For the majority of American retirees, Social Security represents a huge percentage of the income they receive after their careers have ended. From its initial purpose of providing a supplement to income in retirement, Social Security has now become the sole means by which tens of millions of older Americans pay vital living expenses and make ends meet.
Yet with Social Security in the middle of a financial crisis that has the appearance of a slow-motion train wreck, policy advocates are looking for ways they could change the way the program works to make it more financially viable over the long run. One of the proposals that has made the rounds recently involves cutting back on Social Security benefits for those whose incomes are above certain threshold levels. Although advocates for so-called means testing of Social Security payments argue that the move would be in line with the original purpose of providing social insurance to older Americans, opponents point to the relatively minimal impact such measures would have on Social Security's overall finances unless they were applied to a much broader swath of the population than most proposals contemplate.
Calls for means testing of Social Security benefits
Numerous proposals over the years have called for means testing of Social Security to take away benefits for those who arguably don't need them. The most recent to get much attention was during the 2016 presidential campaign, when New Jersey Gov. Chris Christie released a plan that would have started phasing out Social Security benefits for those earning $80,000 or more per year. Christie's proposal would have completely eliminated Social Security payments to those with incomes above $200,000. Similar plans have used different thresholds and made different adjustments to benefits, but the general idea remains the same: pay less Social Security benefits to those with enough income to forgo receiving them.
Policy makers looking at the idea of means testing have seen both positives and negatives with such proposals. For instance, in the AARP's assessment of means testing several years ago, the group noted that with limited financial resources, having Social Security essentially make the decision to triage benefit payments based on financial need was arguably a prudent way to make the most of the money that's available to the program. That way, Social Security could keep fulfilling its function as an insurance policy against poverty in retirement.
At the same time, though, means testing has the potential to change the essential nature of Social Security. Once you take away what many see as an entitlement that they've earned by paying Social Security taxes over the course of their careers, the program starts looking more like welfare, with the negative connotations that many associate with it. It would also penalize those who've made other arrangements for their retirement income, including those who take jobs that pay pensions or work to save over the course of their careers.
Surprise! There already is something like means testing with Social Security
What many people don't realize is that there are already provisions in place that achieve some of the same goals as means testing would. The reason more people aren't aware of the connection is that the federal government is somewhat subtle about how it imposes these limits. Rather than cutting benefits directly, it instead subjects some Social Security income to taxation, forcing wealthier retirees to pay taxes that in turn provide revenue that funnels back into the Social Security program.
Here's how it works: Take your outside income and then add in one-half of the Social Security benefits you receive. If that number is above $25,000 for single filers or $32,000 for joint filers, then up to 50% of your benefits can be subject to tax. When the number rises to $34,000 for singles or $44,000 for joint filers, the percentage moves up to 85% of benefits that can be included in your taxable income.
Every year, the IRS takes the tax money that gets paid on Social Security benefits and transfers it to the Social Security trust funds. The amount hasn't been huge, with just $37.9 billion out of the $997 billion in receipts that Social Security took in during 2017 coming from the income tax on benefits. Nevertheless, that's a significant enough amount that taking it away would dramatically hasten the depletion of the trust funds over the next 15 years.
Yet even with this light form of means testing, there's criticism. Many argue that the income limits at which benefits start to get taxed are too low. Others point to the fact that those limits aren't indexed for inflation, forcing an increasing number of people to pay taxes year after year.
Proponents of benefits taxation note that the system automatically applies progressive tax rates based on income, so that the more you earn, the more in benefits you essentially lose. That doesn't make opponents of means testing happy, but it's in line with many of the goals that those who support means testing are looking to achieve.
Keep your eyes open
In the years to come, there will be plenty of new Social Security proposals intended to shore up its long-term finances. Many of them may include means-testing provisions. By knowing the potential points of contention, you can assess each of these proposals objectively to see what true impact they'd have on the program's financial condition -- and how they would affect your Social Security benefits both now and in the future. That way, you can make an informed choice about whether you support or oppose potential benefit cuts for wealthier Americans.
The Motley Fool has a disclosure policy.