If you are wondering about your future Social Security benefits, you are not alone. Social Security is a strange political animal. On the one hand, it is politically sacrosanct — both Democrats and Republicans have kept it off-limits in their efforts to balance the federal budget. At the same time, when polled, most younger Americans say that they do not expect Social Security to be around for them when they retire.
Both attitudes towards Social Security reflect misunderstandings about the program’s funding. Those without faith in the program should be assured that it will be around to contribute to the retirements of today’s workers, even if no one should depend on it as his or her sole retirement income.
Myth 1: The Social Security ‘Trust Fund’
Although the Social Security Administration measures its surplus or deficit in terms of a “trust fund,” in fact no such entity exists. As a result of this terminology, most Americans believe that their payroll taxes go into an account to be drawn on when they retire. In fact, their taxes simply go to pay benefits to current retirees, with the surplus going to pay other costs of government.
Currently, the payroll tax is bringing in more than is necessary to pay current retirees and those on disability: In 1999, there were revenues of $527 billion and distributions of $393 billion, resulting in a $134 billion surplus. The federal government keeps track of the surplus and in effect signs an IOU to repay the Social Security system with interest when needed.
Myth 2: Workers get less out of the system than they paid in
While the current Social Security payroll tax is 15.3 percent on income up to $106,800 a year (2010 figure), the tax rates and the wage base were much lower when most current retirees were working and contributing to the system. As recently as 1972, the maximum payroll tax paid (by the employee) was only $419 a year. Even including interest earned since the contributions were made, most retirees receive back significantly more than they contributed.
This may not be true for current workers, since both the tax and the wage base upon which the tax is determined have increased dramatically since the 1970s. Whether current workers will recover their entire investment will depend in part on how long they live, whether they are married and whether they earned a high or low wage.
Myth 3: The Social Security system is bankrupt
Due to anticipated demographic developments, at some time in the future Social Security benefits will exceed revenues from the payroll tax. This means that benefits will have to be cut or postponed, or that the difference will have to be made up from federal tax revenues, or both. The federal government can’t go bankrupt like an individual or company. It must meet its obligations, and it will do so. Additionally, dire predictions abut the insolvency of the system fail to consider the possibility of immigration or another “baby boom” increasing the number of wage earners in future years, or the effect of an increasingly productive economy.
Myth 4: Proportionality
While most people expect to receive retirement benefits proportional to their lifetime earnings, this is not exactly how Social Security benefits are determined. In calculating a retired worker’s monthly benefit check, the SSA determines a “primary insurance amount” (PIA) based on the worker’s earnings over 35 years. But it weights the first few hundred dollars of average monthly income highest, and income over $4,483 a month (in 2009) lowest. The result is that low-wage earners receive a higher benefit relative to their lifetime earnings than do higher wage earners. (This is somewhat offset by the fact that the payroll tax is based on only a portion of the higher wage earners’ taxable income.)
Myth 5: The system favors two-income couples
While the system of determining the PIA may seem to favor two-income married couples, in fact single-income married couples do better in most cases. This is because spouses of retirees are entitled at a minimum to one-half of the benefits of the retired worker. So, in effect, the married worker with a non-working spouse receives 150 percent of the benefits received by a non-married retiree with the same work history. A working spouse must have an earnings history nearly comparable to that of the main wage earner to receive benefits substantially exceeding what he or she would be entitled to without having worked.
Myth 6: ‘I can invest better’
Many people feel that they could do better if they took their payroll tax (including the employer’s contribution) and invested it on their own. That’s possible, but by no means assured. As is discussed above, if you are married and the sole or primary wage earner, it would be almost impossible to beat the extra 50 percent of benefits that come to your spouse. In addition, any calculation must take into account the disability benefits and programs for disabled children and other dependants in measuring the return on the Social Security investment. Due to the redistributive nature of Social Security, it would be very difficult for lower-wage earners to do as well investing on their own.
Social Security also has the advantage of forcing workers to save. You and your employer have to make the contributions each month. It’s portable, meaning you lose nothing by changing jobs. It’s guaranteed against bankruptcy or an employer misusing the funds. There’s no risk that you’ll dip into the funds prior to retirement for other pressing needs. Finally, for most Social Security beneficiaries, the monthly checks come tax free. Finally, Social Security is not an investment program. It’s a system under which current taxpayers support current retirees. If it is to be replaced with a forced investment program, as some suggest, provisions need to be made for today’s retirees.
In short, the Social Security system provides a secure base income for most retirees, and it will continue to do so in the future. Its redistributive nature benefits lower-wage earners at the expense of higher-wage earners, but they and their employers contribute a higher proportion of their earnings as well. Under any measure, most current retirees receive back significantly more than they contributed. Due to significant increases in the payroll tax and the wage base, this result cannot be assured for future retirees. But that does not mean that the system is at risk of going bankrupt, as many Americans fear.