Social Security is often called an “Entitlement Program.” I find this phrase very interesting since all of the money that comes from Social Security is paid in by each of us and our employers during our working lifetime. Currently, we each pay 5.65% of our salary into Social Security and our employer pays 7.65% of our salary. Normally we each pay 7.65% but in 2011 the amount has been temporarily reduced by 2%. So, if one earns $30,000 this year, the total contribution to Social Security between them and their employer is 13.3% or $3,990!
Let’s assume I am a 25 year old and make $30,000/year. If I work for 40 years and my salary only increases by 3% each year, the total contributions will be approximately $345,000. My actual Social Security benefit at age 66 would be approximately $1200 a month or $14,400 a year for the rest of my life with increases for inflation. If inflation averages 3% that means my income goes up each year! Sounds great, right? Well, let’s do a little more math! Since I have to wait until age 66 to collect, I can expect on average to receive income for 15 more years based on the IRS life expectancy tables. That means I would collect a total of $268,000! Wait a minute… I paid in $345,000 but I only collect $268,000? What the heck?
As you know, money that is being collected doesn’t have to just set idle but can actually earn interest. If I use the money each year to buy 30 year US treasury bonds at today’s interest rates, I would make about 4% interest. If I invested all of my contributions this way, I would have grown my $345,000 in contributions to almost $732,000 over 40 years. If I used this money to buy bonds paying 5% interest, I could have an income of $36,500 a year without ever spending any of my principal! This is 2 ½ times more than the benefit I will receive from Social Security and they don’t let me have my principal!
You would think that the government’s miserly paybacks on my investment through the years would make it very easy for Social Security to pay my benefits. Well, we keep hearing that Social Security is broke! How can that be? Well, there’s a simple explanation for it. All the money that was put in over the past has been spent by one congress after another and basically the cash was replaced with a government I.O.U. called a “special issue” security. In 2010, Social Security paid out $929 Billion and took in $1,020 Billion. Current benefits are largely being paid on the money that you and I pay in every week.
How come they need so much of the money coming in just to cover the money going out. There are primarily three reasons…
One, benefits for Seniors have gone up through the years much faster than inflation. As interest rates have been going steadily down and they earn less interest on these “special issue” securities, they keep paying higher benefits to existing retirees. Politicians find it an easy way to buy votes from senior citizens by raising their benefits and then scaring them that their political opponents will try to cut those benefits.
Two, life expectancies continue to increase because modern medical technology and advances in medicine have allowed people to live much longer. It used to be that when a man reached age 65, he retired from his company, got his gold watch and died in the next few years. Now people commonly live well into their 80’s. So, they receive benefits for a longer period of time. Keep in mind that this should not create a problem because of the massive overfunding of the program but unfortunately, our Congress has managed to massively over-promise and over-spend the available funds.
Three, the largest segment of our population is now beginning to enter their retirement years and for the next 20 years or so, the number of retirees will outnumber those still in the labor force that pay into Social Security. This means we will have more people taking out and fewer people paying in. Even the Social Security Administration website acknowledges that without significant changes, Social Security will be broke with 25 years.
When someone takes in money from new investors and uses that money to pay off earlier investors because they already spent their money, we call it a Ponzi Scheme. The United States Government has a much better sounding name for it. They call it “Social Security”. Doesn’t that sound nice? Let’s tell this free-spending Congress enough is enough!
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