Mar 4, 2024
While the U.S. was in the throes of the Great Depression, Social Security was created to provide economic security to vulnerable Americans. The federal program now supports around 70 million beneficiaries each year, including retirees, disabled workers, surviving spouses and dependents.
However, this essential safety net will face a funding shortfall in the next decade if it's not strengthened.
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This means an automatic 20% benefit cut for beneficiaries starting in 2034, when the trust fund reserves for Old-Age and Survivors Insurance (OASI) and Disability Insurance (DI) are depleted — if the U.S. government does nothing to stop that from happening.
According to one estimate, millionaires stopped contributing to Social Security on March 2 this year. Scrapping the payroll tax cap that allows this to happen is one way of expanding Social Security, say experts.
How did we get here
“Since 2010, Social Security has paid out more in benefits and expenses than it has collected in taxes and other non-interest income,” wrote Mark J. Warshawsky, a senior fellow at the American Enterprise Institute (AEI) and former deputy commissioner for retirement and disability policy at the Social Security Administration (SSA).
In 2022, the program ran a deficit of $22.1 billion, according to the Social Security Board of Trustees. Put simply, it took in $22.1 billion less in income (taxes and interest) than it spent on benefits and administration.
This trend of costs exceeding income is expected to continue over the 75-year projection period through 2097. The total funding shortfall for this period is expected to be $22.4 trillion. After the trust fund depletion in 2034, income is projected to be sufficient to pay 80% of benefits, and this will decline to 74% for 2097.
Part of the problem, Warshawsky says, is that Social Security is in desperate need of reform. The program hasn’t been radically altered since it was first designed in 1935.
Since then, many demographic changes have taken place. Most importantly, Americans are living longer and birth rates have been declining.
"When benefits were first paid in 1940, 46% of adult males couldn’t even make it to 65, and for those who did, the average additional life expectancy was less than 13 years. For women, it was not a lot better," wrote economist C. Eugene Steuerle and journalist Glenn Kramon in a recent op-ed for The New York Times.
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They say the ratio of covered workers to beneficiaries has declined from 4.0 in 1965 to 2.7 today, with 2.3 projected in two decades.
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Weighing the options
There are several possible options to bridge the gap between income and costs for Social Security, though many are likely to be unpopular. They all include cost cutting, raising revenues or a combination of the two. We're already on track to uniformly cut benefits in 2034. Here are some alternatives.
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Increase revenues by hiking the payroll tax rate: This option could be enough to solve the insolvency issue on its own. An immediate increase in the payroll tax rate from 12.4% of covered earnings to 15.84% of covered earnings would be enough to cover all scheduled benefits payments throughout the 75-year projection period, according to analysts at the Congressional Research Service. They say there's also the option of delaying the tax hike to 2034, but the rate would need to be increased by 4.15 percentage points.
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Cut benefits for high earners: There are two problems with this solution, according to the experts at the Center on Budget Policy and Priorities (CBPP) — It wouldn’t save significant money unless they cut benefits for middle-class retirees as well and such measures would also pose high administrative costs.
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Eliminate the taxable maximum ($168,600 in 2024) so all earnings are taxed: This is a possible solution from the American Academy of Actuaries. They say it could be a large tax increase on high income workers (and their employers), and it would not be enough by itself, as it would cover only 78% of the 2034 shortfall. They also shared the option of taxing all earnings above $400,000.
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Raise the retirement age: This will obviously be a problem for workers in physically demanding professions. It would dispropotionately harm seniors with low incomes, per the CBPP.
Some more options provided by the American Academy of Actuaries include taxing investment income, estates and gifts (none of which have ever been taxed for Social Security), a reduction in cost-of-living adjustment (COLA), increasing investment income by using general revenues (or increased income taxes) to create a separate fund that invests in equities etc.
While there are several approaches, making a decision soon is probably better than waiting. Congress will have more reform options “if they act sooner,” according to the American Academy of Actuaries’ brief. “Earlier action allows for tax increases and benefit reductions to be phased in gradually and makes it less like
Don’t panic just yet
While increasing taxes may meet with some resistance, the CBPP says that polls “show a widespread willingness to pay more to strengthen the program.”
The CBPP also says that future workers are expected to “be more prosperous than today’s” and that the “average worker will be nearly twice as well off in real terms by 2075,” citing the Social Security Trustees Report. It added, "It is appropriate to devote a small portion of those gains to the payroll tax, while still leaving future workers with substantially higher take-home pay.”
Should you start to panic? While Social Security may need shoring up, retirees can still expect to receive 80% of their benefits for many decades. So, while this isn’t ideal, benefits won’t suddenly stop, and the program won’t suddenly go bankrupt.
But there are ways you can prepare, including cutting spending and increasing your saving rate, paying down any expensive debt you have, maintaining a diversified investment portfolio and determining the right asset allocation for your age, and finding ways to work longer.
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Vawn Himmelsbach is a veteran journalist who covers tech, business, finance and travel. Her work has been featured in publications such as The Globe and Mail, Toronto Star, National Post, CBC News, Yahoo Finance, MSN, CAA Magazine, Travelweek, Explore Magazine and Consumer Reports.
