1. Today’s Lecture #24 Social Security What Goes In and What Goes Out? Financing Historical Development Benefits What You Can Expect

2. The Cost of Current Social Security Benefits Current (2007) payroll tax is 7.65% of first $97,500 in earnings plus 1.45% of any additional earnings. The employer and the employee both pay this amount.

3. Example You earn $30,000 this year. You pay $2295 in Social Security taxes (0.0765 x 30,000) and your employer pays the same amount. The total Social Security tax is $4590 (15.3% of your salary). Of this 15.3%, 12.4% is for OASDI and 2.9% is for HI (Medicare).

4. Example 2 You earn $197,500 this year. Your Social Security taxes are $8908.75 (.0765 x 97,500 +.0145 x 100,000) and your employer pays the same amount. The total Social Security tax is $17,817.50.

5. Historical Development 1935 Social Security Established Benefits to Retired Workers of $10-85/month, starting in 1939 Tax = 1% of First $3000 of Earnings 1939 Added Dependents and Survivors 1956 Added Disabled 1961 Retirement at 62 1965 Incorporated Medicare 1972 Indexed Benefits (Double Indexing Error)

6. Historical Development 1977 Corrected Double Indexing Error Raised Future Taxes “Financially sound through the end of the century” 1983 Raised Taxes Expanded Coverage Taxed some benefits (up to 50%) Changed index Increased retirement age 1994 Taxed more benefits (up to 85%) 2003 Prescription drug coverage added to Medicare

7. Coverage Universal with exceptions Major exceptions: Federal workers hired before 1984 Railroad workers State and local government workers if employer elected, prior to 1984, not to have Social Security

8. Eligibility Earn one “Quarter” of coverage for each $x of annual earnings, subject to maximum of 4 quarters per year: 2005x = 920 2006x = 970 2007x = 1000 Fully Insured Status 40 quarters of coverage less if born before 1929 Currently Insured Status Six quarters out of last 13 Applies to survivor benefits

9. Types of Benefits Retirement Survivors’ Disability Medicare Part A – Hospital Benefits Part B – Medical Benefits Part C – Managed Care Options Part D – Prescription Drug Benefits

10. Amount of Benefits (http://www.ssa.gov/OACT/COLA/piaformula.html) The Primary Insurance Amount (PIA) is a function of covered earnings. First, actual earnings are adjusted for inflation. Then average earnings during a selected period of time is calculated (Average Indexed Monthly Earnings, or AIME). For 2007, the PIA is based on the AIME: 90% of the first $680 32% of the AIME from $680-$4,100 15% of the AIME over $4,100.

11. Average Benefits 2007 MonthlyAnnual All retired workers 1,04412,528 Retired couple1,71320,556 Disabled worker, family1,64619,752 Cost-of-living-adjustment (COLA) for December 20072.3%

12. Replacement Rates At Normal Retirement Age Based on Intermediate Assumptions Wage Level YearLowAverageMax 199658.2%43.2%24.5% 200756.0%41.5%28.5% 2050 55.3%41.0%27.3% Earnings Level Under Intermediate Assumptions 20052050 Low$12,000$93,722 Average 36,600208,271 Maximum 90,000509,358

13. Amount of Benefits Retired Worker at Normal Retirement Age – 65 (for those born in or before 1937) – increases monthly to age 67, the age for those born in 1960 and later Eligible for PIA each month Less is under 65 More if over 65 Spouse of Retired Worker If 65 or older 1/2 PIA Less if under 65 If spouse is eligible for own retirement benefit, receives only the larger benefit

14. Example PIA is $800 65 year old retired worker 65 year old spouse who never worked Monthly benefit for couple is $1200 Retiree800 Spouse400 If spouse had worked and had a PIA of $500 Monthly benefit for couple would be $1300 Retiree 1800 Retiree 2500

15. Future Cost of Social Security Cost of current OASDI benefits for 25, 50, & 75 year periods as % of taxable payroll AssumptionsIIIIII 2007-2031 12.92 14.23 15.69 2007-2056 13.43 15.33 17.72 2007-2081 13.43 15.87 19.11

16. What Will Happen to Social Security Three choices by the time you retire: Raise payroll taxes by 50-100% Lower benefits by 1/3 to 1/2 Reduce the number of beneficiaries Increase the Normal Retirement Age to around 75 Which would you choose?

17. One Proposal to Save Social Security Reduce the annual Cost-of-Living Adjustments (COLAs) by 1% If this is done now, the Social Security system will remain solvent indefinitely Why don’t we do this?