We first wrote in this column about the impending crisis in the Social Security trust fund in 2012. Back then, the trustees of the program estimated that the money would run out in 2033. Fortunately, that gave Congress a full 21 years to address the deficit and put the program back on solid footing.
Fast-forward to the latest report on the health of Social Security and Medicare, released two weeks ago. The trustees now project that the programs will go broke in — wait for it — 2033, now just nine years away. Because so much time has elapsed with no action, the fixes will be much more painful than they would have been had the problem been addressed 13 years ago. And despite the urgency, there appears to be zero interest in tackling the problem in the current Congress, so the pain will multiply.
A common misconception about Social Security is the notion that retired workers are receiving a return of their historical contributions. In fact, current Social Security income payments are financed primarily by current workers’ payroll taxes, a structure known as “pay as you go.” The establishment of the trust funds for Social Security and Medicare have contributed to the impression that beneficiaries receive back what they contributed. In fact, the trusts are simply a reservoir into which tax revenues stream and from which payments flow. If outflows exceed inflows, as is currently the case, the reservoir eventually runs dry.
Social Security and Medicare are treated differently than discretionary federal spending like defense, education, transportation and veterans’ benefits. The main Social Security account, called the Old Age and Survivors Insurance trust, was created in 1939 to receive income and disburse benefits without the need for annual appropriations by Congress. Payroll taxes, taxes on Social Security benefits and interest earned on the fund deposits are the principal income sources.
Benefits are paid out of the trust fund according to a specific formula involving work and wage history and retirement age. So long as there is enough money in the trust, everyone gets paid. However, in 2010, payouts exceeded tax revenues and since 2021 payments have exceeded total revenue including interest, draining the fund balance.
So, what happens when the trust fund runs dry? Obviously, this should never actually happen, because the warning bells go off so far in advance. But hypothetically, say if Congress ignored the problem for 21 years, the law requires that benefits be reduced to match annual income into the trust. According to the latest trustees’ report, if the fund is depleted in 2033, monthly Social Security payments would be reduced by 23%. That would equate to an average reduction in annual payments of $16,000 per couple.
The primary Medicare trust is also slated to run dry in 2033, requiring an 11% cut in benefits if not addressed before then.
Congress could step in at the last minute and simply transfer general tax revenue into the trust fund each year to maintain full benefits, but that would add trillions of dollars to the debt over a decade. The national debt is already projected to climb from $29 trillion today to $49 trillion by 2034. The current budget reconciliation bill is expected to add another $4 trillion.
We have been here before. In 1983, the Social Security Trust was less than one year from insolvency when a select commission was appointed to devise a plan. The effort was truly bipartisan, a meeting of minds between Republican President Ronald Reagan and Democratic Speaker of the House Tip O’Neill, who agreed to appoint Alan Greenspan to lead the effort.
O’Neill, with the concurrence of Republic Minority Leader Robert Michel, selected two Democratic House members, two Republicans and a former commissioner of Social Security to serve on the panel. Republican Senate Majority Leader Howard Baker, in consultation with Minority Leader Robert Byrd, selected three Republican senators, one Democratic senator and the president of the AFL-CIO.
The commission worked cooperatively, with each side willing to compromise, and reached an agreement that included increasing payroll taxes and gradually extending the normal retirement age from 65 to 67 over 40 years. Congress adopted the reform package by overwhelming majorities in both parties, securing the program’s solvency for the next 50 years.
Just as in 1983, preserving the solvency of the Social Security and Medicare programs will require some bipartisan balance between tax increases and benefit reductions. That is a given. Claims that reducing fraud and abuse can resolve the imbalance are fantastical at best. For example, the recent disruptions inflicted on the Social Security Administration by the Department of Government Efficiency exacerbated customer service bottlenecks but uncovered virtually no waste or fraud. Social Security is in fact one of the most efficient of all government bureaucracies, with an exceptionally low overhead expense of just 0.5% and an improper payment rate of just 0.3%. The problem is not inefficiency or fraud. The problem is a baby boom generation living longer and fewer working age people in the workforce.
In the current vituperative and highly partisan climate, it is difficult to envision such a collegial and patriotic collaboration. The impending crisis is twice as dire as the threat in 1983 and will cost at least 15% more to remediate in 2033 than if we act now. With each passing day, the medicine gets more bitter as the day of reckoning approaches.
Christopher A. Hopkins, CFA, is a co-founder of Apogee Wealth Partners in Chattanooga.
