Social Security: Why You'll Never Get the Big Payoff Your Parents Got

Source: Social Security Administration.

Social Security recently celebrated its 79th birthday, and over the decades, hundreds of millions of Americans have received payments under the program. Most people consider their benefits to have been well paid for by the payroll taxes they've paid throughout their careers. But no matter how valuable Social Security benefits will be to them, today's workers won't get anywhere near as big a payoff as their parents got in return for the money they paid in payroll taxes.

Where Social Security benefits come from
Many people believe their Social Security benefits are linked to the amount they paid in Social Security payroll taxes during their careers. In essence, they see Social Security the same way they'd look at a company pension or 401(k) retirement plan account, comparing what they put into the system with what they took out. If they end up with more money than they put in, then they figure that they got a reasonably good deal. The more excess they take out of Social Security, the better they feel they fared under the system.

But in reality, Social Security taxes play no direct role in the benefits that you receive. Social Security's benefit calculation formula takes average earnings into account, using your work history to produce a primary insurance amount that the Social Security Administration uses in turn to determine how much your monthly Social Security benefits will be. But the benefits that the formula produces are specifically designed not to be directly proportional to average earnings: There's a level of progressivity built into the formula that helps lower-income earners replace more of their past income through retirement benefits than higher-income workers.

The rising tax burden under Social Security
Beyond the progressive nature of Social Security, the other big variable that has changed over the years is the amount people pay in Social Security taxes. When the program first started, the payroll tax rate was a meager 1%, and it only applied to the first $3,000 of income someone earned. Over time, payroll taxes climbed, but it was only in the 1990s that they reached their current rate of 6.2% for the employee contribution toward Social Security.

Source: Author. Based on Social Security Administration data.

What that means is that those who worked much of their careers during the 1950s, 1960s, and 1970s ended up getting the best of all possible worlds. Many of them earned retirement benefits calculated similarly to the way that benefits get paid today. Yet by paying tax rates of 1.5% to 5%, they put far less money into the system -- and so their return on the taxes they paid will be far greater than those who put the full 6.2% toward Social Security throughout their working lives.

Source: Social Security Administration.

Demographics will never be the same
The big factor that made low tax contributions possible was that early in its history, Social Security had far more workers paying into the system than it had recipients collecting benefits. According to the Social Security Administration, the ratio of covered workers to beneficiaries in 1950 was 16.5, falling to 5.1 in 1960 and 3.7 in 1970. Today, it's below three, and the ongoing retirement of the baby boom generation is projected to keep that number shrinking well into the future.

As fewer workers support Social Security, it takes higher tax rates to maintain benefit levels. That means that if anything, the trend will be for current workers to pay more into Social Security, thereby reducing their eventual return even further.

Social Security is still a valuable program, and you can expect to rely on it for at least a portion of your income during retirement. But when it comes to comparing payroll taxes to your eventual benefits, you'll only be able to look back longingly at the big payoffs that your parents and other Americans of past generations got from Social Security.

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Read/Post Comments (9) | Recommend This Article (18)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On August 25, 2014, at 9:52 AM, gadfly1000 wrote:

    Another perfectly nonsensical Motley comment.

    In the first place, if you are employed the amount you put in is immediately doubled by your employer, and that hasn't changed.

    Second, your pension is paid out after all your input over the decades has been indexed for inflation.

    Third your description of the demographics is very cursory and does not take account of the baby boomlet (children of baby boomers) -- more contributors) or troughs that follow booms (fewer pensioners), or immigration effects (more contributors).

    Most important, there are many ways to increase revenue.

  • Report this Comment On August 25, 2014, at 11:21 AM, gadfly1000 wrote:

    Another aspect the article forgets is that benefits have been added or improved.

    Besides there straight retirement benefit per 1935, there are disability, spousal and survivor benefits that contribute to "return on investment," PLUS restrictions on working and collecting full benefits have been relaxed, plus COLA was added.

    On the other hand, retirees in the early years COULDN'T have worked and contributed for decades, so they indeed got back relatively more than they put in.

    Given all the variables, the article cannot be anything but wrong.

  • Report this Comment On August 25, 2014, at 7:38 PM, LaProfessoressa wrote:

    Tax rates and demographics aside, what about the changes Congress has made to Social Security over the years, such as:

    1) Changing the month the beneficiary receives their first check from the month of their 65th or 66th birthday to the following month;

    2) Changing the calculation of the earnings base on which benefits are figured from a five highest year average to a thirty-five highest year average;

    this change was particularly damaging for women as they are the ones most likely to have a 35 year average lowered by years not worked due to family care responsibilities.

    3) Decreasing the maximum age that beneficiaries could wait and receive increased benefits for being in suspension from 72 to 70 (from the years between 65 and 72 to the years between 66 or 67 and 70)..

    4) Elimination of the possibility for women to retire at full benefits at an earlier age than men.

    Most people nowadays are unaware that these benefits ever existed or that they were eliminated by Congress.

  • Report this Comment On August 25, 2014, at 7:52 PM, t2dcarla wrote:

    The article also leaves out that the taxable maximum income has not generated as much SS funds due to the increasing wage gap:

    Increasing the taxable maximum income would solve a lot of problems.

  • Report this Comment On August 25, 2014, at 10:53 PM, rowlandw123 wrote:

    Why have a wage base cap at all? Medicare has no cap. The extra revenue should be directed towards making the system actuarially sound and then to beneficiaries. Those earning well above today's cap can certainly afford it. Now they see an automatic "raise" of 6.2% in their paychecks once the cap is exceeded.

  • Report this Comment On August 25, 2014, at 11:02 PM, gadfly1000 wrote:


    Too sensible . . . and fair. Doesn't square with the privilege expectations of the 1%.

  • Report this Comment On August 25, 2014, at 11:07 PM, gadfly1000 wrote:


    "benefits are figured from a five highest year average to a thirty-five highest years "

    Yes, but didn't the calculations basis change as well? Initially it was something like 0.5%/mo for the first $3000 of the total final five years of wages ($15).

    Also, in the beginning of payouts there could hardly have been a basis of a lifetime's work (best 35 yrs) when the program itself was only a few years old.

  • Report this Comment On August 26, 2014, at 12:06 PM, johnadams7 wrote:

    I have been drawing Social Security checks for 14 years. Frankly, I never thought I would get a nickel considering the stupid way the program was amended after it was passed to be fiscally sound. My grandfather who immigrated to the U S illegally (he was an infant at the time), drew benefits when the first checks were issued, yet he never put a cent into the program. He worked for 15 years after he started drawing benefits. Now, the benefits are being being paid by borrowing from the Chinese since the government has spent all the money on other "worthwhile projects." Other stupidity in the program was the addition of SSI and Medicare. SSI is a pure welfare program and should be tax supported as such. Medicare should be separate and apart from income payments. Regardless of what the politicians say, the program will become unaffordable and will be changed from "your retirement account" to "your government tax for welfare handouts". Smart people should opt for privatizing the program as it is a fiscal disaster which will only get much worse in the near future.

  • Report this Comment On August 26, 2014, at 1:35 PM, FoolishLonghorn wrote:

    Taking out the emotion, and the "tax the rich" sentiment, there is one clear message that one can take from this article.

    Social Security was once a fantastic deal for those retiring. This is no longer true.

    The average couple who retired in 1960, with average lifespans and average incomes, received a great ROI from social security, about 7x what they put in.

    A same average couple retiring today, will get back less than they put in.

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Dan Caplinger

Dan Caplinger has been a contract writer for the Motley Fool since 2006. As the Fool's Director of Investment Planning, Dan oversees much of the personal-finance and investment-planning content published daily on With a background as an estate-planning attorney and independent financial consultant, Dan's articles are based on more than 20 years of experience from all angles of the financial world.

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