My Comments: If you have not already signed up for Social Security, chances are good you will draw the short straw. If you are now getting monthly benefits, chances are you have a longer straw. Me, I have no idea.
What we do know is that sooner or later the crisis will become immediate and it will get fixed. The problem is if it gets fixed now, the pain will be far less. But that’s not how Congress works, so don’t hold your breath.
Sean Williams \ Jul 30, 2017
The longer Congress waits to act, the bigger the actuarial deficit grows.
Social Security is an absolute monolith of a program. Last year, the program generated $957 billion in revenue and wound up spending $922 billion, a vast majority of which went to the more than 25 million retired workers who currently receive a monthly check from the program.
However, this vital program, which is currently cash-flow positive, is also facing some major issues. And, according to the latest report from the Social Security Board of Trustees, major changes could be just around the corner.
Social Security’s foundation is crumbling
The heart of the problem for Social Security is this: By 2022, it’ll begin paying more in benefits than it’s generating in revenue from payroll taxes, interest income earned on its asset reserves, and taxes on Social Security benefits. The Trustees have estimated that after reaching approximately $3 trillion in 2022, Social Security’s cash reserves will be completely exhausted 12 years later. By 2034, should Congress fail to enact any new laws to generate additional revenue for Social Security, benefits will need to be cut by as much as 23%. Enacting a steep 23% benefits cut across the board would keep the program solvent for another 75 years (through 2091), but it would also be a devastating blow to the more than 60% of retired workers who currently rely on Social Security for at least half of their monthly income.
Understanding that Social Security is coming to a crossroads, the public has rightly looked to Congress to fix things. Ironically, a lack of solutions isn’t the problem. Both Democrats and Republicans have put forth Social Security fixes that would resolve the estimated $12.5 trillion budgetary shortfall and provide financial certainty into the early 2090s. Unfortunately, since Washington politics is so partisan, neither party has been willing to work with the other. Thus we have multiple solutions that work, and no lawmakers willing to vote those plans into law.
A payroll tax hike of this much would fix Social Security
Arguably the simplest fix of all would be to increase the payroll tax, which is a 12.4% tax on all earned income between $0.01 and $127,200, as of 2017. Increasing the payroll tax on all American workers would generate additional income and possibly make benefit cuts unnecessary, at least through 2091. Keep in mind that if you’re employed by someone else, your employer pays half of your Social Security tax (6.2%), leaving Americans who aren’t self-employed to pay just 6.2% of their earned income up to $127,200 into Social Security. Any earned income above $127,200 is free and clear of the payroll tax.
Just how big of an increase is needed to fix Social Security? According to the Trustees report, the actuarial deficit grew by 17 basis points from the previous year to 2.83%. In plainer terms, this means that the Trustees estimate that a 2.83% increase to the payroll tax right now would eliminate the $12.5 trillion cash shortfall between 2017 and 2091. It would also likely mean no benefit cuts for anyone. It’s worth noting that the longer Congress waits to act, the bigger the deficit gets.
What would this tax hike actually look like? Self-employed folks would see their share of Social Security payroll taxes rise from 12.4% to 15.23% on earned income up to $127,200, while the average American who’s employed by someone else would see their responsibility increase by 1.415% (half of the 2.83%) to 7.615%. Assuming the average American makes around $30,000 a year, we could be talking about handing over an extra $425 a year for Social Security payroll taxes under such a scenario.
The public has previously shown their support for gradual increases to the payroll tax to help fix Social Security, but support for tax hikes usually fizzles out beyond a 0.4% increase in average worker payroll taxes (0.8% overall), which isn’t anywhere near the projected 1.415% (2.83% overall) needed to offset demographic changes to Social Security.
A potentially easier path to more revenue
There is, however, a potentially easier way to generate more revenue that wouldn’t require a 2.83% payroll tax hike on all workers — and it’s a pathway that a majority of Americans support. Raising the maximum earnings tax cap would substantially reduce Social Security’s cash shortfall, while eliminating it would wipe out the deficit entirely.
The aforementioned $127,200 figure, which often increases annually with the Wage Index, represents the peak dollar amount that is assessed the 12.4% payroll tax. Approximately one out of every 10 workers earns more than this peak figure annually, meaning they get an exemption on a portion of their earned income, while 90% of working Americans pay into Social Security with every dollar they earn. Raising the maximum earnings cap so that it’s reinstituted on earned income above, say, $250,000 or $400,000, would require the wealthy to contribute more, and it would resolve a good chunk of the program’s cash shortfall. Eliminating the cap entirely and allowing all earned income to be taxed would be a popular and easy fix.
So, why not simply make the wealthy pay more? After all, the well-to-do are unlikely to be as reliant on Social Security income during retirement as lower-income folks. The answer is that Social Security’s monthly payouts at full retirement age are capped at $2,687, as of 2017. Like the maximum taxable earnings cap, the maximum monthly payout at full retirement age adjusts annually, often moving similarly to the rate of inflation. Because there’s a cap on what seniors can receive each month in retirement, there’s also a cap on how much income can be taxed. In other words, it doesn’t make a lot of sense to have a self-employed individual pay 12.4% on $5 million in income if all he or she can net once retired is $2,687 a month at full retirement age. The cap does serve a purpose, after all.
The simple question is: Can lawmakers on Capitol Hill find an amicable solution to boost revenue? If history is any indicator, seniors and pre-retirees should be concerned.