By Dr. Steven Weisbart, Chief Economist, Insurance Information Institute

Beginning in 2020, the Social Security fund for retirees will be paying out more than it is taking in. This means that if there are no significant changes, in about 2034 the fund will exhaust the surplus it had built up since 1983. In that case, income to Social Security (from FICA taxes) will only be able to fund about 75 percent of benefits payable. It is for this reason that surveys show that many people under age 50 believe that Social Security won’t be available to provide retirement income for them.

Since Social Security income will be an important part of virtually everyone’s retirement, and since 2035 isn’t very far off (in financial planning terms), we should all be mindful of what might happen, and what we can do now to cope with adverse scenarios.

The government currently has no plan for what to do when the money runs short. One possibility is that everyone’s check in 2035 will be for 75 percent of what it was in 2034. Another possibility is that all those who received checks in 2034 will get the same amount in 2035 and new recipients will have benefits trimmed to fit the remaining funds. A third possibility is that those who are entitled to the highest dollar benefits will get nothing (on the presumption that they had high incomes and so likely have other sources of retirement income) so that those with smaller benefits can be paid their whole entitlement. And other possibilities exist, too.

It’s also possible that Congress will act to change the program so that none of these possibilities take place. Indeed, earlier this year H.R. 860 (The Social Security 2100 Act) was introduced in the U. S. House of Representatives to do just that. The House Ways & Means Committee held a hearing on this bill on July 25, 2019. As of July 30, the bill had 211 co-sponsors—nearly enough for the full House to pass the bill and send it on to the Senate.

There are essentially seven major provisions in H.R. 860. Two of them raise payroll taxes to help fund Social Security benefits. Oddly, other provisions raise Social Security benefits. The two that raise payroll taxes are:

• Payroll subject to taxation. Currently, Social Security payroll tax (on employee and employer) currently stops at $132,900 (indexed by increases in the average wage). H.R. 860 would create a new payroll tax beginning at $400,000 without cap. The $400,000 would be frozen (not indexed), so that over time, an increasing number of people would be affected by it.
• Payroll tax rate increase. Currently the payroll tax is 6.2 percent on employer and employee. H.R. 860 would raise it by 0.05 percentage points per year over 24 years (beginning in 2020) up to 7.4 percent (in 2043) each on employer and employee. Note that this higher rate would apply to payroll income up to $132,900 (indexed) and payroll income of $400,000 and over (not indexed). Note that if average wages grow at 2 percent per year, the $132,900 in 2019 would become $213,800 in 2043 and keep climbing after that.

The provisions that raise Social Security benefits are mostly focused on low- and moderate-income earners:

• There would be a small increase in the formula for the lowest “tier” for computing benefits. This would affect everyone receiving benefits. The percent effect on checks would depend on the base amount but because this change affects only the lowest tier, it would have the greatest effect on those whose average career wage was low. One actuary estimated the dollar increase to be $28.
• Cost of living adjustment (COLA) change. Currently, the COLA for Social Security is the CPI-W (the cost of living for wage earners). Since 1982 the Bureau of Labor Statistics has been computing a cost-of-living index for elderly consumers (62 and over)—designated the CPI-E—which H.R. 860 would substitute for the CPI-W in the Social Security COLA formula. Because the CPI-E weighs spending on medical care and housing more heavily than does the CPI-W, and because prices in these categories have been rising faster than other categories, it is estimated that if past trends continue, this change could increase the COLA by 0.2 percent per year.
• Alternative minimum benefits. For individuals who worked for more than 10 years, the bill creates an alternative minimum benefit. A qualifying beneficiary would receive that alternative minimum if it is higher than the standard calculated benefit amount.
• Income taxation of Social Security benefits. The thresholds for income taxation of Social Security income currently are expressed in frozen dollar amounts but H.R. 860 would double these amounts. This would lower the income to the Social Security reserve funds but would make Social Security income-tax-free for more people.
• Earnings-related benefits. New (but tiny) additional benefits for retirees whose average earnings were $400,000 and above to recognize the new payroll taxes they’ll pay while working.