The largest distortion was to present Social Security as a personal insurance program similar to private pensions. The program was described as being a separate "fund" into which payroll taxes are deposited and from which benefits are withdrawn. This "fund" is kept on the books of the US Treasury and the Social Security Administration and you can lookup its value online. This is, however, just an accounting fiction. There is no "fund". The monies collected from the payroll taxes go to the US Treasury where they are combined with all other incomes. The payments are withdrawn from the Treasury in the same manner.
The Social Security system is a pay-as-you-go plan. Receipts from this year are used to pay benefits for this year. If there is an excess of receipts the balance goes to the treasury. Currently this is the case and is expected to remain so for the next thirty to fifty years (depending on whose estimates you choose to believe). So all the talk about Social Security running out of money is untrue. Even after the rate of outflow starts to exceed the inflow the difference will be made up from the general revenue of the treasury. The scare tactics be used now are just a way to soften the population up for future conservative plans to down scale or eliminate the Social Security program.
Even if the government wanted to be more honest about segregating the Social Security funds where would they put the excess? The only safe place is in government bonds, which is what is being done now. Since this is just moving the money from one pocket to another of the government the various solutions like "lock boxes" and the like are just semantics. So the real question is what to do when the expenditures start to exceed the income? This will occur because of the increasing number of people reaching retirement age, the improved expected life span and the shortage of younger people in the workforce to supply the income flow to keep the pay-as-you-go system in balance.
So, if the politicians would give up the misleading rhetoric the worry is not what to do about the diminishing "fund", but how to maintain a balanced flow into the foreseeable future. There are only two ways to solving this, which can be mixed and matched in any proportions desired.
Another approach is to reduce the payout size. Currently this is tied to the rate of inflation so that the benefits retain their purchasing power through the years of retirement. Small alterations in the formula used for calculating the cost of living when compounded over many years can have a fairly large effect on the total benefits being paid out.
Similarly, the formula for computing the level of benefits as a function of the lifetime amount contributed can be adjusted. As it now stands poorer workers get a higher effective return on their contributions than higher wage earners. This was part of the deliberate design of the system since these workers are presumed to have fewer assets to use late in life and thus need more help from Social Security to avoid poverty. A similar formula was created for non-working wives. This was based upon the lower number of women in the workforce during the depression than nowadays. So these women are entitled to a percentage of their husband's benefits even if they never contributed. With the majority of women now working it is possible that this formula could be adjusted in the future.
Since the program's inception the percentage of funds deducted from a person's wages has been periodically increased. In addition there has been a rise in the ceiling on the wages subject to the tax. Wage compensation above this amount is not taxed. So based upon prior actions we can expect the rate and the ceiling to increase in the future.
Another possible source of revenue is from those people not covered by the Social Security law. This includes certain types of government workers as well as historical classes of workers in special professions such as railroad workers. By merging the separate programs and making the contribution provisions more uniform the number of workers contributing would increase. It is true that eventually the number of retirees covered would also increase, but some of the excluded plans currently have more generous payouts and these would be brought into compliance with the overall plan.
The least painful step is to remove the cap on the wage level subject to the tax. Currently this cap is close to $90,000. Thus removing the cap will affect only a very small percentage of the workforce and the amount they will contribute will be a small increase in their overall tax burden. It also restores a degree of fairness to the tax code. Because of the large salaries of some of these people a fairly large amount of additional revenue will be raised.
As mentioned above expanding the base of workers in the plan would improve the inflow for at least a while and lower the costs of administering several plans. Similarly modifying the benefit rate and eligibility requirements can be done.
My boldest solution is to eliminate the payroll tax completely. As mentioned above it is regressive and only captures money from wage income. A large number of low wage workers pay more in payroll taxes than in income tax. Many pay no income tax at all, but still pay payroll tax. Eliminating it would help those at the bottom of the economic ladder the most. It must be remember that the payroll tax is paid equally by both the employee and the employer, so if we drop it we need to replace it with two income streams. I propose eliminating the payroll tax as a separate tax item and replacing it with an adjustment to the income tax rates. If we take the payroll tax rate as currently in the 8 to 9% range than adding about this amount to the tax rates will generate a similar amount of funds from workers. Thus the 10% tax bracket would become 18% and so on. If desired the increases don't have to be strictly linear, but could be scaled so the income tax brackets become more progressive as in the past. Thus the lowest rate might increase 5% and the highest might be 12% or so.
Doing this would have the effect of improving the standard of living of the poorest workers and would cut down on the need for other compensating public programs such as the earned income tax credit and food stamps. By careful adjustment of the rates and eligibility levels the poorest workers would come out ahead and the total government payments would remain about the same or, perhaps even drop slightly.
We still need to address the loss of income from the elimination of the employee contribution to Social Security. This revenue loss has to be covered as well. As I suggest in my essay on corporate taxes this collection system needs to be overhauled as well. By substituting a transaction based tax on business the lost revenue can be recaptured. Spending on payroll is just another business expense and would be subject to the same sort of taxation as any other business purchases. By covering all business expenses a transaction tax would also capture revenue from employee expenses which are currently escaping direct taxation such as stock options, personal perquisite like private jets and company paid club memberships, etc. Thus the overall business would be taxed rather than just specific activities. This will also help to reduce planning distortions since a dollar spent on salaries will have the same tax consequences as a dollar spent on contracting out a service.
So for this plan to be fiscally sound it needs a change in the way personal and business income taxes are collected. Who would benefit and who would lose out? The richest workers will see their taxes increase. Depending on their present income and the balance between wages and other forms of compensation their marginal rate might increase as much as 10% or so. This would still be much less than in prior periods of our history when the rate reached into the 70-90% range. It's seems only fair that those who enjoy the largest benefits from our society be prepared to pay the most. Other potential losers are those companies which have arranged their business so as to under pay taxes compared to their peers. Moving nominal operations offshore, for example would be less favorable since buying from a foreign subsidiary at an inflated price so as to shift the profit to an offshore entity would no longer work. The transaction tax would be based upon the amount paid.
The gainers would be low wage earners who would see their taxes decrease. In addition those companies that play by the rules and pay their taxes would be at a more competitive position than presently since their competitors would no longer be able to game the tax system. This would decrease the unfair advantage given to those companies from escaping taxes.
In order to achieve these bold steps we need to get away from the current
misleading rhetoric about the "Social Security Trust Fund" and look at the bottom
line. It's up to us.