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Today, we have something a bit different: An answer to a question that seems to be on a lot of people’s minds today: “Will Social Security be there for me?”
How recent events impact Social Security
Over the years, I have been asked this question many times. President Donald Trump’s recent executive memorandum that called for a payroll tax deferral through the rest of 2020 has brought more attention to the question. His action highlights the fact that the viability of the Social Security program depends on more than just economics and finance. It is also a political issue.
To understand the funding for Social Security, it is important to understand that Social Security is different from a normal pension plan where money is saved during working years and benefits are paid to retirees. A few years after the Social Security Act (1935) was passed, Social Security began paying benefits. At that point, Social Security became a pay-as-you-go system. While there was some accumulation of money in a trust fund, for the most part taxes were collected and paid out quickly in benefits.
In the 1980s, this changed somewhat. A decision was made to collect more taxes so that the trust fund could be increased in anticipation of the retirement of the baby boomers. Until 2010, more taxes were collected than benefits paid out. And even after that point, the trust fund grew as interest on the trust fund’s holdings of government securities more than covered the difference between benefits paid and taxes collected.
Social Security trustees project that this will change next year, and the money in the trust fund will begin to shrink. If action is not taken, the Social Security trust fund will run out of money between 2030 and 2035. This does not mean that Social Security payments will end, as tax receipts will be enough to cover about 79% of promised benefits. But it does mean that promises made to Social Security beneficiaries will not be fully honored unless something is done.
There are two ways that the promises can be restored — either raise Social Security taxes or reduce benefits. Both are politically difficult to do, so neither of these has been done so far. Another possibility is to invest the trust fund money in the stock market, but this will subject the system to the uncertainties and volatility of the stock market.
The last major changes made to Social Security were made in the 1980s, when the system was in immediate trouble. So, it may be some time before the needed changes are made.
Still, the Social Security system is often referred to as the “third rail” of the political system. It has tremendous support from the American public, so my expectation is that these problems will eventually be solved. However, it is unfortunate that something is not being done now, since delaying the changes will require more radical changes to ensure the solvency of the system.
Much attention has been paid to Trump’s call for a payroll tax deferral. However, the trust fund still has sufficient resources to cover the benefit payments this year. Deferred tax payments do not pose the same threat as cutting taxes or the impact of the recession.
Both payroll tax cuts and economic recessions reduce revenues to Social Security. Trump is not the first president to suggest a payroll tax cut. In fact, President Barack Obama once cut Social Security payroll taxes to help workers during tough times. (The losses were made up by transfers from general revenues to the trust fund.)
A recession also cuts revenue because unemployed people do not pay taxes into the system. The longer it takes to restore employment to previous levels, the greater the loss of revenues to Social Security.
The last annual Social Security trustees report was completed before the pandemic. How all these events will affect the viability of the system will become much clearer when the trustees submit their report early next year.
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I hold a doctorate in economics from the University of Pennsylvania and taught economics at the University of Delaware for many years. Presently, I am teaching at Gallaudet University.
Disclaimer: We strive to provide accurate information with regard to the subject matter covered. It is offered with the understanding that we are not offering legal, accounting, investment or other professional advice or services, and that the SSA alone makes all final determinations on your eligibility for benefits and the benefit amounts. Our advice on claiming strategies does not comprise a comprehensive financial plan. You should consult with your financial adviser regarding your individual situation.