How 1.7% Social Security raise impacts retirees

Social Security recipients will get a 1.7% cost-of-living adjustment starting in January, according to the Social Security Administration.

For the average retired person receiving Social Security, monthly payments will rise $22 to $1,328 from $1,306. The average couple's benefits will rise to $2,176 from $2,140.

So what does all this mean for retirees? USA TODAY talked to Christopher Jones, chief investment officer for Financial Engines (FNGN), a provider of defined contribution managed accounts.

Q: Is the upcoming cost-of-living adjustment for Social Security recipients enough to help retirees who rely heavily on Social Security?

A:While a 1.7% cost-of-living adjustment might not sound like a lot, the good news is that inflation was also quite low. In other words, the cost of most goods and services did not go up much.

Generally, this means that your benefit check will keep up with the rise in prices over time. Of course, this is only true on average. Some things went up in price by more than 1.7%, for instance health care costs, while others didn't increase as much, or perhaps even declined in price.

Whether the 1.7% increase is enough to cover the increase in your actual costs depends on what things you actually buy. The bottom line is that the annual cost-of-living adjustment is a very valuable feature of Social Security over time.

Q: What do you recommend people do if they depend mostly on Social Security and don't have enough money to pay their bills?

A: Living on a fixed income is never easy. If your monthly Social Security income is failing to cover your spending needs, there are several things you can do. One is to augment your income with a part-time job or perhaps renting out a room in your home. A little extra income can make a big difference in paying the bills. Alternatively, look at where you are spending the most money. Many times, large expenses like rent or health care costs can dominate your budget. Think of ways to reduce these big-ticket items, such as downsizing, moving to a lower-cost area, taking on a tenant, or exploring alternative health plans under Medicare. Also, make sure that the money you are spending is really needed to support a comfortable lifestyle.

Q: What is the biggest mistake people make when taking Social Security?

A:We recently surveyed 1,000 retirees and preretirees, ages 55 to 70, and found that most people are totally unaware of their Social Security claiming options. A key mistake people make is thinking that when they retire and when they should start their benefits are the same date.

In fact, you can get significantly higher lifetime Social Security benefits by delaying your start date — 6% to 8% higher benefits for each year that you delay. This lack of knowledge means most people are leaving significant money on the table to the tune of as much as $100,000 in higher lifetime benefits for individuals and $250,000 or more for married couples.

As more than 60% of retirees are reliant on Social Security for more than half of their retirement income, getting this decision right is really important. There are more than 8,000 possible strategies for a married couple to claim Social Security, making it one of the most complex decisions people have to make.

For instance, if you are married, it almost always makes sense for the higher-earning spouse to delay their start date as long as possible, usually until age 70. To find out the specific strategy that will maximize your lifetime Social Security benefits, you can use Financial Engines' online Social Security planner at no charge.

Q: How is the amount of your Social Security benefit determined?

A: Your Social Security benefit is based on a complex formula that considers the income you earned over the highest 35 years of your working career. The income used to calculate the benefits only counts up to a maximum value that has increased with inflation over time. For instance, this year (2014) the maximum income for calculation of Social Security credits was $117,000. If you earned over this amount, you do not get any additional credit for benefits. This means that the calculation of benefits is progressive — people with lower incomes get a higher proportion of their income in benefits than those with higher incomes.

Q: Does the government tax Social Security?

A:In some cases, yes. If your income consists of only Social Security, then none of your benefits may be taxable. However, if you earn enough income from other sources (including non-taxable interest), up to 85% of your Social Security benefits may become taxable. The breakpoints for benefits being taxable are different depending on whether you are single or married. For instance, if you are married and your combined income is above $44,000, then up to 85% of your benefits may be taxable. (For more details, go to socialsecurity.gov/planners/taxes.htm)