Millions of Americans rely on Social Security to cover a big portion of their retirements. The program has been paying benefits since 1937, and Congress has repeatedly patched Social Security since its launch to keep it solvent. Despite that history and the fixes that have been deployed over time, Social Security is rapidly heading toward another funding crisis. According to the program's trustees, the Social Security trust funds are expected to run out of money by 2035, which could slash benefits by about 25%.
Although it is likely that Congress will once again patch Social Security, there are a few structural reasons why this time, it really does appear to be different. Because of those differences, I'm not counting on Social Security to deliver for me when I reach retirement age, and frankly, neither should you. Read on to understand the key reasons why.
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Social Security has become incredibly beneficiary heavy
The good news is that the average life expectancy has increased in the time since Social Security first started. The bad news is that longer lives wreaks havoc on the "pay as you go" funding model that Social Security relies on. For instance, in 1945, there were nearly 42 workers for every covered beneficiary. These days, that ratio is closer to 2.7-to-1.
That downward shift in the ratio between workers and beneficiaries is a key reason the Social Security tax rate has skyrocketed from 2% in 1937 to 12.4% today. (Note that if you're an employee, half the Social Security tax is paid directly by your employer and not generally visible to you on your paycheck.) When you add a falling birthrate to go along with that improved longevity, that ratio will likely only get worse over time. That will likely drive tax rates even higher to cover the same benefits.
Stagflation will only make things worse
On top of those very real demographic challenges, current economic conditions are also lining up to make the challenges exceptionally tough for Social Security this time around. Stagflation -- the combination of low or negative economic growth with high inflation -- is particularly dangerous to Social Security's financing.
This is because Social Security offers its beneficiaries an inflation adjustment to their payouts every year. Since Social Security is largely a pay as you go system, those inflation adjustments come from the same sources as ordinary benefits -- largely taxes on workers and those rapidly emptying trust funds. That might be OK if wages are growing fast enough to keep up, but since inflation started accelerating in early 2021, they haven't.
Or in other words, add higher benefits costs and slower wage growth (and the very real risk of job losses in the current economy) to the already tough employee to beneficiary ratio, the future looks really grim.
All this pain, for what exactly?
Despite the already heavy toll on employees that's only likely to get heavier given the program's structure and current economic reality, the average retiree gets $1,668 per month from Social Security. At best, that offers a "safety net" lifestyle, not much above the poverty level. For retirees depending on Social Security, that money has to cover Medicare premiums, rent and/or property taxes, food, clothing, transportation, and utilities at the minimum.
Indeed, the program itself indicates that it is only designed to cover 40% of the typical retiree's pre-retirement income. Therein lies the rub. Social Security has a very expensive and unsustainable funding mechanism that is on a path to massive challenges, all to pay for what ultimately amounts to fairly modest benefits.
While I believe Social Security will be patched again, mere patches won't change the fundamental challenges the program's funding faces. Nor will they change the fact that the benefits on average provide a basic safety net lifestyle for recipients. That is why I'm not counting on Social Security, and neither should you.
Start today to treat Social Security like the icing, not the cake
Sure, even if nothing changes, Social Security still expects to be able to pay around three-quarters of its expected benefits over time. So it is likely that the program will continue to provide something to its beneficiaries. Still, three quarters of $1,668 works out to $1,251 per month. That's a reasonable supplement to the lifestyle provided by an otherwise decent nest egg, but on its own, it's barely subsistence living.
Treating Social Security like the icing on the cake, rather than the cake itself, is a much healthier mindset to have than counting on Social Security to provide a huge portion of your retirement income. While it is healthier, it is also a mindset you need to put in place well before retirement in order to benefit from it. So get started now, and give yourself your best chance to put a plan in place to build a nest egg that can provide the core of your retirement income.
