you reach your normal retirement age. Once your reach your full retirement age, there is no reduction for work earnings – no matter how much you earn. If your benefits had been reduced due to earnings over the threshold, you will be entitled to an increase in the month you reach full retirement age.

For purposes of the benefit reduction only earned income is taken into account – wages from work or from self employment (if you start your own business and have net earnings, your benefits may be reduced).

A second consideration is the amount of Social Security benefits subject to income taxes. As your income increases, more of your benefit is subject to Federal income taxes. For an individual, Social Security benefits are subject to income taxes if their income is over $25,000; for couples the threshold is $32,000. Earnings from work may push you over the threshold and deliver a double whammy – a loss of Social Security benefits and additional taxes on the benefits you have remaining!

Your pension and 401(k) plan – If you retire from one employer and receive a pension, going to work for an unrelated employer will not impact your pension at all. On the other hand, if you continue to work with your present employer beyond the normal retirement date in the pension plan, or if you retire and begin receiving a pension and subsequently return to work for the same employer, your pension payment may be impacted. It may, for example, make a difference if you return as a part time employee or as a full time employee. Your employer’s plan may encourage “phased retirement” allowing you to work part time while receiving at least a portion of your pension payment. It is important that you meet with your plan administrator about how working past the normal retirement age or returning to work may change your pension payment. For example, will working part time reduce your final average pay amount under the pension formula, reducing your pension?

Similarly, check your profit sharing, 401(k) or other retirement plans to understand your options if you work past the normal retirement age. Will you be eligible for a lump sum distribution? If so, you may want to consider a rollover to an IRA. Will employer contributions still be made to your account if you work part time?

Your health benefits - Currently, there is no early benefit under Medicare. Coverage begins at age 65 (or earlier but only if you are disabled). Some employers allow coverage under its health plan for part time workers – this is especially important if you are under age 65 and do not have access to health care coverage of a spouse. But not all employers provide such coverage so your only alternative before age 65 may be an individual policy or COBRA. COBRA is a federal law that permits you to receive continuing health coverage under your former employer’s plan. But it is expensive and may not provide sufficient coverage (it only lasts 18 months).

Working past retirement may be necessary or just rewarding. Either way, understand how it impacts your retirement income and health coverage.