Whether you realize it or not, Social Security is a financial pillar for tens of millions of Americans. Each and every month, 48 million people receive retirement benefits, nearly 10 million are divvied a disability insurance check, and just shy of 6 million get a survivor payout. Of these recipients, more than 22 million are being pulled above the federal poverty line solely because of this monthly payout, according to an analysis by the Center on Budget and Policy Priorities.
What's more, it's a program that also looks out for tens of millions of working Americans. The Social Security Administration finds that close to 90% of today's working Americans are protected by the program in the event of a long-term disability.
But none of these amazing statistics describes the most important and arguably the single greatest thing about Social Security -- namely, that the program is incapable of going bankrupt or becoming insolvent in its current form.
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There's no denying it: Social Security has a cash flow problem
As you've probably heard by now, Social Security is facing some serious challenges in the years that lie ahead. The latest Social Security Board of Trustees report estimates that the program will expend more than it collects in revenue in 2020, which is the first time we'll see that happen since 1982. But this isn't expected to be a one-time event. Rather, a combination of ongoing demographic changes are forecast to greatly widen this net-cash outflow from Social Security's asset reserves (i.e., its net-cash surpluses built up over time) with each passing year. According to the Trustees report, the nearly $2.9 trillion currently in asset reserves is projected to be completely exhausted by 2035.
Now, this is where worry really sinks in with a lot of working Americans -- especially those who are still multiple decades away from retirement. In the eyes of the working public, having no money in asset reserves is akin to the program going bankrupt. Not to mention, without any asset reserves, Social Security would be unable to generate any interest income, given that the program's net-cash surpluses are required by law to be invested in special-issue bonds and certificates of indebtedness.
In short, it paints a very gloomy picture for Social Security's long-term outlook and has a lot of workers questioning whether Social Security will be there for them when they retire.
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Social Security will never go bankrupt
But there's good news among these dreary predictions from the Trustees. In particular, Social Security doesn't need a single red cent in its asset reserves in order for the program to remain solvent.
The key to Social Security's longevity can be found in its sources of income. One, alluded above, is the interest income earned on its asset reserves. However, this is considered a nonrecurring source of income, because if and when the program's asset reserves disappear, Social Security will be unable to earn anymore interest income. The real superstars that make Social Security unbreakable are the 12.4% payroll tax on earned income and the taxation of benefits.
The 12.4% payroll tax is unquestionably Social Security's workhorse. In 2018, it was responsible for $885 billion of the $1 trillion in revenue collected by the program, and it's applied to all earned income (wages and salary) between $0.01 and $132,900, as of 2019. Even though about 17% of all earned income in the U.S. is exempt from this tax, the fact of the matter is that a boatload of money will continue to flow into the Social Security program for disbursement to eligible beneficiaries as long as Americans keep working.
Likewise, taxes will continue to be collected from Social Security beneficiaries who earn more than set income thresholds. Having not been adjusted for inflation since being introduced in 1984, individuals or couples whose modified adjusted gross income plus one-half of benefits exceeds $25,000 or $32,000, respectively, will owe at least some federal tax on a portion of their benefits. This collected tax, which accounted for $35 billion of the $1 trillion collected last year, is a second recurring revenue source that ensures Social Security's indefinite survival.
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The only thing that could genuinely raise doubt about Social Security's survival is if the program's primary funding mechanisms were changed. For instance, if lawmakers were to replace the payroll tax with a value-added tax on purchases -- don't laugh, as this horrible idea was actually thrown around by lobbyists a few years ago -- it would intricately tie Social Security's health to that of the U.S. economy. If the U.S. entered a period of steep recession, such as it did 11 years ago, Social Security could find itself in pretty deep trouble. Thankfully, lawmakers in Washington, D.C., are far too afraid to disrupt or alter how Social Security is funded, thereby ensuring it'll never go bankrupt.
Of course, it's also important to understand that survival and sustainability aren't the same. Should Congress fail to thwart Social Security's imminent net-cash outflows, an across-the-board benefit cut of up to 23% may await retired workers by 2035. Thus, you can count on Social Security being there for you when you retire, no matter how long from now that is, but it'd be wise to ensure that it's no more than a minor source of income during your golden years.
