By Brian Ellenbecker CFP®, EA®, CPWA®, CIMA®, CLTC®
You’ve probably heard media reports about the worrisome financial condition of Social Security, but how heavily should you weigh this information when deciding when to begin receiving benefits? While some changes will need to be made to Social Security (e.g., payroll taxes may increase or benefits may be reduced by a certain percentage), don’t base your decision on this information alone. Although no one knows for certain what will happen, if you’re within a few years of retirement, it’s probable that you’ll receive the benefits you’ve been expecting all along. If you’re still a long way from retirement, it may be wise to consider various scenarios when planning for Social Security income, but keep in mind that there’s been no proposal to eliminate Social Security.
So, will Social Security be there when you need it?
The answer is almost certainly yes, with a few caveats. First, Congress does have the power to change the rules at any point, with enough votes. However, with the power of the senior voting bloc, significant cuts to the program would not come without consequences from voters. Second and more to the point, benefits will be paid, but it’s possible they could be less than promised.
Let’s look at some projections from the most recent Social Security Board of Trustees Report to put this into better perspective.
The most recent data we have is from the 2020 Social Security Trustees Report, which does not consider the impact of COVID. The 2021 Social Security Trustees Report was released on August 31, 2021.
Social Security benefits can be paid by a combination of two different buckets of money—payroll taxes collected and the Social Security trust fund. The 2020 report valued the trust fund at $2.9 trillion and is comprised entirely of special treasury bonds issued by the US government. The unique part of these bonds is that they are redeemable at par, on demand. This means that the value of the bonds does not fluctuate and can be redeemed for face value at any point.
Currently, Social Security benefits are paid to beneficiaries through a combination of payroll taxes collected and the interest earned on the bonds held in the trust fund. The report projects that, starting in 2021, payroll taxes and interest will NOT be enough to pay benefits and the Treasury will have to dip into the trust fund principal to pay benefits. This will continue until the trust fund is depleted in 2034. At that point, it is projected that payroll taxes could cover 78% of the promised benefits, which slowly declines until it hits a low of 73% in 2095.
This is likely a worse-case scenario. Fortunately, adjustments can be made to avoid a scenario where full benefits cannot be paid due to the trust fund running out.
Some of the most common solutions discussed include:
- An increase in payroll taxes—either increasing the tax rate, the cap on income, or both.
- The COLA formula could be tweaked to slow the growth of benefits.
- Claiming ages could be adjusted. The most common change discussed is to push out the full retirement age by a year or two.
- Benefits could be reduced.
- The amount of Social Security subject to income tax could be increased.
Relatively small adjustments to one or a combination of any of the above dramatically improve the financial health of the Social Security program. One thing that’s never been discussed is ending Social Security.
The sooner something is done, the less drastic the changes will need to be. Congress’ appetite to make these changes has not been there in recent years. Our hope would be that a compromise is agreed upon to improve the financial strength of the Social Security system. This would remove doubts in many people’s minds about the program’s ability to pay benefits long term.