Social Security Can be Fixed Without Cutting Benefits, Pension Expert Says

Social Security’s insolvency is like a deer in the headlights. We’re driving the car — and while it is moving extremely slowly, we’re not braking or steering away.

The system’s Old-Age and Survivors Insurance trust is projected to dry up by 2033, amid longevity increases, lower birth rates, and FICA tax limits that haven’t kept up with a growing wealth gap. There could be at least a 20% reduction in benefits. Addressing the problem is a political third rail, since solutions include widely unpopular options such as reducing benefits, raising taxes, or a combination. As a result, no Congress or president in recent history has addressed the system’s basic problem of paying out more than it takes in.

That leaves financial advisors and their younger clients with some murkiness in planning assumptions — should, for example, a drop in Social Security benefits be factored in?

“My fear is, because people are now worried, you’re going to have more people claiming permanently reduced benefits at 62, just to get their hands on the money,” said Mary Beth Franklin, a Social Security specialist.

Aging Out

Eventually, politicians must do something. One step might be increasing Social Security’s full retirement age, which is currently 67 for people born in 1960 and later. But that would be a mistake, according to a former pension actuary who in a paper published this month said that “the unfair and unnecessary threat” of that would affect 80% of future retirees, “most of whom can ill-afford the reduction.”

Instead, author Edward Lane suggests merging the system’s two trusts and allowing them to receive money from the Treasury General Fund. He also proposes scrapping Social Security payroll taxes for employees and replacing those with across-the-board hikes in personal income tax. Lastly, boosting immigration into the US would bolster the system, since new arrivals would pay into the system and help compensate for an aging workforce and a declining birth rate. Even then, however, increasing taxes would be necessary, he noted.

Changes to the system could disproportionately affect lower-income workers. Figures last week from the Employee Benefit Research Institute show:

• Middle-income households have 35% to 45% of their preretirement income replaced by defined-contribution plans, such as 401(k)s, or IRAs.
• Lower-income retirees are more dependent on Social Security, and a 25% cut in benefits across the board would have a disproportionate effect on them.

Changes Needed. Andrew Biggs, a senior fellow at American Enterprise Institute who has proposed Social Security reforms, took issue with numerous findings in the paper. For example, increasing the full retirement age by two years would reduce the system’s long-term funding gap by 18%, but that doesn’t mean it couldn’t be part of a package of changes that keep the progressive nature of the system, meaning that it has a greater financial impact on lower-income workers.

“The fact that increasing the retirement age would be only a partial fix weakens the argument regarding progressivity, since other steps (that almost certainly would hit high earners more) also would be taken,” Biggs said.