Your Money : Social Security Debate Suffers Lack of Breadth

Changes in Social Security, both enacted and proposed, are touching off a heated generational debate.

Young workers complain that they’ll pay many times what their parents did and probably get back less, while current Social Security recipients argue they paid plenty for the benefits they’re currently getting and it’s not fair to change the rules in the middle of the game.

Who is right? Everyone.

In the debate over Social Security, it’s important to remember that this is a complicated system that does far more than provide an annuity to retirees. As a result, there are plenty of competing interests.

Social Security, launched during the Great Depression, was designed to provide income to retirees who had little savings and few prospects for future work. Later it was expanded to provide for widows and orphans. Then for disability. And, finally, Medicare was added to provide health benefits to the elderly.

During the first 13 years of the program, employees contributed just 1% of their first $3,000 in income to the system--$30 annually. Employers matched the contribution. Self-employed workers were not covered until 1951. But the tax--and the number of people subject to it--gradually increased until the combined employer-employee contribution jumped to the current 15.3% of the first $61,200 of a worker’s income--more than many people pay in income taxes.

Rules governing the program have changed innumerable times.

Part of the generational acrimony stems from the rising contribution rates that cause the young to pay more.

To put it simply, a 95-year-old who retired in 1965 would have paid roughly $4,212 into the system--including contributions made on his behalf by an employer. But he’d get a monthly benefit of about $741. Over 30 years of retirement, this hypothetical individual would pull roughly a quarter of a million dollars out of the system. In other words, this retiree’s actual contributions were paid back in just under six months. Even factoring in the effects of compound interest, this individual would have received about 28 years of “free” benefit payments.

An 18-year-old just now starting to work provides a stark contrast. If he earns average wages throughout his working life, he would contribute $62,083 to Social Security and would get monthly benefits of about $856 starting at age 67, says Leslie Walker, a spokeswoman for the Social Security Administration in San Francisco. (The qualifying age for full Social Security benefits is gradually rising.)

If you factor in the contributions this worker’s employer made on his behalf, total contributions amount to $124,166. It would take him 20 years to collect that amount--without accounting for interest. If interest is factored in, it’s unlikely that this 18-year-old will live long enough to recover all that he contributed.

Those retiring in 1995 fit somewhere in the middle of that picture. An “average” wage-earner would have paid in roughly $45,000, including the employer’s share. A high-income individual will have paid in about $97,000. It would take about seven years to get back in benefits what was contributed, without accounting for interest. Including interest at a 6% rate, it would take about 20 years to deplete the high-income earner’s “account.”

However, to think about Social Security as an annuity is to be misled.

It is not a savings plan like an individual retirement arrangement or 401(k), says Robert Treanor, manager of the Social Security division at William M. Mercer Inc. in Louisville, Ky. There is no account with your name on it that will be tapped or depleted when you start to draw from the system.

Rather, it is an insurance program, like auto or life insurance. And, Treanor notes, few people consider their car insurance premiums a waste simply because they haven’t had a collision.

But is this insurance program worth the amount that people are currently paying? It’s a question that’s hard to answer, partly because of the disparate benefits.

In addition to monthly benefit payments, the Social Security system provides a long-term disability program, survivors’ and spousal benefits. And, a portion of your Federal Insurance Contribution Act (FICA) payments pay for Medicare.

No one has calculated the present value of all these benefits.

However, it’s worth mentioning that those who don’t have Medicare insurance can buy it for a monthly stipend that currently amounts to $261 per month, or $3,132 per year. If you got nothing out of Social Security but that Medicare coverage for 30 years, you arguably would be pulling out a benefit worth at least $93,960.

While Social Security officials estimate that the disability portion of the system is similar to giving every eligible worker a $200,000 disability policy, there are no limits on disability benefit payments. As long as you’re disabled and cannot work in your former--or any new job--you qualify for payments, says Walker.

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There is also a life insurance component for dependent spouses and children. If a 25-year-old with a wife and two young children dies suddenly, for instance, the family would receive roughly $333,000 in benefits over the 18-year period that the family would be eligible for survivor’s benefits, Walker says. Children who are raised by their grandparents can also sometimes claim survivor’s benefits when the supporting grandparent dies.

And then there are spousal benefits. Non-working spouses can claim up to 50% of their working spouse’s benefit, provided they’ve been married for at least 10 years--even if these individuals never worked.

However, the biggest beneficiaries of the Social Security system are the working poor. That’s because benefit calculations are skewed to give comparatively more to those who earned less over their working lives.

Specifically, benefits are calculated based on your average monthly earnings, adjusted for inflation. You receive 90% of the first $422 in monthly earnings; 32% of the next $2,123; and just 15% of any amount above $2,545, according to the Social Security Administration.

In other words, if your average monthly earnings were $422, you would get roughly $380 per month at retirement.

Assuming that you and your employer contributed at the full 15.3% rate for 30 years, you would have paid in $64,858--including interest at a 6% compounded annual rate. That amount of money would be depleted in 14 years. But, because Social Security is an insurance program rather than a savings account, you would continue to receive a monthly check for as long as you live.

Who are the losers? Young contributors, high wage-earners, dual-income couples and people who never have cause to use the life insurance or disability benefits. Most experts say that these people will never collect anywhere near as much as they paid in.