Understanding Your Social Security Benefit: Factors Affecting Your Monthly Payment

You may already know the average monthly Social Security retirement benefit currently stands at $1,976. What you might not fully appreciate, however, is just how wide the range of this average's numerical inputs is. Nearly 7 million of the program's 51.8 million retired beneficiaries are collecting less than $1,000 per month, while a lucky few are cashing a maximum-possible monthly check of $5,108.

And this disparity begs a question of future retirees: How are Social Security benefits calculated in the first place?

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Here's your answer.

Three things that determine your monthly Social Security retirement benefit

It's not exactly a secret that the more you earn in work-based wages during your lifetime, the more you get back in Social Security benefits. After all, the FICA taxes that fund the program are a set percentage of your pay -- up to a limit.

The underlying calculation of actually monthly benefit, however, is based on three separate components.

The first of these components is the number of years in which you are gainfully employed. For the purpose of figuring out what it owes you once you claim retirement benefits, the Social Security Administration looks at your 35 highest-earning years (adjusted for inflation). While working more than 35 years could help in the sense that you may earn a better income for a greater number of years, quantity alone doesn't help -- the program will simply ignore your lowest-earning years until only the 35 best years are left.

But you already know you're not going to work a full 35 years? That's OK. Most people don't. This won't disqualify you from collecting. It will lower your eventual monthly payment, though, since the Social Security Administration simply assigns you an income of zero for any years less than 35 that you work.

And yes, how much you earn during these years is a factor as well.

As it stands right now, 6.2% of each and every one of your paychecks is taken out in the form of Social Security taxes; your employer adds another 6.2% of its own money to this payroll tax on your behalf. The bigger your check, the bigger this total payment, and subsequently, the bigger your eventual benefit is once you claim.

There are limits, for the record. For this year, Social Security stops taxing any annual pay above $176,100. While earning less than this annually inflation-adjusted amount will result in smaller retirement payments, earning more money than this would be of no additional benefit once you finally initiate your retirement benefits -- you're only credited for the amount of taxed income up to any given year's maximum taxable threshold.

Of course, that's not a ceiling that most U.S. adults need to worry about. The Bureau of Labor Statistics reports the average adult living in the United States right now is earning a considerably smaller amount of $62,088 per year.

Image source: Getty Images.

Finally, the age at which you claim Social Security retirement benefits also impacts the size of your monthly payment. While you can file as soon as you're 62 years old, people collecting at this young age are seeing much smaller payments than those people who waited to maximize their retirement income by claiming when they turned 70. You can file for benefits at any point after you turn 62, to be clear. It's just that the longer you wait, the bigger your monthly payments get until you reach the ceiling at 70 years of age.

And the difference can be stark. This year's 62-year-old claimants will receive monthly payments that are about 30% less than what they would have collected by waiting until they reached their full retirement age of 67. Anyone who waited an additional three years to file at age 70, conversely, will end up receiving monthly payments that are 25% more than what they would have gotten by filing for benefits at 67 years of age.

Just part of a bigger plan

Social Security's payouts are both encouraging and discouraging.

They're encouraging in the sense that your Social Security benefits do more or less reflect the amount of money you put into the program's pool of funds. More in now means more out later. And at least higher-earners aren't being unfairly penalized by being limitlessly taxed when their benefits are going to be capped.

But they're also discouraging in that nobody -- even including above-average wage earners -- is enjoying a particularly well-funded retirement with Social Security alone. Again, this year's average monthly payment is a modest $1,976.

The thing is, the program was never intended to provide the entirety of your retirement income. It was always only meant to be a social safety net to insure everybody had at least enough money to live on in retirement. Whatever amount above and beyond this minimum you'd like to produce for yourself is up to you.

The good news is, it's possible to make this happen even on a relatively average salary. The key is consistent contributions to a retirement account while you're working for as long as you're working. It doesn't even need to be a massive amount of money. Just 10% of your pay put into a vehicle like an IRA or a 401(k) could make a meaningful difference. You can even set up automatic paycheck withdrawals or recurring contributions to these accounts, somewhat like the way Social Security's tax payments are automatically being taken out of your pay.

Of course, if you can afford to invest a little more than 10% of each and every paycheck in a retirement fund, so much the better.

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