Rob Cordeau, CFP®, ChFC®, RICP®

What’s Really Going to Happen When Social Security Runs Out of Money

Originally published on McLeanAM.com

I just read through the 257-page, 2015 edition of the annual social security trustees report. Ok, maybe not the whole report. I skimmed over some most all of the boring parts. But I did actually read the first 24 pages – the Overview – which is where all the important stuff is anyway.

As a public service for those of you struggling with insomnia, here’s the full report in all its actuarial glory. But for those of you who don’t wish to subject your brain to numerous sentences like this one: “A third approach uses stochastic simulations that reflect randomly assigned annual values for each parameter” (see page 20 if you think I’m making that up), I’ve summarized the results below in actual English and added a section on how we think this could play out.

How Did We Get Here?

It’s a bit of a perfect storm for the Old-Age Survivors and Disability Insurance (OASDI) trust fund. Baby boomers retiring en masse means larger expenses for the fund. Fewer babies per family results in a smaller pool of workers to support those who require benefits. Increased disability claims and the great recession just add to the fun.

So Doctor, How Much Time Does She Have?

According to the latest report, the OASDI trust fund sits at nearly $2.8 Trillion (just a smidgeon more than is in my savings account). Expenses already exceed tax revenues, but interest on the trust fund is still keeping the fund in the green each year. That’s projected to change in 2020 when expenses will exceed both of the income sources (tax revenues AND interest). Trust funds will then be drained until 2034, when they are expected to run dry.

What Happens When The Money Runs Out?

Social security will be living like you did in your twenties – paycheck to paycheck. With no more trust fund to pull from, only the tax revenues from current workers will be available to cover the benefits being paid. The estimate is that 79% of benefits could be paid at that point. That’s a 21% benefit cut for everyone receiving benefits. The good news is that level is essentially sustainable. However, it drops off gradually, ending at 73% of benefits in the year 2089 – the end of the report’s 75-year, long-range projection.

Should I Assume Social Security Will Be Gone When I Retire?

If you want to bet against statistics, then ignore your social security benefits. But the math indicates that even if nothing were done to alter the current system, you’d still have roughly three quarters of your originally expected benefit. But how likely do you think it is that the entire retired population – a significant voting bloc – would allow a 21% reduction to their benefit? I know the over-62 crowd is not usually the type to get out and protest, but an immediate 21% drop in America’s pension plan would bring them out in droves! The resulting burden that would be placed on other social programs make this “do nothing” approach a non-starter.

What Would It Take to Fix It?

If you asked the current working population to pay the entire freight, the report says it would take an immediate and permanent increase to payroll taxes of 2.62% (1.31% for employees and 1.31% for employers). On the other hand, if you wanted to leave payroll taxes untouched, it would require an immediate 16.4% decrease in benefits for all current and future recipients.

How’s It Going to Play Out?

Of course, no one knows exactly what will happen, but we do have some precedent here. The last time Congress made changes to the program, they used a gradual approach to delay the full retirement age from 65 to 67. The changes were phased in, with those close to retirement grandfathered in under the prior, more favorable age calculation. Gradual phase-ins are likely – especially if they impact benefit recipients.

Congress has multiple tools at its disposal:

  • Increasing the 6.2% payroll tax employees pay (5.3% is for OASI + 0.9% is for DI)
  • Increasing the 6.2% payroll tax employers pay
  • Increasing the Social Security Wage Base (currently only the first $118,500 of wages are taxed)
  • Increasing tax revenue in some other manner
  • Extending the retirement age – again
  • Adding a means-testing component for benefits
  • Changing the Cost of Living Adjustment (COLA)
  • Eliminating certain esoteric “claiming strategies” for SS benefits
  • Decreasing benefits in some other manner
  • Some combination approach that incorporates increased taxes and decreased benefits

The trustee’s report strongly urged Congress to act soon to begin addressing these issues, because every year of delay means the resulting solution has to be compressed into fewer years, so it becomes more painful. Delaying important financial matters until the last possible moment (or beyond) appears to be a favorite local pastime in Washington, so I certainly won’t go out on a limb and predict this will be addressed immediately. However, this is a growing concern among Americans, and it would not be completely shocking to see this problem addressed before the 11th hour.

Congress will, however, need to address the disability (DI) portion of the OASDI fund very soon. It’s technically a separate entity from the retirement, old-age and survivors fund, and it’s scheduled to be depleted in Q4 of 2016.

The easiest, and therefore most likely, solution here is a change to the allocation split of 5.3% going to OASI and 0.9% going to DI. A typical kick-the-can-down-the-road approach would adjust the split of that 6.2% payroll tax to something like 5.1% and 1.1%, or whatever the ratio needs to be. It doesn’t really resolve anything, but it doesn’t raise taxes or decrease benefits either. On a combined basis, the OASDI fund would be in the same situation; obviously not a long-term solution, but precisely the kind of legislation that could actually pass.

How Do I Plan For Future Changes?

It’s undeniable that something’s got to give over the course of the next two decades. It may very well be some type of ‘combination approach,’ whereby workers and retirees will share the burden of righting the social security ship.

How should you plan for it? Aside from boosting the worker pool by making more babies, the most prudent approach appears to be to factor in a slightly lower benefit for social security income when running the numbers for your own retirement projection. Not nearly as fun as making babies – I know.

Congress’ romance with can-kicking is hard to deny. And there’s still a bit more road in front of them before the 2034 social security cliff. So don’t expect an immediate solution. But don’t believe the misinformation either. Social security is not going to disappear when the trust fund is depleted.

If you’re already receiving benefits, enjoy the fruits of congress’ procrastination. But if you’re still contributing to the system, prudently assume your contributions might increase, and your benefits might be a bit less than under the present system.

But whatever you do – retired or not – promise me you won’t read that annual trustees report in its entirety. I can’t begin to imagine what 257 pages of that mind-numbing statistical mumbo jumbo would do to a human mind!

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