Who Pays for Social Security Benefits? #SSNewDeal

There is an advertisement on the radio put on by the AARP.  In the ad the speaker, saying she is a grandmother, tells the listeners that cuts are coming to their Social Security benefits.  She speaks of Congress cutting benefits by changing how cost of living increases are calculated and that seniors should call their representatives and tell them that they should not cut benefits.  She says that she worked hard and paid into the system for more than 30 years and therefore deserves her benefits.  This feeling that the participants have a “right” to these benefits is what makes Social Security an entitlement.

On the surface the argument seems valid and the speaker has a right to be upset.  Indeed she paid her money in for “all of those years,” so she deserves to get her money back.  That was the deal – she paid part of her check in each month, and her boss contributed a like amount, and then when she reached 62 she could start getting a monthly check.  This is no doubt a sentiment shared by many people – that unlike welfare where a recipient is getting something from someone else, entitlement benefits are “things we paid for and therefore deserve to get back.”

But where exactly does the money come from?  Aren’t you just getting your money back when you receive the benefits?  Unfortunately, no.

You see, Social Security is a pay-as-you-go system.  Money paid in by people who are working goes to people who are currently retired.  Any extra money that is collected is not saved or invested, as it would be for a normal pension fund, but instead is replaced by an IOU by the general treasury and then spent like other funds collected from taxes.  Social security taxes are a tax like any other, not a contribution to a retirement plan, and Social Security payments are benefits provided like anything else the government provides.

With a normal pension fund, the money paid in by the individuals is stored and allowed to grow through investments.  This means that as long as the money is invested responsibly there will be enough cash available when a person is ready to retire.  It doesn’t matter if three-fourths of the plan participants retire at once because the level of payments of people still in the plan has no effect on the availability of funds for those retiring and drawing on the plan.  The money for current retirees comes from the investment of their personal contributions and the matching contributions of their employers that were made in the past, not from the contributions of current workers.

Money in Social Security is not stored and invested.  It is spent as it is collected, either to pay current retirees or to fund other functions and benefits of government.  People who paid into Social Security during the current generation of retirees, because their generation was large and their contributions greatly exceeded the money needed to pay current Social Security benefits, was largely spent.  This means that the money is not available to pay benefits, but at least it was spent on them (or at least it was spent on things that the government they elected chose to spend it on).

So the money currently being paid out in benefits comes not from the money they paid in – that money was spent on them already – but from current workers.  There are fewer current workers, with a ratio of only two workers per retiree instead of four or six workers per retiree as was the case when the current generation of retirees was working.  This means that, in order to pay the same level of benefits and to keep all of the functions of government currently provided, today’s workers will need to pay more of their income in taxes.  A lot more, like 25% of their income instead of the current 13%.  That would be $6000 per year more for someone earning $50,000 or $12,000 per year more for someone earning $100,000.  That will make it very difficult for them to save anything for retirement – who has an extra $6,000-$12,000 lying around – and (or pay for college for their children), so they may only have Social Security when they retire.

Current workers are already seeing their benefits cut, with retirement ages raised to 67 for current workers and the retirement age of those just starting being raised to 70 or higher.  This means that the next retirees will work for between two and five extra years, paying into Social Security the whole time, to receive two to five years fewer checks from the system when they retire than current retirees will.  Because life expectancies are not likely to increase during their lifetimes, this will mean they pay more and get less.

So before calling Congress and demanding that your benefits not be decreased one sconce, realize that it is not the Government paying you your money.  That money has already been spent by officials you kept in office for all of those years.  Ted Kennedy.  Strom Thurmond.  John McCain.  Nancy Pelosi.  Barbara Boxer.  It is money from your children and grandchildren’s generation that you are receiving.

In some cases there will be no other way.  That is also the purpose of welfare – to pay for those who have no other option.  For those who do not need the benefits, however, consider an alternative.  Many of my generation would be perfectly willing to get nothing from Social Security, because we know that the system is broken and will run out of money long before we get there.  We are willing to continue to pay in, however, and get nothing from it.  We are willing to do this in exchange for changing the system to something that will work for our children and their children.  A system in which individuals have accounts that cannot be spent by the government for other things.  Private accounts that are actually invested and will grow with time.

Consider making a like gift for your children.  Instead of telling your representative not to cut your benefits as the AARP recommends, tell them that you will give up your payments if they will allow a person of your choice to get out of the current broken system and instead send their payments into a private account.  Because there are two people paying into the system for each person collecting and you would only be exempting one person when you gave up your benefits, you would actually be making the system stronger for those who really need the money and stay in the system because they have no other resources.  You would also receive the benefit of knowing one of your children (or another person of your choosing) would have a comfortable retirement because their savings would be invested and stored instead of the poverty-level benefits provided by Social Security.

If you like this idea, tweet this post with hashtag #SSNewDeal.  If you feel I have it wrong, please let me know in a comment below.

Please contact me via vtsioriginal@yahoo.com or leave a comment.

Follow me on Twitter to get news about new articles and find out what I’m investing in.  @SmallIvy_SI

Disclaimer: This blog is not meant to give financial planning or tax advice.  It gives general information on investment strategy, picking stocks, and generally managing money to build wealth. It is not a solicitation to buy or sell stocks or any security. Financial planning advice should be sought from a certified financial planner, which the author is not. Tax advice should be sought from a CPA.  All investments involve risk and the reader as urged to consider risks carefully and seek the advice of experts if needed before investing.

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