From time to time, we deviate (slightly) from our primary mission to offer our thoughts on Social Security’s (the System’s) financial condition. We do this because:
- the System appears to have long-term financial problems,
- the System’s future benefit and tax provisions can be changed at any time by Congress, and
- changes in System benefits and taxes can affect almost everyone’s financial situation.
Thus, the financial condition of the System and the resulting uncertainty about its ability to pay scheduled benefits in the future should be an important consideration for individuals in the U.S. when developing their current spending/savings budgets.
How Big Is Social Security’s Problem?
There is considerable confusion regarding the size of the System’s long-term financing problem. In the American Academy Actuaries’ (AAA) “Social Security Game,” the AAA claims the System’s problem can be “fixed” with approximately a 23% increase in the current System tax rate. This is one option of many in the menu developed for the Game.
Using CBO and Trustees Assumptions to Estimate the Size of the Problem
On the other hand, as discussed in our May 17, 2016 post, Steve Goss, the Chief Actuary of Social Security has said, “Remedying OASDI’s [Social Security’s] fiscal shortfall for 2034 and beyond will require a roughly 25 percent reduction in the scheduled cost of the program, a 33 percent increase in scheduled tax revenue or a combination of these changes.” Thus, based on the Trustees’ assumptions about the future, the Social Security’s Chief Actuary believes the problem is much larger than as indicated by the AAA. In his recent testimony before the House Subcommittee on Social Security, Keith Hall, the Director of the Congressional Budget Office (CBO) noted that, based on CBO’s assumptions, their estimate of the System’s long-term problem was even greater than the Social Security Trustees’ estimate.
The graph below, shown in Figure 2 of Mr. Hall’s testimony, shows projected Social Security Tax Revenues and Outlays for the period 2000-2090 under both the CBO’s and Trustees’ assumptions. This graph does a very good job of quantifying the projected shortfall between System revenues and scheduled benefits from the period 2030 to 2090 under the two sets of assumptions. Under either set of assumptions, the shortfall is projected to be relatively constant, when measured as a percentage of the country’s projected Gross National Product for this period. One can fairly easily see from this graph that the projected shortfall in revenues is relatively close to the 33% figure quoted by Mr. Goss under the Trustees assumptions, and something in the neighborhood of 45% under the CBO assumptions. These figures can be confirmed by comparing projected 2090 outlays with projected 2090 tax revenues in the first section of Table 2 of Mr. Hall’s testimony.1 Under either set of assumptions, we are talking about significantly higher tax revenue shortfalls than the 23% figure claimed to “fix” the System in the AAA’s Social Security Game. If you prefer to think in terms of necessary benefit reductions rather than required tax increases, the percentages are about 25% under the Trustees’ assumptions and about 30% under the CBO assumptions.2
So why has the AAA low-balled the size of the System’s long-term problem, when even the System’s Chief Actuary (using the Trustees’ assumptions) has indicated that we are looking either at much higher potential tax increases or benefit reductions? Unfortunately, it is not clear to me why a profession that prides itself in “substituting facts for appearances” and “demonstrations for impressions” would want to provide this potentially misleading information. In fact, Precept 8 of the profession’s own Code of Conduct expressly requires that an individual actuary “who performs Actuarial Services shall take reasonable steps to ensure that such services are not used to mislead other parties.” It doesn’t appear to me that the AAA has taken such reasonable steps, but technically the Code of Conduct doesn’t apply to the organization representing the profession, only its individual members.
Planning Implications of Future System Reform
It is important to note that the 25% decrease in scheduled benefits (or approximately 30% under CBO assumptions) will automatically take place when the System’s Trust Fund runs out of assets if Congress fails to act prior to the Trust Fund Exhaustion date. This is effectively an across-the-board decrease in benefits payable to beneficiaries at that time. If Congress acts prior to the Trust Fund Exhaustion Date (by increasing tax revenue, decreasing benefits or some combination of the two), it is likely that some individuals will be less affected and some will be more affected than they would be under the default across the board benefit reduction scenario.
So, what does this all mean to retirees and pre-retirees in the U.S. who are counting on certain levels of future Social Security benefits? That is the $64,000 question. Will you be one of those individuals whose benefits are mostly unaffected or will you be one of those individuals whose future benefits or taxes will be significantly affected? To paraphrase Harry Callahan in the movie “Dirty Harry” (by deleting the ending pejorative), “you’ve gotta ask yourself one question. Do I feel lucky? Well, do ya…?”
History has shown us that, when making changes to the System, Congress has been more inclined to reduce benefits and increase taxes mostly for those who are not close to retirement age. Thus, it is unlikely that Congress will allow the default across the board benefit reduction scenario to take place. On the other hand, it is also unlikely that Congress is going to place the entire burden of shoring up the System on the shoulders of our younger workers. It appears likely that those with relatively higher incomes (young and old) will be asked to bear a significant portion of the increased cost in this next round of System reform.
The System is currently funded primarily with payroll taxes. It is possible that the next round of System reform may involve other sources of revenue. In any event, your current financial planning should consider the possibility that the scheduled (or actual) Social Security benefit you input in our Actuarial Budget Calculator worksheet may be reduced in some manner, your future taxes increased or some combination of the two. Unfortunately, the changes necessary to truly “fix” the System may be larger than you thought.
1. Projected Percentage Shortfall in Revenues using Projections for 2090:
(6.34 – 4.29) / 4.29 = (20.08 – 13.59) / 13.59 = 48% using CBO assumptions
(6.14 – 4.63) / 4.63 = (17.68 – 13.33) / 13.33 = 33% using Trustees assumptions
2. Necessary Percentage Benefit Reductions using Projections for 2090:
(6.34 – 4.29) / 6.34 = (20.08 – 13.59) / 20.08 = 32% using CBO assumptions
(6.14 – 4.63) / 6.14 = (17.68 – 13.33) / 17.68 = 25% using Trustees assumptions