Learn how your Social Security benefits are calculated

If you've checked your annual Social Security statement lately, you probably know the size of the benefit you're projected to receive in retirement. If not, download a copy at the Social Security website (nwsdy.li/CALCULATOR). These days, the agency sends statements in the mail once every five years.

With the statement in hand, let's look at a few key questions dealing with how your benefit number is calculated.

How does the Social Security benefit formula actually work?

It's mainly determined by a formula called the Primary Insurance Amount (PIA) -- a weighted formula that gives a higher benefit relative to career earnings for a lower earner than for a high earner. You must work long enough to become insured -- either for retirement benefits when you are 62 or older, or if you become disabled at an earlier age, or should you die, leaving a benefit for your survivors.

How much time is required to qualify for benefits?

For a retirement benefit at 62, you need to have earned one quarter of coverage for every year that has passed since age 22, and you need a total of 40 quarters of coverage to qualify (or 10 years of work).

How is the PIA determined?

The Social Security Administration (SSA) starts by calculating your average indexed monthly earnings, referred to as AIME. That involves taking any years of earnings you had before you reached age 60 and indexing them to compare with the earnings level in the overall economy as of the year you turn 60. It's a sort of inflation adjustment, but one that uses wages, not consumer prices.

How many years are used to compute the PIA?

For a retirement at 62 or older, the highest 35 years of earnings are included in the calculation. If you only had 30 years of earnings, the SSA still takes the highest 35, and will include five zeros.

That is averaged and expressed as a monthly amount -- your AIME. Then, the AIME is applied to the PIA formula.

How does the timing of a claim figure into my benefit amount?

The age at which you decide to start receiving benefits matters. If you wait until the full or normal retirement age -- which currently is 66 -- your monthly benefit level will be exactly that PIA.

If you want to start retirement benefits at the earliest possible age -- 62 -- you receive a reduced benefit for the rest of your life. The Primary Insurance Amount would be reduced by 25 percent.

If you wait until after normal retirement age to start benefits, you get delayed retirement credits, equal to 8 percent for each 12-month period you delay.

Social Security applies an annual cost-of-living adjustment (COLA) to benefits using an automatic formula tied to the Consumer Price Index. How does that adjustment figure into the decision to file early or not?

The most important thing to know is that the COLAs are applied to your benefits starting in the year you turn 62, no matter if you have filed for benefits or not. Let's say you wait to file until age 66, and there has been 10 percent inflation between the time you are 62 and 66; then that $1,000 PIA will -- just by virtue of COLAs -- have risen to $1,100 at your full retirement age. If you take your $750 benefit at age 62, you'll get the same COLAs, and the $750 will increase by 10 percent to $825. So, either way, you get the COLAs applied from one year to the next, and they start immediately after you're first eligible for benefits.

What happens if you claim benefits at age 62 but continue to work?

That can affect your benefit if you're earning over a threshold (roughly $15,000) and you are under the normal retirement age. Social Security has an earnings test for people before attaining age 66. Your benefit is reduced by about $1 for every $2 of earnings above that until you reach the full or normal retirement age, at which point there is no earnings test.

Are those withheld benefit dollars lost permanently?

No. People sometimes mistakenly refer to the earnings test as if it is a tax or penalty. It's really not. It is calculated back into your benefit when you reach full retirement age.

Mark Miller edits and publishes RetirementRevised.com. His column is distributed by 50+ Digital, LLC.