Everyone loves a surprise. However, retirement income planning, unsurprisingly, is a place where most people want to limit or remove the element of surprise.
We have heard from a number of our fellow overseas Americans that, as they have turned to Social Security, expecting to receive the figure stated on their most recent Social Security statement, the Windfall Elimination Provision (WEP) has jumped out from behind the metaphorical couch and shouted “Surprise!”
This article will attempt to demystify this little known provision.
To start, let’s cover some basics. Social Security is formally known as the Old-Age, Survivor and Disability Insurance (OASDI) program. It is funded through payroll deduction; the Social Security tax of 12.4% split equally between you and your employer. This tax is imposed on the first $118,500 of income and is indexed for inflation.
Once you have 40 quarters of contributions (10 years), you are entitled to a benefit. The calculation is determined using your lifetime earnings. The calculation has a few steps, but it is important to know that it is based on your thirty-five highest-earning years. It’s your responsibility to ensure your records are correct. Good idea to check your statement online regularly.
In addition to the Income Tax Treaty between the US and UK, there is also a “Totalization” Agreement to ensure there is no double taxation with regard to Social Security programs. The highlights include: you do not have to contribute to both programs; and, if you left the US and became a UK tax-payer before earning the 40 quarters mentioned above, you can use your UK contributions to the state pension to count toward your US Social Security. Be weary, though, and hold your “Brilliant!” as your US benefit will be reduced by your UK benefit.
I find the Social Security department really helpful; their website is full of publications that distill complicated issues into layman’s terms.
Now, back to the unwelcome party guest, WEP. Here is how Social Security describes the provision:
“The Windfall Elimination Provision may affect how we calculate your retirement or disability benefit. If you work for an employer who does not withhold Social Security taxes from your salary, such as a government agency or an employer in another country, any pension you get from that work may reduce your Social Security benefits.”
Who let WEP into the party anyway? Answer: Congress did in 1983. WEP has been hiding behind the couch for a long time! Again from the Social Security publication on the Windfall Elimination Provision:
“Before 1983, people whose primary job wasn’t covered by Social Security had their Social Security benefits calculated as if they were long-term, low-wage workers. They had the advantage of receiving a Social Security benefit representing a higher percentage of their earnings, plus a pension from a job for which they didn’t pay Social Security taxes. Congress passed the Windfall Elimination Provision to remove that advantage.”
There is some reprieve from the WEP, but (sorry to be the bearer of bad news) you most likely will not qualify.
The Windfall Elimination Provision doesn’t apply if:
- You are a federal worker first hired after December 31, 1983;
- You were employed on December 31, 1983, by a non-profit organization that did not withhold Social Security taxes from your pay at first but then began withholding Social Security taxes from your pay;
- Your only pension is for railroad employment;
- The only work you performed for which you did not pay Social Security taxes was before 1957; or
- You have 30 or more years of substantial earnings under Social Security.
It is worth checking to see if you qualify for an exemption. Do not be intimidated by the term substantial earnings. In 2015, this was $22,050. It is more difficult to attain the 30-years paid into the program, particularly if you left the US to come to the UK and immediately started paying to the UK State Pension.
Some further relief from WEP is that it does not apply to widow or widower benefits. For that, we need to discuss another surprise party guest, the Government Pension Offset (GPO) but that is an article for a later date.
In closing, we are not Social Security experts! Every case is different; however, as fellow Americans living overseas, we are happy to discuss your situation in an attempt to point you in the right direction.
First published in The American magazine www.theamerican.co.uk