For the vast majority of retirees, Social Security is an indispensable source of income that's needed to make ends meet. According to the Center on Budget and Policy Priorities, America's top retirement program is responsible for pulling nearly 22.5 million people out of poverty each year, and 16.1 million of them are aged 65 and over. 

Unfortunately, this highly successful social program is also in some serious trouble that can no longer be swept under the rug. The latest annual Social Security Board of Trustees report estimates the program is facing a $20.4 trillion cash shortfall through 2096. More importantly, the Trustees report forecasts an exhaustion of the Old-Age and Survivors Trust's (OASI) asset reserves (i.e., the excess cash built up since inception) by 2034.

Although Social Security is in no danger of becoming insolvent, the current path of the program portends a 23% benefit cut is on the way for OASI recipients in just 12 years. The OASI is what provides benefits to more than 48 million retired workers.  

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Social Security benefit cuts may be on the way

How can such a successful retirement program like Social Security be in such poor financial shape? There are seven clear reasons. But before diving into them, let's address two often-cited problems that amount to misinformation.

The most pervasive Social Security myth is that Congress "stole" the program's cash reserves and should pay it back with interest. By law, Social Security's asset reserves are required to be invested in special-issue government bonds and, to a far lesser extent, certificates of indebtedness. Every cent of the program's asset reserves is accounted for in these bonds and certificates of indebtedness. No money has been stolen, and Social Security is generating interest on these assets from the federal government every year.

The other incorrect claim is that undocumented workers are harming the program. Not only are undocumented workers ineligible for a Social Security benefit, but they account for about 1% of the revenue Social Security collects each year.

With this being said, here are the seven true reasons Social Security benefits are at real risk of being cut by 23% in as little as 12 years.

1. Baby boomers retiring

The first problem should come as no surprise: Baby boomers are retiring from the labor force. They've been doing so for more than a decade and will continue to do so.

The retirement of boomers is quickly increasing the number of workers receiving a retirement benefit, which is putting downward pressure on the worker-to-beneficiary ratio. In easy-to-understand terms, not enough new workers are entering the labor force to offset the number of boomers leaving it. That's a worrisome sign for future revenue generation for the program.

2. Increased longevity

The second issue for Social Security is steadily increasing longevity. While living longer is great in the sense that we get to spend more time with the friends and family we love, it's not such a great thing for Social Security.

When the program doled out its first retired-worker payment on Jan. 1, 1940, the average life expectancy in the U.S. was about 63 years. As of 2020, the average life expectancy was 77 years. But over a more than eight-decade stretch, Social Security's full retirement age -- the age at which an eligible worker can receive 100% of their retirement benefit -- rose by just two years, from 65 to 67.

Social Security was never designed to be leaned on for decades by retirees, but that's become the norm as life expectancies have climbed.

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3. Historically low birth rates

A third reason retired worker benefits are in danger of being cut by 23% in 2034 is precipitously declining birth rates.

Based on data from the Centers for Disease Control and Prevention, the U.S. fertility rate fell to an all-time low of roughly 1.6 in 2020. The fertility rate describes the average number of children expected to be born to a woman during her lifetime. For context, a fertility rate of 2.1 is necessary to exactly replace the previous generation. 

There are a number of postulations as to why birth rates are declining, including couples waiting longer to get married and have children, improved access to contraceptives, and various economic factors (e.g., recessions and the COVID-19 pandemic). What is clear is that if birth rates don't rebound soon, the worker-to-beneficiary ratio will have further to fall.

4. Declining net-legal immigration

The fourth contributing factor to Social Security's estimated $20.4 trillion long-term cash shortfall is a near-halving in net-legal immigration.

Legal immigration is vital to the health of Social Security. Since legal immigrants tend to be younger, they're liable to spend decades in the workforce contributing revenue to Social Security via the 12.4% payroll tax on earned income. In the rolling five-year period ended in the first-half of 1997, average annual net migration into the U.S. totaled 1,771,991 people. Just two decades later, the rolling five-year annual average for net migration into the U.S. stood at 954,806 people.

Fewer legal immigrants means less opportunity for Social Security to generate much needed payroll-tax revenue from workers.

5. Growing income inequality

A fifth reason a 23% cut to Social Security checks is on the horizon is growing income inequality.

In 2022, all earned income (wages and salary, but not investment income) between $0.01 and $147,000 is subject to Social Security's 12.4% payroll tax. Approximately 94% of all workers bring home less than $147,000 annually, which means they're paying into the program on every dollar earned. Meanwhile, earned income above $147,000 is exempt from the payroll tax.

Between 1983 and 2016, the amount of earned income exempt from the payroll tax grew from around $300 billion to $1.2 trillion. Being able to tax some or all of this exempt income would certainly close some of the program's $20-plus trillion funding gap through 2096.

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6. Dovish monetary policy

The sixth reason retired workers could be kissing nearly a quarter of their Social Security checks goodbye in 12 years is the Federal Reserve's dovish monetary policy.

Although the nation's central bank has been aggressively raising interest rates since March 2022 to tame high inflation, the Fed kept rates at or near historic lows for most of the past 14 years. While low interest rates encourage borrowing, they weigh down the yields on bonds. As noted, since Social Security is required to hold its excess cash reserves in special-issue bonds, the yields on these bonds have been shrinking for years.

In other words, the Fed's monetary policy has been suppressing the interest-income earning potential of Social Security's investment portfolio.

7. Political hubris

The seventh and final reason Social Security is on track for a 23% benefit cut by 2034 is a Capitol Hill deadlock caused by political hubris.

Without getting too far into the weeds, Democrats and Republicans each have a core solution they believe will strengthen Social Security. Democrats want to raise additional revenue by increasing payroll taxation on high-earning workers. Meanwhile, Republicans prefer to increase the full retirement age to account for increased longevity.

Both solutions work, which is where the problem lies. With both parties believing they have the superior "fix," neither has been willing to find common ground with their opposition. That's an issue, because 60 votes are needed in the Senate to amend Social Security (and it's been more than four decades since either party held a 60-seat supermajority). Without some form of bipartisan cooperation, there's no way to tackle what ails Social Security.