The clock is ticking for Congress to shore up Social Security benefits.
The latest projections from Social Security’s actuaries show the program’s trust funds are due to run out in 2034, at which point 80% of benefits will be payable.
If Congress does not act by 2034, the program may be faced with an automatic 20% benefit cut for current beneficiaries, the need to increase Social Security taxes by 25% or a combination of benefit cuts and tax increases, according to a new report from the American Academy of Actuaries.
The program has been here before.
In 1983, Social Security’s trust funds were also close to depletion when a host of changes were passed by Congress.
But there were some advantages then that may not be available now. For example, there was more time for benefit changes, such as an increase to the retirement age, to be gradually phased in.
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Moreover, the cash shortfall was just 1% of taxable payroll. Today, it is three times as large, or 3.12% of taxable earnings, according to the American Academy of Actuaries.
Addressing the problem sooner rather than later can help in several key ways, according to the member professional organization.
Early action would make it less likely a 25% payroll tax increase would be needed in 2034.
Moreover, benefit cuts may also be smaller.
Making adjustments now would also give current and future beneficiaries a better idea of what to expect.
“The sooner you can have Congress come together and come up with some options to address these challenges, the better it is for the American people,” said Linda K. Stone, senior pension fellow at the American Academy of Actuaries.
“There’ll be more time for individuals to understand what’s happening and adjust their own financial plan,” she said.
While polls show the program’s shortfall has prompted worries that Social Security benefits will dry up, the agency recently moved to quash those fears.
“It’s a long way from not having any money to pay for any benefits,” Security Administration Chief Actuary Stephen Goss said of the program’s funding in a recent agency interview.
“So, people should not worry about the trust fund running out of money, as is sometimes said, and having an inability to pay any benefits,” he said.
Lawmakers may be able to select from the following menu of changes to shore up the 2034 shortfall, according to the American Academy of Actuaries’ report.
Tax increases
1. Eliminate the taxable maximum so all earnings are taxed. Currently, earnings up to $160,200 are taxed for Social Security. Eliminating that cap could make it so high earners pay more into the program. Because this change would cover just 78% of the 2034 shortfall, other changes would be needed according to the American Academy of Actuaries.
2. Tax all earnings above $400,000 or make 90% of all earnings subject to the payroll tax. These two changes may cover 55% and 36% of the shortfall, respectively, according to the report.
3. Increase the payroll tax rate by 25%. By raising the Social Security payroll tax rate to 7.75% from 6.2% for both workers and employees, that may result in enough to pay 100% of benefits in 2034. However, that may not be enough to cover all benefits in subsequent years. Moreover, the higher tax rate may be burdensome for low-income workers.
4. Tax investment income, estates, gifts and earnings such as carried interest. These areas have never been taxed for Social Security, which may prompt resistance, the report notes. While the changes may be implemented gradually, they would need to start sooner to eliminate the 2034 shortfall, the report notes.
Benefit cuts
1. Reduce benefits for high-income individuals who have not yet claimed. Lawmakers may approach this in multiple ways. People at the high end of the benefit formula may have their replacement rate reduced to 5% from 15% over five years. People above a median income could have their replacement rate reduced to 10% from 32%. Additionally, they may opt to limit the growth of the initial benefit for people at the taxable maximum, or $160,200. Or, a means test could eliminate benefits for people with high incomes or assets. These proposals would have varying impacts on the 2034 shortfall.
2. Gradually raise the full retirement age. The full retirement age is the point at which beneficiaries are eligible for 100% of the benefits they’ve earned. That age is moving up to 67, based on changes enacted in 1983. To reflect longer life spans and careers, lawmakers may consider pushing that age higher. That may include raising the age by about one month every two years or by two months per year for 12 years. Those changes may affect 3% to 10% of the 2034 shortfall, respectively, if implemented soon. Importantly, those policies may be paired with offsets to protect those with low incomes who may have shorter life spans and may not be able to work as long.
3. Reduce the annual cost-of-living adjustment. The measurement for Social Security’s annual cost-of-living adjustment may be changed to the chained consumer price index, which would reduce benefit increases by about 0.3 percentage points each year. That change would cover 13% of the 2034 shortfall, according to the American Academy of Actuaries. In comparison, another proposal to change the COLA measure to the consumer price index for the elderly, or CPI-E, would increase the annual benefit adjustments by 0.2 percentage points on average. Meanwhile, costs would increase by about 8% of the 2034 shortfall with that change, the report found.
Other changes may also be implemented, yet may not impact the 2034 shortfall, the report found.
Moreover, addressing the shortfall for that 2034 date may not fix the program forever, the report notes.
Earlier this year, the American Academy of Actuaries launched a tool to let consumers decide which combination of changes they would choose to shore up Social Security’s finances.