Please ensure Javascript is enabled for purposes of website accessibility

Social Security's Judgment Day May Be Only 12 Years Away

By Sean Williams – Jun 7, 2020 at 6:06AM

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More

Time is running out for lawmakers to effectively resolve Social Security's funding shortfall.

It's time for 64 million current beneficiaries, and the tens of millions of future beneficiaries, to face one key reality: Social Security is in some very real trouble.

Since 1985, the annually released Social Security Board of Trustees report has cautioned that long-term revenue collection (defined as the 75 years following the release of a report) would be insufficient to cover outlays. This is to say that the existing payout schedule cannot be maintained over the next 75 years without some form of intervention from lawmakers, such as increased revenue and/or reduced expenditures.

A half-emptied hourglass on a table.

Image source: Getty Images.

Due to more than a half-dozen ongoing demographic changes, the 2020 Trustees report calls for a depletion of Social Security's $2.9 trillion in asset reserves (its net cash surpluses built up since inception) by 2035.

What does this mean, exactly? The good news is it doesn't mean insolvency or bankruptcy for the most-storied social program in U.S. history. Two of Social Security's three sources of funding are recurring -- the 12.4% payroll tax on earned income, and the taxation of benefits -- which means that as long as Americans keep working, money will always be flowing into the program for disbursement to eligible beneficiaries.

Though the survival of Social Security isn't in question, the sustainability of the current payout schedule, inclusive of cost-of-living adjustments (COLA), very much is. If lawmakers don't figure out how to resolve the program's estimated $16.8 trillion funding obligation shortfall between 2035 and 2094, benefits for retired workers and survivors could plummet by 24%.

Essentially, this $2.9 trillion in asset reserves serves as a bit of a buffer for Congress to get its act together and resolve the Social Security crisis. Unfortunately, the coronavirus disease 2019 (COVID-19) pandemic has made a bad situation that much worse.

Two Social Security cards lying atop a fanned pile of cash.

Image source: Getty Images.

Report: Social Security's asset reserves could run dry by 2032

Recently, the University of Pennsylvania released an analysis of the impact of COVID-19 on the Social Security program using its Penn Wharton Budget Model (PWBM). Needless to say, Social Security's Judgment Day is likely to come earlier than 2035. 

According to previous prognostications from PWBM, the Social Security program was expected to have burned through its asset reserves by 2036. That's a year later than the Trustees report has forecast for the past two years, but it still conveys the urgency that lawmakers need to address the program's unfunded obligation shortfall soon.

However, impacts from the COVID-19 pandemic are expected to adversely affect the Social Security program in a variety of ways.

  • Layoffs mean fewer people are earning wage-or-salary-based income. This means Social Security's top means of collecting revenue, the payroll tax, is adversely impacted. As a reminder, investment income and unemployment benefits are exempt from the payroll tax.
  • The Federal Reserve's push to lower lending rates means less in the way of interest income for the program's $2.9 trillion in asset reserves.
  • With a recession likely, the price for many goods and services has been pushed lower. That's bad news for the 64 million current beneficiaries, as it likely means a reduced COLA, or perhaps no COLA at all in 2021.
  • A potential period of prolonged low inflation following the COVID-19 pandemic threatens to suppress wage and salary growth, thereby slowing annual increases in payroll tax revenue collected.

Based on the PWBM projections, Social Security's asset reserve depletion date (i.e., it's Judgment Day) will move forward by two years to 2034 in a quick, V-shaped recovery, and could move forward by four years to 2032 in a slower U-shaped economic recovery.

In other words, there may only be 12 years left before sweeping benefit cuts are enacted to preserve the longevity of Social Security.

A Democrat donkey and Republican elephant squaring off atop the American flag.

Image source: Getty Images.

Why hasn't Congress fixed Social Security?

The question you're probably wondering is why haven't lawmakers resolved Social Security's imminent funding shortfall? The answer to that question isn't due to a lack of proposals. Rather, it's all about significant political differences.

For example, Democrats prefer approaching the impending shortfall by raising additional revenue. This would be accomplished by increasing or eliminating the maximum taxable earnings cap associated with the payroll tax. In 2020, all earned income between $0.01 and $137,700 is subject to the payroll tax, while earned income above $137,700 is exempt. Between 1983 and 2016, the amount of earnings exempted from the payroll tax ballooned from north of $300 billion to $1.2 trillion. Effectively, congressional Democrats would seek to raise revenue by taxing the well-to-do.

On the other side of the aisle, Republicans prefer gradually raising the full retirement age (FRA) from its current expected peak of 67 in 2022 to as high as age 70. Your FRA is the age where you can receive 100% of your monthly benefits, as determined by your birth year. Since retired worker payouts began in 1940, and through 2022, the FRA will have only risen two years. Yet, over this same period, average life expectancies at birth have risen more than 16 years. Raising the FRA would lead to reduced long-term outlays for future generations of retirees.

The real issue here is that both approaches work -- and since they do, neither side is willing to cede an inch to find common ground. The irony, though, is that both solutions are stronger together than separate.

For instance, the GOP proposal would take decades to recognize any reduction in outlays, whereas the Democrats' proposal immediately tackles the program's short-term funding shortfall. Meanwhile, the Democrats' proposal ignores a number of ongoing demographic changes, such as lower net immigration, lower birth rates, and increased longevity, which would be balanced out by the long-run cost savings proposed by Republicans.

The point is, Social Security's future will remain in doubt until Democrats and Republicans realize that their solutions are stronger together, rather than as separate proposals.

The Motley Fool has a disclosure policy.

Invest Smarter with The Motley Fool

Join Over 1 Million Premium Members Receiving…

  • New Stock Picks Each Month
  • Detailed Analysis of Companies
  • Model Portfolios
  • Live Streaming During Market Hours
  • And Much More
Get Started Now

Related Articles

Motley Fool Returns

Motley Fool Stock Advisor

Market-beating stocks from our award-winning analyst team.

Stock Advisor Returns
329%
 
S&P 500 Returns
106%

Calculated by average return of all stock recommendations since inception of the Stock Advisor service in February of 2002. Returns as of 09/24/2022.

Discounted offers are only available to new members. Stock Advisor list price is $199 per year.

Premium Investing Services

Invest better with The Motley Fool. Get stock recommendations, portfolio guidance, and more from The Motley Fool's premium services.