FROM NEW DEAL TO RAW DEAL
For more than 50 years, Social Security has been the best investment U.S. workers could make. Millions of Americans have got back far more in benefits than they paid in Social Security taxes. No wonder Social Security became the most popular of government programs.
But that era has come to an end. For the first time, some Americans who are retiring will be getting less in benefits than the accumulated value of what they and their employers paid in taxes. And it's only going to get worse. While everyone knows that the program transfers money from young to old, few realize that its biggest impact these days is to redistribute income from rich and middle-class retirees to poor ones.
That's the dirty little secret of Social Security: While low-income workers are still doing well from the program, for many workers today with high or even average incomes, it's almost guaranteed to be a bad deal (chart). If you're a 48-year-old earning an average salary (about $23,000 today), you can expect to get back only 82% of the Social Security taxes paid by you and your employers, including the interest the taxes could have earned. If you make more than the maximum amount of income taxable by Social Security (about $57,000), you will get back only a meagre 61%.
These poor returns are depressed even further by the income taxes many well-off retirees now pay on their Social Security benefits, which will be raised under President Clinton's economic plan (table). "People are going to have more and more trouble getting their money's worth out of the system," says Bruce D. Schobel, a vice-president at New York Life Insurance Co. and staff actuary on the 1983 Greenspan Social Security Commission.
TWICE AS BIG. In recent hearings before the Senate Finance Committee, the Social Security Administration (SSA) disputed calculations that show how bad an investment Social Security has become, since those figures include both the employee and employer share of payroll taxes when toting up the value of the program. The SSA argued that only the share of taxes paid directly by workers should be counted, which would make the return to Social Security seem twice as big. But almost all economists agree that businesses eventually pass the cost of their share of Social Security onto their workers in the form of lower wages. Since the worker ends up paying the employer's share as well, counting both is the right thing to do.
Already there's a pervasive fear that Social Security is a bad investment. A recent survey done by the Employee Benefit Research Institute showed that 65% of working Americans expect to pay more into Social Security than they will get out. And as Social Security becomes less worthwhile for high-income and average taxpayers, their support for the program will weaken, and it will be harder to preserve Social Security without drastic changes. "People don't believe they're going to get Social Security," says Theda R. Skocpol, a sociologist at Harvard University, "and that's an enormous political vulnerability."
Until fairly recently, almost every Social Security recipient, rich or poor, did very well. An individual who retired in 1985 with average earnings, for example, could expect to get back 166% of what they and their employers put in.
But all this has changed. In 1983, faced with an enormous crisis in Social Security funding, a commission headed by Alan Greenspan, now chairman of the Federal Reserve Board, changed the system to put it on a sounder financial footing. For one, the retirement age was raised, starting in the year 2000. By 2022, the normal retirement age will be 67 vs., the current 65. The payroll tax rate for Old Age, Survivors, & Disability Insurance was increased to 12.4%, up from 10.8% in 1983. And for the first time, many well-off recipients were subject to income tax on up to half of their Social Security benefits.
The Greenspan commission did keep, however, the old formula for calculating benefits, which favored low-income retirees. For them, Social Security benefits replace about 65% of the aftertax earnings they had while working. But for high-income individuals, benefits replace only a quarter of their aftertax working income.
Now, Clinton is proposing to tax up to 85% of the Social Security benefits of high-income retirees, up from the current 50%. Surprisingly, there has been little opposition so far from most senior-citizen groups, which are much more focused on the coming health-care-policy debate. "We have an enormous stake in health-care reform," says John C. Rother, legislative director for the American Association of Retired Persons. "We don't want to win the battle and lose the war." Moreover, most of the tax increase will be paid by the top 20% of the elderly, according to an analysis by Families USA, a Washington-based consumer organization.
But that lack of opposition may not last long. For one thing, private pensions have been getting less generous. And falling interest rates mean that even well-off retirees are going to need Social Security as a key source of income. In 1990, elderly couples with high income got 36% of their income from interest and dividends vs. only 25% from Social Security. But since then, interest earned by households has plummeted, and Social Security is now probably the biggest single income source for many well-off elderly.
YOUTH BURDEN. What's more, when baby boomers begin retiring in twenty years or so, they are going to find their retirement benefits squeezed even further. Much of the taxes they're paying today, while earmarked for the Social Security trust funds, are being used for current government expenses. The trust funds are in surplus, but what they actually contain are a pile of IOUs, which will eventually have to be redeemed--either by borrowing or by boosting income taxes on the young, who may not be willing or able to pay. The retirement age may have to be raised again, perhaps to 69 or 70, and cost-of-living increases limited. "Full inflation protection will become a thing of the past," says Schobel.
No matter how unattractive this picture seems, there are good reasons for even well-off Americans to support Social Security. The program offers benefits that private plans cannot match. Someone with a long work history is protected against job loss, since a couple of years of unemployment or low wages will have little or no effect on the Social Security benefits. That may become very important to the current wave of laid-off managers. And just valuing Social Security by its monetary benefits may miss the point of the most successful social program the U.S. has ever adopted. "This is one of the few embodiments of civic commitment we have in this country," says Skocpol.
But all these virtues won't save Social Security if too many Americans see it as a program that doesn't help them. In the short run, raising taxes on Social Security for high-income retirees, while protecting those with low incomes, may make sense as a way to cut the federal budget deficit. But in the long run, it sets Social Security down the slippery slope to becoming just a welfare program.Michael J. Mandel in New York