Last month the US Academy of Actuaries released their annual Trustees Report on Social Security. Like previous years, the report found that the Old-Age and Survivors Insurance (OASI) Trust Fund, commonly referred to as the Social Security Trust Fund, is expected to run out of funds in 2033. Some reports cite 2035 as the depletion date; that is calculated including the disability portion (DI) of Social Security. However, they are legally separate programs (DI is projected to be funded through 2098) and we will consider them independently. Beginning in 2034, the actuaries estimate that continuing income (payroll taxes) will only be sufficient to pay 79% of scheduled benefits. Understandably, this report often causes retirees or near retirees to worry about losing future Social Security benefits. Our goal is to further educate clients on the situation and advise on how Social Security may affect their finances.
How Did We Get Here?
Social Security benefits were originally static. Congress needed to pass a law to change benefits, which they did somewhat regularly. That changed in 1977 when benefits became automatically indexed to wage increases. This resulted in more generous benefits, and had the unintended effect of making the Social Security program much more dependent on demographics.
The 1978 Trustees Report showed that the Social Security Trust Fund would last until 2028. However, poor economic conditions and the small balance of the trust fund led to it being nearly depleted by 1983. Congress implemented several reforms in 1983, most notably raising the retirement age from 65 to 67 and raising payroll taxes, both phased in over time. Aided by the rise of the Baby Boomers and strong economy, the Social Security Trust Fund began to rise dramatically in subsequent years.
Changing demographics, specifically lower fertility rates and longer lifespans, have challenged the health of Social Security in recent decades. Benefit payments exceeded payroll tax receipts for the first time in 2010, and have done so each year since. Last year, the program took in $1.17 trillion in total income, and paid out $1.24 trillion in total benefits, for a net reduction from the trust of $70.4 billion. The current balance of $2.64 trillion is down from its 2017 high of $2.82 trillion, but still above the 2010 balance of $2.43 trillion. Interest earned on holdings in the trust fund, US Treasuries, have made up for the shortfall in taxes in some years (all data from SSA.gov).
What Can Be Done to Fix It?
We don’t think Social Security is doomed; there are dozens of reforms that lawmakers could make to the program. There does not appear to be much political will in the current environment to discuss any reforms. Unfortunately, the longer it takes to make changes, the more drastic they will have to be. But we do believe that politicians will eventually do the right thing – after all other options have been exhausted. We discuss several of the most likely reforms below.
Raise the retirement age from 67 to 70. We think this is fairly likely but is not expected to be sudden. The 1983 reforms that raised the retirement age did so in a phased manner beginning in 2000. We think lawmakers can use a similar strategy again.
Remove the cap on wages subject to the payroll tax – Currently only wages up to $168,600 are subject to the Social Security portion of the payroll tax. Accordingly, income above that level is not considered when calculating one’s Social Security benefit. Congress could increase or remove this cap without a corresponding increase in benefits. We think some version of this is likely.
Means test benefits – Reforms could include reducing one’s benefits based on the amount of non-Social Security income in retirement and/or asset balances. We think some version of this is moderately likely.
Increase the payroll tax rate – The payroll tax rate, 10.60% towards Social Security (a total for 15.3% including disability and Medicare), has increased 20 times from its initial level of 2% in 1937. However, except for a temporary reduction in 2010 and 2011, it has not changed since 1990. We think an eventual increase is this rate is possible.
Reducing benefits via a change in the benefit formula – We don’t think this is particularly likely.
What Should I Do About It?
If you are retired or near retirement, it is unlikely that your benefits will be cut, in our opinion. Those under the age of 50 (potentially 55), especially high earners, should expect some reduction in benefits compared to the current status quo. However, we don’t think that Social Security is going away. According to the report, the program is 90% funded over the next 25 years and 83% funded over the next 50.
The uncertainty facing the future of Social Security highlights the importance of focusing on the things you can control – among them being your savings rate, spending habits, asset allocation, and having a plan in place. It is also important to think of Social Security in the context of your overall financial situation rather than in isolation. We are happy to talk through your Social Security questions and advise you on your ideal claiming strategy.
