For the past eight decades, Social Security has been providing a financial foundation for our nation’s retired workforce. Today, over 22 million people are lifted out of poverty as a result of their monthly payout, and more than 15 million of these folks are retired workers. If Social Security didn’t exist, elderly poverty rates would soar and the long-term disabled would also be in pretty big financial trouble. In other words, the importance of this program can’t be overstated enough.
However, it’s also a program that’s facing some very real challenges in the years that lie ahead. According to the newest annual report from the Social Security Board of Trustees, the program will begin spending more money than it collects in 2020 and the nearly $2.9 trillion currently in asset reserves will be completely exhausted by the year 2035. Unless additional revenue is generated and/or expenditure cuts made, an across-the-board benefit reduction of up to 23% could await retired workers.
Social Security has a lot of problems…
If you’re wondering how the most successful social program in our nation’s history could get into such trouble, understand that there isn’t one single factor to blame. Rather, it’s a combination of factors working together to create this mess. In no particular order:
- Boomers are leaving the workforce in greater numbers, thereby weighing on the worker-to-beneficiary ratio.
- Americans are living considerably longer than they were when the Social Security program was first designed and are therefore able to receive a payout for a longer period of time.
- More earned income than ever ($1.2 trillion) escaped Social Security’s payroll tax in 2016.
- U.S. birth rates are at a four-decade low, putting even more future pressure on the worker-to-beneficiary ratio.
There are other factors, too, that can be blamed to a lesser degree. For instance, the Federal Reserve’s loose monetary policy that kept interest rates near historic lows for more than a half-decade has led to reduced interest income for the Social Security program.
… but rising national debt isn’t one
One factor that’s generally not a big concern for Social Security is the federal government’s rising national debt levels, which stood at $22.5 trillion as of this week. The thesis here is as follows: If the federal government continues to run annual spending deficits, the amount we owe as a nation will rise.
This suggests that interest payments for the government will increase, which could jeopardize Social Security’s ability to pay out benefits. However, this idea isn’t entirely accurate on two accounts.
For starters, the only aspect of rising national debt levels that’s of any concern to Social Security are the interest payments the program currently receives from the federal government on its nearly $2.9 trillion in asset reserves.
As you may know, the Social Security Administration is required by law to invest its net-cash surpluses into special-issue bonds and, to a lesser extent, certificates of indebtedness with varying yields and maturities. In effect, the federal government has a readily available source of borrowing from Social Security’s asset reserves and in return, it pays a hefty sum of interest into the program each year. Last year, Social Security generated $83.3 billion in interest income, or more than 8% of the total income brought in by the program.
If national debt levels were to continue rising and the amount of interest the federal government had to pay to service this debt soared, then yes, it could be difficult for the government to meet the interest payments to the Social Security program.
But understand that national debt levels and interest rates would probably have to climb significantly from where they are now for such a scenario to play out. In other words, this is something that would happen generations down the road. Yet according to the Trustees report, the program’s asset reserves – and thus its ability to generate interest income – will be exhausted by 2035. If there aren’t any asset reserves, then rising debt levels are of no concern.
Social Security is funded independently of the General Fund
The other very important consideration to make here is that concerns about rising national debt levels and subsequent interest payments affect the federal government’s General Fund. Social Security is not part of the General Fund. Instead, it has three separate sources of funding, two of which are recurring sources of revenue for the program.
As noted, Social Security collected $83.3 billion in interest income on its asset reserves in 2018. That’s one source of income, albeit it could disappear if Congress doesn’t amend Social Security by generating more revenue and/or cutting outflows.
A second source of income for the program is the taxation of Social Security benefits. Last year, $35 billion was collected by partially taxing the benefits of eligible recipients who earned more than defined income thresholds. These thresholds are $25,000 in modified adjusted gross income plus one-half of benefits for single taxpayers, and $32,000 for couples filing jointly. The income thresholds tied to the taxation of benefits haven’t been adjusted for inflation in a long time, meaning that more and more beneficiaries are being subjected to this tax each year.
Third and finally, there’s the program’s workhorse: the 12.4% payroll tax on earned income. The payroll tax applies to all earned income (i.e., wages and salary) up to $132,900 in 2019 and was responsible for collecting $885 billion for the program in 2018.
Combined, the payroll tax and taxation of benefits collected $920 billion in 2018. As long as Americans continue to work and earn income, these two sources of recurring revenue ensure that there will always be money flowing into Social Security that’s completely independent of our country’s national debt and interest issues.
Mind you, this doesn’t spare Social Security from potential benefit cuts as a result of the many issues mentioned earlier, but there’s little cause for concern from the standpoint of Social Security’s survival as national debt levels rise.
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