Here’s the basic problem. Everyone agrees that if the system is not adjusted, then at some point many years down the road (2042 or 2052, depending on whose estimates you use), the social security system will not have enough funds to pay the full level of promised benefits (it will still be able to pay 70-80% of promised benefits). Is this a "crisis"? Is the system going "flat bust, bankrupt"? No. But it is a situation that should be addressed. The traditional unappealing options: reduce benefits, raise the retirement age, raise the payroll tax, raise the wage ceiling, or borrow a ton of money. Because nobody likes proposing any of these things, the social security problem is politically difficult to solve.
But let’s look at the payroll tax for a minute. In 2005, wage earners will pay a flat social security tax rate of 6.2% on their first $90,000 of income, and nothing on any amount that they earn over $90,000. Employers match their employees’ contributions, so social security taxes businesses as well as individuals. Here are a couple of numerical examples of how this plays out:
- $40,000 income pays $2,480 in social security tax (6.2%)
- $90,000 income pays $5,580 in social security tax (6.2%)
- $100,000 income pays $5,580 in social security tax (5.6%)
- $200,000 income pays $5,580 in social security tax (2.8%)
- $3,000,000 income pays $5,580 in social security tax (0.2%)
Because you stop paying social security tax after $90,000, the more you make over $90,000, the smaller the percentage of your income that goes to social security.
One obvious way to increase revenues — to raise the tax rate — is in some ways the most unfair because it hits lower wage earners the hardest. Another option, raising the wage ceiling, say to $200,000, seems more reasonable — that would mean that somewhat wealthier wage-earners (those earning between $90,000 and $200,000) would continue to pay social security tax up to the new ceiling, so the maximum contribution would be $12,400 instead of the current $5,580. But that’s just a tax increase, and no one wants to take the heat for hiking taxes.
But what if we reduce the social security tax rate — say to 5.5% — while simultaneously raising the wage ceiling to $200,000? Then look at how our numerical examples play out:
- $40,000 income pays $2,200 in social security tax (5.5%)
- $90,000 income pays $4,950 in social security tax (5.5%)
- $100,000 income pays $5,500 in social security tax (5.5%)
- $200,000 income pays $11,000 in social security tax (5.5%)
- $3,000,000 income pays $11,000 in social security tax (0.4%)
Everyone earning $100,000 or less gets a tax cut! Everyone earning more than $100,000 will pay more, but the increase only becomes significant as you approach $200,000 — these are the people who frankly can afford to pay a bit more to ensure that old and disabled people don’t sink into poverty. If the numbers are done right (I just made up the 5.5% rate and the $200,000 ceiling), the increase on the higher-income people should more than make up for the tax cut for the lower-income people, thereby solving the financing problem while cutting taxes for the people who most need it.
This plan also gives a substantial tax cut to businesses that employ people earning less than $100,000. If a business has 200 employees earning $40,000 each, the business would save $56,000 a year. That’s not chump change, and I suspect you could get at least some of the business community to back something like this.
I’m surprised that no one (as far as I know) has suggested this before. Yes, to cut the tax rate but still get the same revenue boost you have to raise the ceiling more than you would if you leave the rate unchanged, but it seems to me that the political and economic benefit of cutting taxes on low wage earners and the businesses that employ them outweigh that drawback. This seems like a win-win where we help lower-income Americans, give politicians cover by letting them claim credit for a tax cut, solve a serious economic and political problem, and send everyone away happy. Tell me if I’m missing something.
Oh, and about those
private personal accounts: we already have them. They’re called IRAs, and I have no problem with raising the limit on the amount that individuals can contribute to them. Just don’t sacrifice the social security system to do it — it’s not necessary. By cutting the tax rate as I’ve described, we can make it easier for lower-income Americans to save more — if they choose to do so, they can divert the money they’ll save in the tax cut into an IRA — without taking away a successful program that has kept generations of seniors out of poverty. That’s an ownership society.