From Barrons— By Elizabeth O’Brien —
The recent Social Security Trustees’ report reinforced what the public and politicians already know: The program is in financial straits. Less discussed is how worsening income inequality is one reason the trust fund is projected to run dry faster than expected.
The combined retirement and disability trust fund is projected to be depleted in 2035, far sooner than anticipated a few decades go, if Congress doesn’t act before then to fix the problem. The last time Social Security faced such a reckoning was in 1983, when lawmakers passed a series of amendments to shore up the program that included making a portion of benefits subject to income taxes for recipients whose income exceeded certain thresholds.
At that time, policymakers anticipated that the enacted changes would put Social Security on a solid footing for nearly three decades past 2035. So what happened to accelerate the projected trust fund depletion by almost 30 years?
Life spans have continued to lengthen and birthrates have continued to fall, so today there are fewer workers supporting more retirees than in previous decades. Yet these demographic factors were known and anticipated back in 1983, according to the Social Security actuaries.
What wasn’t anticipated back then is that income inequality would grow, meaning a bigger share of wages aren’t subject to the payroll taxes that fund the program. The current payroll tax rate for Social Security is 6.2% for the employer and 6.2% for the employee, for a total of 12.4% applied to wages up to $168,600 in 2024. Any wages above that level don’t lead to payments into the fund.
The share of workers with wages exceeding the taxable maximum has remained fairly stable throughout the decades at around 6%. But the share of wages in excess of the taxable maximum rose to 17.9% in 2021 from around 9% in 1983, according to a presentation last month by Stephen Goss, Social Security’s chief actuary, and Karen Glenn, deputy chief actuary, to the American Academy of Actuaries.
Between 1983 and 2000, the average annual earnings for the top 6% of workers grew 62% more than the consumer price index, but for the lower 94% of workers, earnings grew only 17% more, according to the Social Security actuaries.
“It’s that relative shift … in earnings that has really contributed to the drop off in the revenue coming into the program,” Goss said.
In other words, the rich are getting richer, but their excess earnings aren’t padding Social Security’s coffers. Payroll taxes fund the bulk of the benefits, with today’s workers supporting today’s retirees. The trust fund’s reserves are currently making up the difference between what the program owes in benefits and what it collects in tax revenue. If the trust fund runs dry, it is estimated that taxes would still be able to fund more than three-quarters of promised benefits.
It likely won’t come to that. Most experts predict Congress will act—probably at the last minute—to prevent the trust fund’s depletion. Eliminating the income cap would help close the trust fund’s shortfall. Scrapping the cap for 2024 and beyond would close an estimated 70% of the shortfall, according to the Social Security actuaries. Under that scenario, higher earners wouldn’t receive any additional benefits for their earnings above the current taxable maximum. If they did receive such a boost, eliminating the cap would close an estimated 55% of the shortfall.
Raising the payroll tax rate would also help. An increase of 12.4% to 16.2% in 2024 and beyond would close the entire shortfall with no changes to the taxable maximum. That would be a regressive change, as the rate would apply to all workers regardless of income. A more progressive approach would ask higher earners to kick in a little more.