The Good News/Bad News On Social Security

June 13--The Social Security Trustees recently released their annual report about the current state of Social Security, as well as short- and long-term future projections for the program. And the report starts off with some good news: Social Security ran a surplus of more than $44 billion in 2017.

Unfortunately, there isn't much to smile about beyond that. In fact, the report confirmed last year's finding that Social Security is on a path to insolvency. Here's a rundown about Social Security's 2017 performance, and why things are expected to go downhill quickly.

Here's how Social Security did in 2017

Before we get into the future projections for Social Security, here's a quick look at how the program fared in 2017.

Social Security has three main sources of income. The bulk of the money flowing into Social Security comes from payroll taxes, which, for 2017, were assessed on earned income up to $127,200 at a rate of 6.2% each for the employer and employee. The program also receives a significant amount of income from the taxation of Social Security benefits, which applies to beneficiaries with income exceeding certain thresholds. Finally, Social Security's reserves are invested in U.S. Treasury securities, and these generate a substantial amount of income.

Here's a breakdown of Social Security's 2017 income:

Income Source

Amount in 2017

% of Total Income

Payroll taxes

$873.6 billion

88%

Taxation of SS benefits

$37.9 billion

4%

Interest income

$85.1 billion

9%

Total

$996.6 billion

100%

Data source: Social Security Trustees' Report. Percentages don't add to exactly 100% due to rounding.

Meanwhile, Social Security's expenditures are very concentrated in the benefits the program pays out. In fact, about 99% of the money flowing out of Social Security went toward benefit payments in 2017. The other 1% consisted of administrative costs and payments to the Railroad Retirement Social Security Equal Benefit Account.

Expenditure

Amount in 2017

% of Total Expenses

Benefits paid out

$941.5 billion

99%

Railroad retirement

$4.5 billion

>1%

Administrative costs

$6.5 billion

>1%

Total

$952.5 billion

100%

Data source: Social Security Trustees' Report.

As you can see, Social Security's income for 2017 exceeded the program's expenses by a significant margin -- $44.1 billion.

Social Security now has nearly $3 trillion in reserves

This surplus is added to the Social Security reserves, which are held in two trust funds. The OASI (Old Age and Survivors Insurance) trust fund holds the reserves for retirement benefits and benefits paid to survivors of deceased workers, while the DI (Disability Insurance) trust fund supports disability benefit payments.

Including the $44.1 billion surplus Social Security ran in 2017, the combined trust funds now hold $2.892 trillion in reserves.

This will be the last surplus for the foreseeable future

With a significant surplus in 2017, and such a massive stockpile of reserves, it may seem like Social Security is doing just fine. And for the moment, it is.

However, the bad news is that the 2017 surplus is projected to be the last one for the foreseeable future -- and the projections look 75 years into the future. In 2018, Social Security is expected to run a deficit of approximately $2 billion, and while this may seem rather mild, the deficits are expected to widen significantly over the next couple of decades.

In fact, if no changes are made to the Social Security program, the trust funds are projected to be completely exhausted in 2034 -- just 16 years from now.

What's the problem?

Social Security is facing two main problems.

First, Americans are living longer and longer lives. This means the average Social Security beneficiary is collecting benefits for a longer period of time than the average beneficiary in previous generations.

Second, the massive baby-boomer generation is starting to reach retirement age -- and will continue to do so over the next decade and a half or so. This is the big problem that's expected to wreak havoc on Social Security's financial state.

Over the past few decades, the number of workers paying into the system for every Social Security beneficiary has hovered between 3.2 and 3.4. Now, this has fallen to 2.8-to-one. By 2035, when most baby boomers will have exited the workforce, this is projected to fall dramatically to 2.2-to-one.

In other words, roughly one less person will be paying into Social Security for every beneficiary. There simply won't be enough money flowing in to cover all of the benefits that have been promised to retirees.

How can we fix it?

To be clear, if the trust funds run out in 2034, Social Security won't simply cease to exist. There will still be money flowing in from payroll taxes and the taxation of certain Social Security benefits that can cover some of the program's expenses. Specifically, the trustees' report predicts that if this were to happen, the incoming revenue would be enough to cover 77% of promised benefits.

In other words, in a worst-case scenario, everyone's Social Security benefits will need to be slashed by 23% in about 16 years.

Fortunately, there's still time to fix the problem, and there are only two ways it can be accomplished: increase Social Security's revenue, or cut the program's expenses.

Increasing revenue could come from a payroll tax increase. The trustees' report estimates that a 2.78% immediate payroll tax increase would solve the problem. Alternatively, a (greater) increase could be phased in over time, or the maximum taxable earnings cap could be increased, or even eliminated entirely.

On the expense reduction side, the trustees' report estimates that a 17% across-the-board benefit cut would solve the problem, but this approach is extremely unpopular on both sides of the political spectrum. Alternative approaches could include raising the full retirement age, means-testing benefits for wealthy retirees, or some combination of the possible solutions.

One thing is for sure: The sooner we act, the less painful it will be. For example, if we wait until the trust funds run out in 2034 to do something, the necessary payroll tax increase would be an additional 1.09%. History tells us that something will be done, but the magnitude of the necessary reforms depends on how long it takes Congress to get to work on the issue.

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