Just about everyone knows that Social Security is in financial straits. With a demographic rush of baby boomers in or approaching retirement, the number of people collecting benefits hits new records regularly. Meanwhile, retirements mean that there are fewer workers paying taxes to support those benefits. Based on the latest edition of the Social Security Trustees Report from earlier this year, things will come to a head in about 16 years, when imbalances in the amount of income and outflow for the Social Security program lead to the complete depletion of trust fund reserves.

It's natural to think that there'd be obvious signs of Social Security's imminent financial crisis. But when you look at the actual numbers recently, it's surprising to find that Social Security is still making money for now. Even though the current numbers look good, understanding what changes are likely to appear in the years to come is essential in order to consider possible solutions to the problem.

Building with words Social Security Administration on it.

Image source: Getty Images.

Where Social Security gets its money from

Social Security gets its funding from a few different sources, but the biggest by far are the payroll taxes that current workers pay. Employees pay 6.2% of their wages up to a maximum wage base limit each year, which for 2018 is $128,400. Employers also pay a matching 6.2% amount out of their own pockets in Social Security taxes. Those who are self-employed have to cover the full 12.4% total for both employee and employer taxes.

In addition, the Social Security program gets money from the income tax that certain recipients have to pay. If your retirement income -- defined for these purposes as half your Social Security plus all of your outside income -- exceeds certain thresholds, then up to 85% of your benefits can be subject to tax at your ordinary income tax rate. That money funnels through the IRS and into Social Security's coffers.

Finally, Social Security's trust funds have assets that generate interest. Rates are determined based on prevailing market rates, with Social Security invested in special Treasury securities that give the program the access and flexibility it needs to meet its obligations.

In 2017, Social Security brought in $996.6 billion from its funding sources. Payroll taxes made up the lion's share of that amount, collecting $873.6 billion. Interest on the trust fund added $85.1 billion, and taxes on benefits raised $37.9 billion.

How Social Security spends its money

Conversely, Social Security has to pay out benefits and cover its administrative expenses. In 2017, $941.5 billion went toward paying regular retirement and disability benefits to Social Security recipients. In addition, $4.5 billion went to the Railroad Retirement program as a contribution toward the payments that program makes. $6.5 billion was needed for administrative costs. Those numbers add up to $952.5 billion.

When you compare the $996.6 billion that Social Security collected with the total outlays of $952.5 billion, the remaining $44.1 billion was added to Social Security's reserves. As a result, the trust fund balance at the end of the year came to about $2.89 trillion.

What's changing?

The financial picture described above looks good, but there's a catch: The trends in those numbers from year to year suggest that the good times won't last. In particular, even though income for the program will rise with expected wage inflation, benefits due to retirees and other recipients will rise more quickly.

For instance, between 2017 and 2022, income for Social Security is seen climbing by 23% to $1.224 trillion. However, benefits and other costs will rise at a faster pace of 34% to $1.276 trillion. The difference of roughly $52 billion will be a shortfall that needs to come from the trust funds in order to ensure that recipients get their full Social Security benefits.

As time goes on, those shortfalls will get larger. As the trust fund balance falls, the remaining money won't generate as much interest, further exacerbating the decline. By around 2034 according to the latest estimates, there won't be any trust fund money left, and lawmakers will either have to cut benefits or find other funding sources to make up for the deficit between income and spending.

We still need a solution

It's easy to dismiss Social Security's financial problems as not being immediate, especially because until now, the program has been able essentially to make money. With the demographic tidal wave of retirees coming, though, Social Security's fortunes are going to turn very quickly unless lawmakers act sooner rather than later.

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