Social Security is a federal benefits program in the United States that was founded in 1935. While the program encompasses disability income, veterans' pensions, and public housing, it is most commonly associated with monthly retirement benefits paid out until death.

The Social Security system is funded through payroll taxes. The Federal Insurance Contributions Act (FICA) mandates a 12.4% levy on the first $142,800 (in 2021) of each individual's earned income each year. The employer pays 6.2%, and the employee pays 6.2%, while the self-employed pay 12.4%.

Contrary to popular belief, this money is not put in trust for the individual employees who are paying into the system but is pooled and used to pay existing retirees. The Social Security Trust Fund invests in special issue securities available only to the fund, though in the past it has held U.S. Treasury bonds that are available to the public.

Key Takeaways

  • Payroll taxes fund the Social Security system, with employers and employees each paying 6.2% in taxes on the first $142,800 of income annually (as of 2021).
  • Individuals are eligible for Social Security benefits if they have earned at least 40 credits ($1,470 per credit) over 10 years.
  • A worker's benefit is calculated by averaging the earnings from their 35 highest income-generating years.
  • Full (or normal) retirement age is 66 for anyone born between 1943 and 1954 and gradually increases to 67 for those born in 1960 or later.
  • It's important to supplement your Social Security benefit with other retirement income from a 401(k), pension, IRA, and/or other savings.

Social Security Credits

Eligibility for Social Security benefits is accrued over time. Prior to 1978, workers were required to earn $50 in a three-month quarter in order to receive one Social Security credit. The achievement of 40 credits, accrued over 10 years of working, provided eligibility. 

Employers now report earnings once per year instead of quarterly, and credits are accrued based on your earnings, not based on a set time frame, so it is possible to earn all four credits even if you only work a short period each year. As of 2021, workers are required to earn $1,470 per credit (up from $1,410 in 2020).

To help guarantee a smooth transition from work to retirement, apply for your Social Security benefit at least three months before your intended retirement date.

Collecting Benefits

The amount of your Social Security benefit is calculated by averaging the earnings from your 35 highest income-generating years. The maximum monthly Social Security check that you can earn is $3,148 per month in 2021.

You can use one of the calculators at the Social Security website to estimate in advance what your benefit will be. To sign up for Social Security benefits, it is recommended that you apply three months prior to your retirement date.

You can use various strategies to make sure you receive the highest benefit possible. Even if you never contributed to Social Security, you still may be eligible to receive retirement benefits based on your spouse's earning history—even if you are divorced (if your marriage lasted at least 10 years), or your spouse is deceased. 

Social Security Eligibility

While past generations reached full eligibility for Social Security at age 65, everyone born after 1937 must adhere to the following eligibility requirements:

Year of Birth Full (normal) Retirement Age
1937 or earlier 65
1938 65 and 2 months
1939 65 and 4 months
1940 65 and 6 months
1941 65 and 8 months
1942 65 and 10 months
1943-1954 66
1955 66 and 2 months
1956 66 and 4 months
1957 66 and 6 months
1958 66 and 8 months
1959 66 and 10 months
1960 and later 67

Plan for Your Retirement

According to the Social Security Administration (SSA), Social Security was never designed to serve as the sole source of a retiree's income. The SSA notes that "Most financial advisors say you'll need about 70 percent of your pre-retirement earnings to comfortably maintain your pre-retirement standard of living. If you have average earnings, your Social Security retirement benefits will replace only about 40 percent."

The best way to achieve a secure retirement is to take matters into your own hands. This means making sure to take advantage of a 401(k) or similar tax-advantaged retirement plan, if your employer offers one, as well as investing in an IRA or other vehicle. A separate non-retirement investment account or other investments, such as real estate, are also useful.

Another smart reason to save for your retirement: In their 2019 report, the trustees that manage the Old-Age and Survivors Insurance (OASI) Trust Fund project that the retirement reserves will become depleted in 2035, as the youngest baby boomers begin to collect Social Security.

The trustees forecast the retirement trust fund drying up in 2034 and the Disability Insurance Trust Fund in 2052. When the reserves for each fund are depleted, the taxes coming in from active workers will be enough to pay about 77% of the benefits to retirees and 91% of the benefits to disability beneficiaries.

The Bottom Line

While Social Security is built as a supplement to retirement income, one thing is certain. Planning for additional ways to fund your retirement is a good idea. If you reach retirement and other sources of income, such as Social Security and defined-contribution plans, are able to provide sufficient income, your personal savings will add to the mix, and you'll have more money than you need.

If you reach retirement and those other sources of income are not enough, you'll also be able to rely on the nest egg you've built.