Analysis of 2007 Annual Report of the Social Security Trustees

The Social Security Act created a Board of Trustees to oversee the Old-Age and Survivors Insurance and Disability Insurance Trust Funds (OASDI), popularly known as the Social Security Trust Funds. Each year the Trustees report on the financial status of the Trust Funds. The report is a snapshot of the health of the Funds in the short range (10 years) and in the long range (75 years). With the help of the Social Security Administration actuaries, the Trustees estimate the income and expenditures of the Fund, taking into account projections of both demographic and economic factors.

The Social Security Trust Funds are considered to be in long-range balance when the income to the Funds exceeds expenditures over 75 years. When income does not meet expenditures in the long run, there is a shortfall, or deficit. Income, expenditures and balances are expressed in both dollars and as a “percent of payroll,” meaning the percent of all wages or self-employment income subject to taxation.

Social Security is financed mainly through payroll taxes on wages and self-employment income. Employees and employers each make contributions equal to 6.2 percent of wages, up to a wage cap of $97,500 in 2007. The cap rises every year with inflation. It was originally set at an amount that would tax about 90 percent of all wage income in the United States . However, wages at the high end of the income scale have risen faster than average paychecks in recent years, so today the cap only covers about 83 percent of wages.

The self-employed contribute the equivalent of the combined employer and employee tax rates, which is 12.4 percent. They are then allowed to deduct the equivalent of the employer's share from their income taxes.

Social Security also receives a small amount of revenue from income taxes on Social Security benefits paid by retirees with higher incomes.

When working Americans pay their Social Security payroll taxes to the U.S. Treasury, those taxes are credited to the Social Security Trust Funds. Some of those taxes are paid out monthly in Social Security benefits. If income to the Trust Funds exceeds the value of benefits paid, then the Social Security Trust Funds are credited with the excess income. The income is used to purchase special issue U.S. government bonds that are backed by the full faith and credit of the United States . The bonds earn a rate of return similar to that earned by other long-term U.S. securities. When an excess of annual income over expenditures results in an accumulation of assets, those assets earn interest and further increase the Funds. These accumulated assets are commonly referred to as the Social Security “surplus.”

According to the 2007 Trustees report, income from Social Security payroll taxes will account for 84 percent of Trust Fund income in 2007; income taxes paid by beneficiaries will represent 2 percent, and interest on reserves will make up the remaining 14 percent.

The long-range financial outlook for Social Security improved slightly from the 2006 Trustees Report.

The Social Security Trust Funds are projected to be solvent (and can therefore pay 100% of benefits) through the year 2041, one year later than last year's report.

The projected Social Security actuarial deficit ¹ – measured as a percent of taxable payroll over the traditional 75-year period – decreased from 2.02 percent of taxable payroll in last year's report, to 1.95 percent of payroll. ²

The open group ³ unfunded obligation ⁴ for the program over the 75-year period (from 2007 to 2081 for this report) is projected to be $4.7 trillion.

The measured unfunded obligation over the infinite horizon increased from $13.4 trillion in last year's report to $13.6 trillion in this report.

Income exceeded expenditures and the surplus continued to grow.

Total income to OASDI in 2006 was $745 billion and total expenditures (benefits and other expenses) were $555 billion, for a surplus of $190 billion.

Total assets held in Social Security's special issue U.S. Treasury securities at the end of 2006 totaled $2.0 trillion, or 345 percent of expected annual expenditures for 2007 .

Social Security remains strong for many years.  

Total assets are expected to reach $4.2 trillion by 2016, or 407 percent of annual expenditures in that year.

Projected OASDI tax income will begin to fall short of outlays in 2017, remaining sufficient to finance 100 percent of scheduled annual benefits until 2041. Thereafter, income will be sufficient to finance 75 percent of scheduled benefits.

As the baby boom generation ages, Social Security expenditures grow as a proportion of the economy, but remain quite manageable.  

Annual tax income flowing into Social Security as a share of U.S. economic output, or Gross Domestic Product (GDP), is estimated at 4.9 percent in both 2007 and 2030, and then decreases to 4.5 percent of GDP in 2081.

The annual cost of Social Security benefits as a share of GDP is estimated at 4.3 percent in 2007, and projected to increase to 6.2 percent of GDP in 2030, and then rise slowly to 6.3 percent of GDP in 2081.

The OASDI annual cost rate is projected to increase from 11.23 percent of taxable payroll in 2007, to 16.6 percent in 2030, and to 18.5 percent in 2081. ⁵

Social Security's costs are expected to grow as a share of GDP over the trustee's valuation period for three reasons: workers born between 1946 and 1964 (the baby boom generation) will begin reaching retirement age in large numbers beginning in 2011; people are living longer after age 65; and birthrates in the future are assumed to remain historically low.

Social Security's income is projected to decline as a share of GDP over the valuation period, on the other hand, because the Trustees project workers' wages that are subject to Social security taxes will continue to grow more slowly than other types of income. Wages that are subject to Social Security taxes equal 38 percent of GDP in 2007 and decline to 33.9 percent in 2081. Key sources of income that are not taxed to pay for Social Security include: the increasing share of workers' wages that fall above the tax cap ($97,500 in 2007); employers' contributions to employee benefits such as health insurance premiums, pensions and 401(k) plans; and other non-wage income such as interest, dividends, capital gains, and rental income.

ISSUES TO CONSIDER

Social Security benefits, while critical to retirees, the disabled, and their families, are not overly generous. The average monthly Social Security benefit paid to retired workers in January 2007 was $1,044. Average benefits are $979 for disabled workers and $1,008 for aged widows and widowers. Benefits are somewhat higher for families. Yet 20 percent of Social Security beneficiaries are living on their Social Security check as their only income today. For 2 out of 3 retirees, Social Security makes up more than half their income. Benefits for everyone born after 1937 will already be smaller as a proportion of pre-retirement wages because of the phased increase in retirement age.

The “Infinite Horizon” Analysis Is Highly Suspect. In recent years, a new measure of financial adequacy, an “infinite horizon” measure, was added to the Trustees' analysis. Projections of Social Security's unfunded liability over an infinite horizon should not replace the traditional 75-year estimates as the primary projections upon which policymakers and analysts rely. There is too much uncertainty in long-term financial estimates to justify relying on projections covering an infinite time period. The new “infinite horizon” concept simply serves to institutionalize a case for dismantling Social Security. In a letter to the Social Security Trustees in December 2003, the American Academy of Actuaries, the leading professional organization of actuaries, warned that infinite-horizon projections “provide little if any useful information about the program's long-term finances and indeed are likely to mislead anyone lacking technical expertise.”

The size of the Social Security shortfall is dwarfed by the cost of the tax cuts. After the expected rise in Medicare costs, the second biggest source of projected long-term deficit growth is the 2001 and 2003 tax cuts.  The cost of extending the 2001 and 2003 tax cuts over the same 75-year period is an estimated $14.4 trillion in present value, or 2.0 percent of GDP.  The Trustees' report places the size of the Social Security shortfall at $4.7 trillion over the next 75 years, or approximately 0.7 percent of GDP.  Thus, the cost over the next 75 years of making the tax cuts permanent will be about three times the size of the Social Security shortfall.  Moreover, the cost over 75 years of the tax cuts just for the top 1 percent of Americans (people with annual incomes over $400,000 in today's dollars) is nearly equal to the cost of closing the Social Security shortfall. 

¹ The difference between income and cost of the program expressed as a percentage of taxable payroll over the valuation period

²This deficit indicates that financial adequacy of the program for the next 75 years could be restored if increases were made equivalent to increasing the Social Security payroll tax immediately and permanently from its current level of 12.4 percent (for employees and employers combined) to 14.35 percent. Alternatively, changes could be made equivalent to reducing all current and future benefits by about 13 percent.

³ This includes taxes and costs for past, current and future participants.

⁴ This is the difference between the present values of Social Security inflows and outflows plus the existing Trust Fund.

⁵ This 18.5-percent cost rate means the combination of the payroll tax (scheduled to total 12.4 percent) and proceeds from income taxes on benefits (expected to be 0.9 percent of taxable payroll in 2081) would have to equal 18.5 percent of taxable payroll to pay all currently scheduled benefits.

Government Relations and Policy, May 2007