Social Security: Winners and Losers

There are classes of people who are “winners” under the Social Security program, and thus there are also classes of people who are “losers”.

The distinctions between winners and losers result from value judgments we’ve made about who is more deserving of Social Security benefits, and who is not. Some of these judgments are easy to support, while others simply shift benefits from one class of people to another.

Are you a winner or a loser under Social Security?

For purposes of this article, “winners” and “losers” under Social Security are defined purely in terms of whether a person can expect to receive more in Social Security benefits than he or she paid in Social Security taxes over his or her lifetime. “Winners” will receive more in Social Security benefits than they paid in taxes, while “losers” paid more in taxes than they will receive in benefits.

The distinction between "winners" and "losers" doesn't reflect whether most people would prefer to be "winners" or "losers". Some situations that make a class of people "winners" are undesirable situations most people would prefer to avoid. For example, while the disabled are one class of "winners" under Social Security, it does not follow that most people would prefer to become "winners" by becoming disabled.

In 1960, there were 4.9 workers paying Social Security tax for each beneficiary. That ratio has dropped to its current level of 2.8 workers paying tax for each beneficiary, and will drop further to only 1.9 workers paying tax for each beneficiary by 2035. As a result, our older generations have enjoyed generous Social Security benefits vastly exceeding the taxes they paid into the system over their lifetimes, while our younger generations will receive a much lower investment return on their Social Security taxes and, in some cases, will actually lose a significant amount of money.

Take the case of a single man born in 1915 who earned the average wage of $43,500 (in 2011 dollars) over his working career until retiring in 1980 at age 65. He belongs to the G.I. Generation, which includes people born between 1900 and 1924. Per a 2011 study by the Urban Institute, he paid $96,000 in lifetime Social Security taxes, but can expect to receive $203,000 in Social Security benefits after his retirement. Thus, he will have received $107,000 more in benefits than he paid in taxes, representing a 111% return on his investment. Due to a longer life expectancy, a single woman in the same situation also paid $96,000 in lifetime taxes but can expect to receive $249,000 in lifetime benefits, for a profit of $153,000. That's a 159% return on her investment!

In contrast, a single man born in 1946 who earned the same average wage until retiring in 2011 at age 65 paid $299,000 in Social Security taxes but will receive only $266,000 in lifetime benefits. That's a loss of $33,000, representing a return of negative 11% on his investment. In other words, he'll have lost money. A single woman in the same situation would fare better, as she would have paid $299,000 in lifetime taxes but can expect to receive $290,000 in lifetime benefits, for a loss of $9,000, or a negative 3% investment return. So, Baby Boomers, born between 1946 and 1964, will on average not enjoy the same returns from Social Security as the G.I Generation.

The situation is even worse for members of Generation X, born between 1965 and 1979. A single man born in 1965 who earns the same average wage and retires in 2030 at age 65 will have paid $398,000 in Social Security taxes but receive only $336,000 in benefits. This is a loss of $62,000, or negative 15%. A single woman in the same situation would again fair better, as she would have paid $398,000 in lifetime taxes but receive only $363,000 in benefits, for a loss of $35,000, or a return of negative 9%. Even worse, since Social Security may become insolvent by 2030, it’s entirely possible the benefits payable to this younger generation will be cut by about 25%.

Thus, the first class of Social Security “winners” are the older generations, comprised of people in the G.I Generation (born between 1900 and 1924) and the Silent Generation (born between 1925 and 1945). The first class of Social Security “losers” are the younger generations, comprised of Baby Boomers (born between 1946 and 1964) and Generation X (born between 1965 and 1979). In a way, this makes sense, as Social Security was created by members of the older generations, who used the opportunity to enrich themselves at the expense of their younger cohorts. Whether people think this is “fair” or not probably depends on which generation they are part of.

As suggested above, another class of “winners” under the Social Security program is women, while another class of “losers” is men. This is because the amounts of taxes paid and benefits received under Social Security are gender-neutral, while women have the biological advantage of longer average life spans. Thus, while men and women of identical ages, job histories and incomes pay the same amount of taxes, women can expect to receive more retirement benefits as they live longer.

For example, the above-described single man and single woman born in 1915 each paid $96,000 in taxes, but the man received only $203,000 in benefits while the woman received $249,000—or $46,000 more than the man. For another example, the single man and single woman born in 1946 each paid $299,000 in taxes, but the man received $266,000 in benefits while the woman received $290,000—or $24,000 more than the man.

While Social Security favors women over men due to their longer life expectancy, this distinction reflects a reasonable value judgment when one considers that the basic purpose of Social Security is to provide an income safety net sufficient to keep people out of poverty as they get old. This purpose is met for anybody who lives to an advanced age, regardless of whether it’s a man or a woman.

Social Security also favors married couples over single people. For example, compare the situation of the above-described single man born in 1946 with that of a married couple where one spouse was also born in 1946 and had the identical job and income history as the single man and the other spouse did not work outside the home. As noted, the single man paid taxes of $299,000 before retiring in 2011 at age 65, and will receive benefits of $266,000. In contrast, the married couple also paid taxes of $299,000, but will receive benefits of $448,000! The single man loses $33,000 (negative 11%) while the married couple gains $149,000 (positive 50%)!

The married couple enjoys a much higher return from their Social Security investment because the non-working spouse is entitled to a spousal benefit equal to 50% of the working spouse’s benefit. Thus, the married couple receives a total of 150% of the working spouse’s benefit, rather than 100%. One could argue this is fair because the married couple needs more retirement income to pay the living costs of two people, while the single man only needs to pay for himself. But one could also argue this is unfair as the married couple receives a higher return on investment than the single man.

The Urban Institute’s study also shows one-earner couples are favored over two-earner couples when it comes to receiving a higher return on their Social Security investment.

Assume a first married couple has only one earner, born in 1946, who made the average wage of $43,500 (in 2011 dollars) over his career and retired in 2011 at age 65. Also assume a second married couple has two earners, both born in 1946, where the first earner makes the average wage of $43,500 and the second makes a low wage of $19,500. The first couple will pay taxes of $299,000 but receive benefits of $448,000, for a gain of $149,000 (positive 50%). The second couple will pay taxes of $434,000 but receive benefits of $471,000, for a gain of only $37,000 (positive 8.5%). The first couple will clearly enjoy a much higher return, as they’ll pay $135,000 less in taxes than the second couple, but receive only $23,000 less in benefits. It is more difficult to argue the fairness of making one-earner couples Social Security “winners” at the expense of their two-earner cohorts.

The method used to calculate the amount of Social Security benefits favors lower income people over higher income people. In the paper entitled “Your Retirement Benefit: How it is Figured”, the Social Security Administration explains the calculation includes applying a formula to a person’s average indexed monthly earnings during the 35 years of that person’s highest earnings. The formula calculates the monthly retirement benefit at full retirement by adding together these three numbers: 90% of the person’s first $767 in average indexed monthly earnings; 32% of the person’s average indexed monthly earnings between $767 and $4624; and 15% of the person’s average indexed monthly earnings over $4624. See http://www.ssa.gov/pubs/10070.html.

Thus, the part of a person’s average indexed monthly earnings that counts the most in calculating the monthly retirement benefit is the first part between $0 and the first breakpoint of $767, as this part is multiplied by a full 90%. This first breakpoint is equivalent to annual earnings of only $9204. The other parts of a person’s average indexed monthly earnings do not count as heavily in calculating the monthly retirement benefit, since the second part between $767 and $4624 (annual earnings from $9204 to $55,488) is multiplied by only 32%, and the third part over $4624 (annual earnings over $55,488) is multiplied by only 15%. Therefore, lower earners earn relatively higher benefits since more of their average indexed monthly earnings fall within the lower breakpoints than higher earners.

The fact that Social Security favors people with lower incomes over people with higher incomes reflects the value judgment that Social Security should shift wealth from higher earners to lower earners. Whether this is fair is one of the dividing lines between Democrats and Republicans.

There are still other classes of “winners” and “losers” in Social Security.

Social Security's Supplemental Security Income (SSI) favors disabled people since they are eligible to receive SSI payments whereas non-disabled people are not. Children’s benefits favor the children of retired, disabled or deceased workers, who receive benefits even if they did not pay taxes. Widowed benefits favor widows and widowers of deceased workers covered by Social Security.

These features reflect value judgments that we wish to help people who are in difficult situations through no fault of their own, which are reasonable to most people.

As our politicians debate future changes to Social Security in order to insure its solvency, it will be useful to consider how those changes may shift benefits from one class of people to another class of people. What value judgments will each potential change reflect? Do we agree with these value judgments, and are they fair? And, of course, how will those potential changes affect me?