You may have seen the recent news that Medicare will become insolvent in 2026 and that Social Security will become insolvent in 2034. This just happens to be one year after I reach my Full Retirement Age (FRA) of 67. The trustees at the Social Security Administration estimate that by 2034 the trust funds for Social Security, which help fund the old age and disability programs will run dry.
At that point Social Security will be able to pay only 79% in promised benefits to retirees and disabled beneficiaries. The report also projected that Social Security’s costs are expected to exceed revenues in 2018 for the first time since 1982. This is due largely to fewer workers paying into Social Security, while more of the baby boomers start drawing on their promised benefits.
The first thing you need to know about these “trust funds” is that there isn’t really an account anywhere with trillions of our contributions sitting in it. Our congress raided the cash long ago and replaced it with government IOU’s.
Solutions to the Problem
Although the outlook sounds bleak, there are some solutions to this problem. The first potential solution is to increase the tax rates that employees and employers pay from 12.4% to something more like 15%. There is a long history of congress increasing the tax rate; the last such increase came in 1990, but there have been more than twenty increases since the program’s inception in 1935.
The next option would be to expand the wage limits. You currently pay social security taxes on the first $128,000 in earnings in 2018. Subjecting all wages to Social Security taxes could close most of the gap according to some estimates. Another option would be to include fringe benefits like health benefits and flexible spending deductions in the wage base subject to tax.
Congress could also vote to cut promised benefits for all retirees or for those retirees who have significant retirement assets or pension income. Social Security benefits have always been provided to anyone who has paid into the system and who meets the work and age requirements. That’s regardless of their other income—investment, pension, savings—the person receives in addition to Social Security benefits. Means testing would reduce benefits for higher-income recipients and could even eliminate benefits altogether for the highest-income households.
Another option and one that I believe is least likely is to raise the full retirement age from 67 to something higher, possibly even to 70 years old.
None of these options are very popular, it just depends on what side of fence you’re standing. Almost no one wants to pay higher taxes, and those who have paid in for 40 years want to receive the benefits they were promised. The most likely scenario will be a combination of a few of these options, but lobbying to raise taxes or cut benefits can be political suicide for some candidates because “senior’s” vote. Voter turnout for those above age 60 can be 70% in a mid-term and 80% in a Presidential election year. But the longer congress waits to act, the deeper the hole becomes.
What Should You Do?
- Be proactive. Have your financial advisor test your retirement income plan against multiple social security cash flows. If your advisor has access to Monte Carlo simulation software, analyze various scenarios. If your retirement income plan still works with a reduced social security benefit, then you’re probably fine.
- If the numbers no longer work, you may need to save more. The hard reality is that we may not be able to rely on the Social Security benefits that we planned for. Strive to save at least 15% of your gross income towards your retirement goal. I understand that this takes real sacrifice, especially if you are trying to fund other goals like saving for college or paying off your own student loans.
- Delay claiming your benefits. Most folks can claim their social security benefits at age 62, but there are significant and permanent penalties for filing early. The longer you wait to file, the larger your benefit. For every year you delay past your FRA up to age 70, you get an 8% increase in your benefit. So, if you can afford it, waiting could be the better option. But, health status, longevity, and retirement lifestyle are 3 variables that can play a role in your decision on when to claim your Social Security benefits.
- Scale back your retirement plans. If your projected income isn’t going to be sufficient and you can’t close the gap with additional saving, you may need to rethink your plans of dining out every night or taking multiple trips to Europe each year after you stop working.
- Finally, and probably the least popular option for most folks is to plan on working longer.