For years, news outlets have been churning out headlines like "Social Security Is Going Bankrupt" and "Don't Count on Social Security." And although it's true that Social Security is unsustainable in its current form, these splashy headlines are spreading the misconception that Social Security will soon disappear, leaving Americans who spent decades paying into the system high and dry.
Here's the truth about Social Security -- and why it will still be there for you.
The trust funds are running out of money
First, the bad news. Social Security will eventually run out of money unless something changes. The American population is simply aging too fast, and there isn't enough new money flowing into the system to cover all of the benefits we've promised to retirees. If the projections released by the Social Security Board of Trustees are correct, the Social Security trust funds will run out of money entirely by 2034, at which point Social Security will only be able to pay out as much as it collects in payroll taxes.
Social Security taxes are currently 12.4% of taxable payroll -- half paid by the employee and half paid by the employer. However, the costs of the program are equal to 14.1% of taxable payroll and rising. By 2038, Social Security benefits are expected to exceed 16.7% of taxable payroll.
The Board of Trustees estimates that the program's trust funds will run at a large deficit until policy changes are made: "The Trustees project that this annual cash-flow deficit will average about $76 billion between 2015 and 2018 before rising steeply as income growth slows to its sustainable trend rate after the economic recovery is complete while the number of beneficiaries continues to grow at a substantially faster rate than the number of covered workers."
The trustees expect unfunded obligations over the next 75 years to total $10.7 trillion.
But it's not as bad as you may think
Before we deem Social Security DOA, let's put this problem into perspective. First of all, Social Security taxes are not the only money flowing into Social Security. The reserves in the trust fund are invested in Treasury securities, and thus they earn interest.
Social Security brought in $98 billion in interest in 2014, in addition to $786 billion in tax and other non-interest revenue. Altogether, that's $25 billion more than the benefits that were paid out -- a substantial margin for the time being. The overall trust fund balance isn't expected to start declining until 2020.
Additionally, if the system runs out of reserves in 2034 as forecast, then the money flowing in will still be able to cover 79% of scheduled benefits. So, in a worst-case scenario, Social Security will still be able to pay out nearly $800 of every $1,000 you're expecting.
What can we do?
There are several ways to fix Social Security, and most proposed solutions fall into one of two main categories: increasing taxes or reducing benefits. American politics being what it is, the solution will most likely be a combination of the two.
There are several proposals for raising Social Security taxes. One popular solution calls for lifting the maximum amount of wages subject to Social Security tax from the current limit of $118,500 to a level that would include 90% of all earnings (currently around $250,000). According to a study by the National Academy of Social Insurance and Greenwald & Associates, this would take care of 29% of the shortfall. Another option would be to lift the cap entirely, making all income taxable for Social Security, which would have an even bigger effect, though it's not such a popular idea among high-income Americans.
Another solution would be to increase the payroll tax by 1 to 2 percentage points above the current 6.2%. According to the trustees' report, an increase in the payroll tax to 15.02% (that's 7.51% from both employers and employees) would make the system solvent for another 75 years. The NASI-Greenwald study found that raising the Social Security tax to 14.4% would eliminate 52% of the shortfall and would be supported by most people so long as it were phased in over a 20-year period.
Meanwhile, a 16.4% across-the-board benefit cut would have the same effect as raising the payroll tax to 15.02%. Universal benefit cuts are extremely unpopular on both sides of the political aisle, but there are other ways to reduce the amount Social Security is paying out. For example, we could cut benefits only for high-income retirees who aren't as reliant on this income. We could also raise the full retirement age by a year or two. However, these aren't quite as popular as the proposed tax hikes.
The NASI study found that Americans' preferred solution would be a combination of changes that would include:
- Eliminating the earnings cap entirely over 10 years
- Increasing the payroll tax rate to 14.4% of earnings over a 20-year period
- Increasing the cost-of-living adjustment to better reflect seniors' rising costs
- Keep the full retirement age at 67
Such a package would have widespread support across different generations, income levels, and political parties.
Will something be done?
History tells us that Congress will act to bolster Social Security, but I wouldn't be surprised if nothing got done until the trust funds are nearly gone. When Congress finally acts, it's entirely possible that your Social Security taxes will increase and your full retirement age will rise. However, I can say with near certainty that something will be done, and Social Security will be there when you retire.
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