Social Security Trust Fund Insolvent By 2033, Really?
In this issue:
1. Latest Social Security & Medicare Trust Fund Report
2. Understanding Social Security & Disability Trust Funds
3. Social Security Checks To Drop By 25% In 12 Years
4. How To Fix Social Security – No Good Options
Overview – Latest Social Security & Medicare Trust Fund Report
Each year, the Social Security Board of Trustees releases a report which analyzes the current and projected financial health of Social Security and Medicare. We should all care about what the annual reports say because these programs provide essential benefits for seniors. The latest and previous reports have issued dire warnings of coming benefit shortfalls.
There was a lot of anticipation about what the Trustees would find this year as they weighed the impact of the coronavirus pandemic on these programs. In the end, the 2021 report wasn’t quite as bad as many expected, but it still wasn’t good.
“The finances of both programs have been significantly affected by the pandemic and the recession of 2020,” the Trustees said in their latest report issued last week.
This year’s report found a worsening financial situation partly because millions of workers lost their jobs amid the COVID-19 pandemic, which has led to a significant drop in Social Security payroll taxes paid into the system. This means Social Security benefits will drop significantly in the not so distant future – if Congress doesn’t take action.
Let’s take a look at the details of the latest report today.
Understanding The Social Security & Disability Trust Funds
Many Americans don’t understand the Social Security and Disability trust funds and how they work, so let’s start with some basics.
The Social Security trust funds are financial accounts held by the US Treasury. There are two separate Social Security trust funds, the Old-Age and Survivors Insurance (OASI) Trust Fund which pays retirement and survivors benefits, and the Disability Insurance (DI) Trust Fund that pays disability benefits to workers who have been hurt on the job.
Social Security taxes and other income are deposited in these accounts and benefits are paid from them. The only purposes for which these trust funds can be used are to pay benefits and program administrative costs.
The Social Security trust funds hold money not needed in the current year to pay benefits and administrative costs and, by law, must invest it in special Treasury bonds which are guaranteed by the US government. A market rate of interest is paid to the trust funds on the bonds they hold, and when those bonds reach maturity or are needed to pay benefits, the Treasury redeems them.
Last year, the Social Security trustees said the Old-Age and Survivors Insurance Trust Fund, which pays retirement and survivors benefits, would be insolvent by 2034. The coronavirus took a year off that projection. The trustees now project the OASI fund will be insolvent in 2033.
But let’s be clear: insolvent doesn’t mean the trust funds are completely out of money. It just means they will no longer be able to pay out full benefits. By 2033, there will be enough income to pay out only 76% of scheduled payments, the trustees now project.
Let’s put this cut in real numbers. As of July, the average monthly Social Security payment just for retired workers was $1,557. By 2033, without new funding legislation by Congress, that payment could be cut to only $1,183. I doubt this will happen, but I’m getting ahead of myself.
Social Security Checks To Drop By 25% 12 Years From Now
The Social Security OASI trust fund was in trouble well before the COVID-19 pandemic, mainly because the retirement of the Baby-Boom generation is expanding the number of beneficiaries much faster than the increase in the number of workers paying into the system. In 2021, an average of 65 million Americans will receive a Social Security benefit each month.
Social Security will see negative cash flow of $147 billion this year, and the deficits will keep growing as the population ages and there are fewer workers paying into the system relative to the number of retirees collecting benefits.
Those deficits will eat up the Social Security trust fund over the next decade, and insolvency awaits sooner than previously expected according to the latest report.
The Disability Insurance Trust Fund is in relatively better shape than the OASI, in part because applications for benefits have been decreasing since 2010. So, that fund is not estimated to become depleted until 2057, but notably eight years earlier than the 2020 estimate just one year ago. The shortfall means only 91% of benefits will be payable.
The Hospital Insurance Trust Fund, or Medicare Part A, which helps pay for services such as inpatient hospital care, is projected to be able to pay scheduled benefits only until 2026. If the fund’s reserves are depleted, total program income just five years from now will be enough to cover only 91% of benefits that year, and only 78% by 2045, according to the latest report for this fund.
The Social Security trust funds are actually an accounting fiction – they it contains nothing except IOUs that the government has written to itself over the years. In some ways, then, what the country is really facing is the evaporation of the pleasant fiction of the trust fund as a backstop for its largest entitlement program.
The reality is 57% of retirees rely on Social Security as their main source of income, and this number grows almost every year.
The big question remains the same: when will Congress take this imminent crisis seriously?
The answer: It won’t until it has to – probably not until the next financial crisis arrives.
Question Is: How To Fix Social Security – No Good Options
Over the years, lawmakers have made several changes, including an increase to the payroll tax that funds Social Security, to keep the program solvent for a few more decades. This time, however, there is almost no indication that either major party is prepared to act.
The bulk of Social Security's funding comes from a 12.4% payroll tax which is split 50/50 between employers and employees. Only the first $142,800 of income is subject to the tax. Lifting or removing the cap, or raising the tax rate, would generate more revenue for the system.
Alternatively, reducing benefits for some or all beneficiaries – either by instituting across-the-board reductions or by means-testing in some way – could bring Social Security's liabilities in line with its assets.
Ensuring Social Security's solvency for the next 75 years would require hiking the payroll tax by 3.36 percentage points today or making an across-the-board 21% cut in benefits. Both are politically unacceptable. This is why I say it will take a financial crisis for true reform to happen.
The more time that passes, the heavier the lift will be. According to an analysis from the Committee for a Responsible Federal Budget, which advocates for low deficits and sustainable entitlement programs, delaying action until insolvency hits in 2033 will make the needed tax increases or benefit reductions about 25% larger than if Congress acted today.
In either case, the changes will be seriously disruptive to Americans' retirement plans and their financial security.
When Social Security was launched in 1935, the average life expectancy for Americans was 61. That means the average person died four years before qualifying for benefits. It was imagined as a safety net for the truly needy, not a conveyor belt to transfer wealth from the younger, working population to the older, relatively wealthier retired population.
Now, the average American lives to 78, more than a decade past the age (67) when they can start collecting full Social Security benefits – and 16 years beyond the eligibility age (62) for early retirees to collect partial benefits.
Restoring Social Security to its proper place as an old-age entitlement program and not a national pension system would be a good place for Congress to start. Realistically, however, that means raising the eligibility age for benefits. And given the federal government's track record of awful fiscal management, it also makes sense to empower individuals to control more of their retirement savings.
Privatizing Social Security – or at least letting individuals opt-out of the program so they can escape the sinking ship – would be a huge win for younger workers who have time to save on their own.
Finally, inflation always takes a toll on Social Security. While Social Security’s annual cost of living adjustment is expected to rise by 5-6% next year, that's significantly higher than the 1.3% and 1.6% adjustments provided in the past two years – and is not expected to continue to rise at such a rate going forward.
In closing, Congress has abandoned any pretense of fiscal sanity, with trillion-dollar budget deficits as far as the eye can see. But the math governing Social Security's decline is inexorable. We all know it’s going to end in a disaster. Waiting any longer to take it seriously only guarantees a bigger mess later on.
Wishing I had better news,
Gary D. Halbert