By Ryan Hurr

Financial Advisor – Heritage First

Anyone who has heard these two acronyms/initialisms are likely the ones impacted by them. And if not, you will be or have a relationship with someone who is/will be. While the majority of people are not impacted by these provisions, if you are, then you should know exactly what is taking place. This is the Windfall Elimination Provision and the Government Pension Offset. This discussion will go through some of the basics of the WEP and GPO, as well as demonstrate the steps in the calculations. To skip to a specific section, please select a link below.

What is WEP?
How normal Social Security benefits are calculated.
How the WEP is calculated.
The reduction factors.
GPO explained.
How to calculate GPO.

Before you read any further, in full disclosure, this is very complicated material. The following paragraphs will explain in detail what you can expect for retirement income if you plan on taking an income from your pension AND Social Security. Oftentimes, we work with folks just like you, and there are some consistencies in misunderstanding. It is important to note that your expectations and your experiences might very well be different. The examples used below are examples only and may not represent your specific situation. Your expected income is not always as clear as looking at your Social Security statement and pension summary. In laymen’s terms … “know before you go.” Yes, understand how your income will work. For a more detailed summary, please keep reading.

The WEP, or more formally known as the Windfall Elimination Provision, was signed into law in 1983 by President Reagan as a part of the 1983 Social Security Refinancing Act. This Act was an effort to help fix some of the issues attached to the Social Security Trust Fund.¹ The WEP modifies the calculation of Social Security benefits of those that are entitled to them, but also entitled to certain state, local, or federal pension benefits. These are known as non-covered pensions, or pensions that are received by workers who did not have Social Security payroll taxes deducted during their employment.

WEP was designed to reduce the advantage that an employee may have when working years are both covered and not covered by Social Security. This “advantage” is known as a windfall. Per the Social Security Administration, “if you are eligible for a pension based on work you did for a federal, state, or local government, a nonprofit organization, or in another country and you did not pay Social Security taxes, this pension can affect the amount of your Social Security benefits. We refer to this reduction as the Windfall Elimination Provision, or WEP.” In 2021, the WEP may reduce entitled Social Security benefits by up to 50% but at a max of $498.00 per month if eligible.²

To qualify for Social Security benefits, a worker must pay Social Security taxes for 40 quarters. This is 10 years of covered employment. There are exceptions to this rule, specifically for disabled employees. However, we will not delve into the decreased earning credits required for disabled workers or any benefits specific to disabled workers in this forum.³ For situations that are specific to you, please contact me.

To understand how the WEP may impact your Social Security benefits, it is important to first understand how Social Security benefits are calculated. To begin the calculation, earnings are indexed (adjusts wages to account for inflation to help “index” up earlier earning years and ensure future earnings can be estimated appropriately). The calculation uses the highest 35 earning years, and if there were years with no taxed wages, $0.00 would be used in that year’s place. The highest 35 indexed years are then averaged and dived by 35 for an annual benefit. Next, you would calculate your Average Indexed Monthly Earnings (AIME) by dividing by 12. These earning years can be found directly on your Social Security statement or by logging into the Social Security website.

With the AIME available, the formula can calculate to find the Primary Insurance Amount (PIA). The PIA is the amount of benefit you would expect to receive at your Full Retirement Age (FRA). The FRA is determined by the year in which you were born. To find your FRA, please use the SSA calculator, here. As you will notice, there are several options when claiming Social Security. FRA is the point where you can claim your Social Security without strings attached, like reductions or income limitations, if you choose to claim early.

The PIA formula uses “bend points” and calculates the year that you attain the age of 62. It is important to note, the bend points will always be based off the year you turn 62, even if you do not activate your Social Security benefits at this age. Bend points are dollar figures at which benefits are adjusted. This is found by summing together three percentages of said bend points; this results in the PIA.

Are you still with me? I know this can be confusing, but still important to understand.

In 2021, the bend points are the first $996.00 of the AIME, the amount between $996.00 and $6,002.00, and lastly, the amount over $6,002.00. Each of these ranges has a factor attached. Respectively, they are 90%, 32%, and 15%.²

To help understand bend points and PIA, we will calculate an example. In order to demonstrate each bend point, we will use an AIME of $6,100.00.

90% x the first $996.00 = $896.40

32% x $5,006.00 (the difference of $996.00 and $6,002.00) = $1,601.92

15% x $98.00 (the difference of $6,100.00 and $6,002.00) = $14.7

$896.40 + $1,601.92 + $14.7 = $2,513.02

In this example, at FRA the monthly benefit would be rounded down to $2,513.00 at age 66 and 10 months.

Now that you have an understanding of how to calculate Social Security benefits, we can examine the WEP calculation. This calculation still uses the same bend points, but the factor in the first bend point is reduced from 90% to 40%.

Using the above AIME, a person subject to the WEP would have a PIA of $2,014.42.

40% x $996.00 = $398.4

32% x $5,006.00 = $1,601.92

15% x $98.00 = $14.7

$398.4 + $1,601.92 + $14.7 = $2,014.42

This reduction is approximately $6,000.00 a year. Now we will run another example with someone whose average earnings were lower.

For this example, we will use an AIME of $4,000.00.

Normal PIA

90% x $996.00 = $896.40

32% x $3,004.00 = $961.28

$896.4 + $961.28 = $1,857.68

PIA in this example is $1,857.68.

WEP

40% x $996.00 = $398.40

32% x $3,004.00 = $961.28

$398.4 + $961.28 = $1,359.68

Again, a reduction of approximately $6,000.00, but a larger percentage of the individual’s benefit has been reduced. Also notice, due to the AIME figure being less than $6,002.00, the final bend point can be disregarded.

Now, this calculation was an example only. In fact, if you have 30 covered working years, the WEP does not apply. Those that are impacted by this provision are typically state and local employees, such as educators, law enforcement officers, etc. Generally speaking, these employees are already working full time and will not have a full-time position for 30 years covered under Social Security in addition to their regular position. Frequently, those impacted will have fewer years and less pay as they are paying into Social Security while working part-time positions. This can significantly decrease the AIME, and as such, decrease the PIA by as much as 50%. For example, a teacher making $50,000.00 per year as an educator but also $20,000.00 a year doing part-time groundskeeping at the local golf course would have both covered and non-covered employment. The covered employment is approximately $1,666.00 per month. For simplicity’s sake, if we assume the AIME over the course of 20 years is consistent with this figure, the monthly benefit would be calculated below.

40% x $996.00 = $398.40

32% x $670.00 = $214.40

$398.4 + $214.49 = $612.8

20 or less covered years –  40%

21 covered years – 45%

22 covered years – 50%

23 covered years – 55%

24 covered years – 60%

25 covered years – 65%

26 covered years – 70%

27 covered years – 75%

28 covered years – 80%

29 covered years – 85%

30 or more covered years – 90%

For an additional example, we can use an AIME of $1,500.00 from part-time work.

Normal PIA

.9 x $996.00 = $896.40

.32 x $504.00 = $161.28

$896.4 + $161.28 = $1,057.68

Normal PIA = $1,057.68

WEP PIA

.4 x $996.00 = $398.40

.32 x $504.00 = $161.28

$398.4 + $161.28 = $559.68

WEP PIA = $559.68

This reduction in monthly benefit is almost 50%. If the benefit is taken early, it will be reduced further. Additionally, if Medicare premiums are taken directly out of the Social Security benefit (this is typical), there will be a further reduction in what is expected to land in your bank account. This is simply something to be mindful of.

The WEP is the provision that impacts your personal Social Security benefit. The next important thing to understand as it relates to covered and non-covered work is the Government Pension Offset (GPO). The GPO reduces the spousal or widow(er) benefits if that particular spouse receives one of the non-covered pensions addressed above. The reduction factor is two-thirds of the non-covered pension. It is possible to be impacted by one or both of the provisions.

As explained on the SSA website, “The GPO reduces the spousal or widow(er) benefit by two-thirds of the monthly non-covered pension and can partially, or fully, offset an individual’s spousal/widow(er) benefit, depending on the amount of the non-covered pension.”

⁴

The diagram above demonstrates the calculation using two examples, a non-covered pension in the amount of $1,000.00 per month and one in the amount of $1,600.00 per month.

In Social Security and at the time of this writing, typically the widow or widower benefits are 100% of the covered spouse’s benefit, whereas the spousal benefit is 50% of the covered spouse’s benefit. Meaning if one spouse never worked and the other spouse worked 40 quarters and now receives $1,800.00 in Social Security benefits, the non-working spouse would be eligible for $900.00 in spousal benefits. If the working spouse passed away, the non-working spouse would be eligible to step up the benefit to receive the full $1,800.00.

The below example assumes a PIA of $1,800.00 for the covered spouse. Typically, this would result in a spousal benefit of $900.00 per month for a total family Social Security benefit of $2,700.00 per month. However, this is only the calculation if NEITHER spouse is impacted by WEP or GPO.

If the spouse expecting a $900.00 spousal benefit also receives a non-covered pension, the GPO calculation takes place. For the first example, we use a non-covered pension in the amount of $1,000.00. Two-thirds of the non-covered pension amount must then be deducted from the spousal benefit. The remaining difference is the new spousal benefit.

$1,000.00 in non-covered pension benefit

2/3 of $1,000.00 = $667.00 (the offset)

$900.00 – $667.00 = $233.00

$1,000.00 in non-covered pension + $233.00 = $1,233.00

$1,233.00 + $1,800.00 in covered spouse benefit = $3,033.00 in total family benefit.

$1,600.00 in non-covered pension benefit

2/3 of $1,600.00 = $1,067.00 (the offset)

$900.00 – $1,067 = -$167.00

In this last example, the offset is greater than the spousal benefit, so the spousal benefit is eliminated.

$1,800.00 in covered spouse Social Security benefit + $1,600.00 in non-covered benefit = $3,400.00 in total family benefit.

The calculation of the GPO remains the same for a widow(er).

2/3 of $1,600.00 = $1,067.00 (the offset)

$1,800.00 in PIA – $1,067 in offset = $733.00 in widow(er) benefit.

To learn more about the WEP & GPO and how it affects you, click here to schedule a meeting.

¹ Source: Social Security Administration, The Social Security Windfall Elimination Provision: Issues and Replacement Alternatives. Available at

https://www.ssa.gov/policy/docs/ssb/v79n3/v79n3p1.html

² Source: Social Security Administration, Retirement Benefits. Available at

https://www.ssa.gov/benefits/retirement/planner/wep.html#h0

³ Source: Social Security Administration, Social Security Entitlement Requirements. Available at

https://www.ssa.gov/ssi/text-entitle-ussi.htm

⁴ Source: Social Security Administration, Government Pension Offset. Available at

https://www.ssa.gov/policy/docs/program-explainers/government-pension-offset.html#:~:text=BACKGROUND%3A%20The%20Government%20Pension%20Offset,local%20governments%20or%20non%2D%20U.S.

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