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Left Alone

James McGlynn

IF YOU’RE MARRIED, it’s almost certain that one of you will outlive the other—perhaps by many years. What are the financial implications? Here are 10 issues to keep in mind:

1. Social Security. For a married couple, their Social Security benefits can consist of two workers’ benefits or a worker’s benefit and a spousal benefit. On the death of either spouse, the remaining benefit is the higher of the two benefits. For instance, if a worker had a $2,000-a-month benefit and the spouse had $1,000, upon the death of either spouse the survivor’s benefit would be $2,000 a month.

What if the surviving spouse isn’t yet age 62, which is usually the earliest age at which you can get retirement benefits? There’s the possibility of claiming as early as age 60. The surviving spouse can choose to collect either survivor benefits at age 60 or his or her own benefit as early as age 62. If the surviving spouse takes the latter option, he or she can postpone survivor benefits, leaving the monthly amount to increase up until his or her full Social Security retirement age of 66 or 67. The reverse strategy is also possible—claiming survivor benefits first and then later swapping to the spouse’s own benefit.

2. Pension benefits. The two most common pension payouts are “single life” and “joint and survivor.” Many couples choose the lower joint-and-survivor payout so that, upon the death of the worker, the income for the surviving spouse doesn’t decline. If “single life” is chosen and the worker dies first, the surviving spouse could potentially lose all pension income. Because the consequences of opting for “single life” are so severe, the spouse must typically give written approval and get his or her signature notarized.

3. Income annuities. Since immediate annuities are a type of pension, choosing “single life” or “joint and survivor” has similar consequences.

4. Life insurance. Financial planners often say life insurance is unnecessary if there are no longer children at home or once a couple is retired. But some retirees opt to keep their life insurance so they have a pool of tax-free assets to back up their pension or annuity choices. For instance, the spouse with a pension might choose the higher “life only” payout and then hedge the risk by purchasing life insurance on his or her own life. What if the other spouse dies first? At that juncture, the surviving spouse might opt to avoid future premiums by canceling the life insurance policy.

5. Tax rate differences. On the same total taxable income, married couples are taxed less severely than single taxpayers. Similarly, the standard deduction for married couples is double that for single filers. The upshot: If one spouse dies but the household income remains the same, the surviving spouse might face much steeper tax bills.

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6. Medicare. Basic Medicare premiums are charged per person, so the death of one spouse leaves the surviving spouse paying the same premium. Still, the survivor could end up paying far more thanks to IRMAA, or income-related monthly adjustment amount, which is the Medicare surcharge levied on those with higher incomes. In 2021, IRMAA kicks in at $176,000 in modified adjusted gross income for married couples, but just $88,000 for single individuals.

It may be impossible to avoid IRMAA surcharges—which can range from $860.40 to $5,502 a year in combined extra premiums for Medicare Part B and Part D—if the surviving spouse is left with a large sum in traditional retirement accounts and is taking required minimum distributions. One piece of good news: Withdrawals from Roth accounts aren’t included in the IRMAA calculation.

7. IRAs. Surviving spouses can roll their deceased spouse’s retirement account into their own IRA, assuming they’re listed as the account’s beneficiary. But that isn’t necessarily the best strategy: If the surviving spouse is younger than age 59½, he or she should probably treat the account as an inherited IRA. That way, the surviving spouse will have the flexibility to withdraw assets without paying the 10% tax penalty.

8. Roth conversions. Converting a traditional IRA to a Roth is more compelling when both spouses are alive because the total tax on, say, a $20,000 conversion should be lower than it would be for a single individual. An added bonus: After the first spouse dies, these earlier Roth conversions will result in lower required minimum distributions (RMDs) for the surviving spouse—and those RMDs could mean big payments to Uncle Sam because they’ll be taxed at the higher rate for single individuals.

9. Health savings accounts. If a spouse is named as beneficiary of a health savings account, he or she can continue to benefit from the account’s tax-free growth. That isn’t true for non-spouse beneficiaries. Instead, for non-spouse beneficiaries, the account immediately becomes fully taxable upon the death of the owner.

10. Step-up in basis. Upon the death of a spouse, the assets held in the deceased’s name get a step-up in cost basis, thus nixing any embedded capital gains tax bill. If the assets are held jointly, there is a step-up in basis on half of the assets—unless it’s a community property state, in which case all jointly owned assets may receive the full step-up in basis. The step-up in basis affects both taxable account investments and real estate, but not retirement accounts.

James McGlynn, CFA, RICP, is chief executive of Next Quarter Century LLC in Fort Worth, Texas, a firm focused on helping clients make smarter decisions about long-term-care insurance, Social Security and other retirement planning issues. He was a mutual fund manager for 30 years. James is the author of Retirement Planning Tips for Baby Boomers. Check out his earlier articles.

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David Hoecker
David Hoecker
2 months ago

James,
Thanks for your article, and I have a question about your item 1. Here in Ohio, public employees are in their own state-sponsored retirement system and do not contribute to and do not receive social security based on that income. My wife and I would fit the high earner/ low earner example that you gave. But she worked about half of her working years as a teacher and also about half in other jobs, contributing to SS. So upon retirement she became subject to Windfall Elimination and her SS is permanently reduced so that she does not get a so-called Windfall. So if I die first and she is then eligible for my higher SS benefit, will that then still be subject to WEP? Our Social Security office cannot answer that question, and a local attorney specialist in SS also cannot answer. So can you as a CFA in a SS specialty group give an answer? We have other retired friends in similar situations, so this is not unique.

AJ
AJ
2 months ago
Reply to  David Hoecker

I found this answer on the AARP website. While the initial scenario is not the same as the one you laid out, I believe the answer ends up covering your situation as well.

By my reading, it sounds like the SS survivor’s benefit is calculated using the standard SS formula and would not be affected by WEP. However, because your wife is collecting a pension from a non-SS job, the survivor’s benefit from your passing may be subject to the Government Pension Offset (GPO) which would reduce the SS survivor’s benefit by 2/3 of the amount of her public pension.

The AARP article above links to more info on the GPO (like an IRS fact sheet) that would be worth checking out to see if it applies to your situation.

Tooney
Tooney
2 months ago

Thank you for the article. Another implication is if the deceased spouse was the primary financial manager for the household, the surviving spouse is faced with assuming those duties, or finding someone else to handle them.

Andrew
Andrew
2 months ago

Are the SS implications different if the survivor is older, 65+ and the deceased is younger, eg less than 62 ?

Andrew Forsythe
Andrew Forsythe
2 months ago

James, thanks for the very helpful list and info. It prompted me to check if we’d listed beneficiaries for our HSA accounts (we had but memory fails!).

James McGlynn CFA RICP®
James McGlynn CFA RICP®
2 months ago

Andrew I wish financial institutions reminded us annually who we have selected as beneficiaries. Glad it spurred you to check.

Catherine
Catherine
2 months ago

Thanks for this summary of the immediate and subsequent financial situation of the widowed.
The best time for these discussions and joint decisions would be earlier in life, when the emotional impact of events hopefully far in the future is small.
Also, the unfavorable and mostly unavoidable tax consequences of Roth conversions later in life would in my thinking suggest that all young earners contribute first to Roth accounts to the maximum allowed each year whenever possible.

Last edited 2 months ago by Catherine
James McGlynn CFA RICP®
James McGlynn CFA RICP®
2 months ago
Reply to  Catherine

Correct, couples should address this list in advance so it is not a shock to the survivor. I agree that Roth accounts and conversions while a couple are very helpful for lower taxes, lowering RMD’s and dodging the IRMAA tax.

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