Thursday, January 6, 2011

The Regressive Nature of the Social Security Tax

As you make more money, the percentage of income you pay in terms of Social Security Tax, decreases.  It is, by definition, a regressive tax that taxes the poor at a higher rate than the rich.

A lot of myths abound about Social Security.  The first one is that it is some sort of "Trust Fund" that puts aside money for you for you to retire.  Some folks actually think that their Social Security Number is some sort of bank account number with "their money" in it.

This is, of course, not the case.

The Social Security "Trust Fund" exists only in the ether of the mind.  Money coming into Social Security goes into the "Trust Fund" for less than a nanosecond, only to be replaced by I.O.U.'s from the Treasury department.  The money needed to pay out beneficiaries in the Social Security System comes right out of that very said same money.

There is no "fund" - no monies "invested" or "set aside" for your use or earmarked.  When you retire, the money to pay YOU will come from the paychecks of working Americans at that time.

So get the idea out of your head that Social Security is some sort of 401(k) plan - it is not.  It is an entitlement program - just like Welfare.

If you doubt this, consider the following scenarios in which someone can collect from Social Security without ever paying in an equal amount.

1.  Susie becomes disabled and can no longer work.  She qualifies for full disability, and under the Social Security program, starts collecting $2000 a month - for the rest of her life.

2.  Frank's parents retired when he was 15.  Social Security pays him $250 a month until he is 18.  Never mind that his parents are millionaires and Frank lives in a mansion.  He uses the money to buy pot.

3.  Joe's Mother dies when he is 14.  The Social Security administration sends him $500 a month until he is 18 years old.

Suzie, Frank, and Joe are not made-up people, but folks I actually know (the names have been changed to protect the innocent).  Now, granted, you may argue that these folks may "deserve" some sort of payment (or not).  But that is not the point.  The point is, there is no "fund" they are tapping into, they are just getting paid by qualifying under one of the provisions of Social Security.

That, by definition, is an entitlement plan just like welfare.

And the money taken out of your paycheck every week is not a "Contribution" to your Social Security "Plan" but rather a TAX you pay to the government - and that money is used to pay other people than yourself.

Bear in mind that most retirees will take out far more in Social Security payments than they ever pay in.  If it truly were a "retirement plan" or "fund" then there would be a finite amount they could take out - like with my IRA or 401(k).  But it is an open-ended entitlement plan, not a fund!

Now, I am not saying Social Security is a bad thing - or that we should privatize it, or whatever.  Only that we should call it for what it is.  One of the biggest problems in the debate on Social Security is that people use this disingenuous language of "trust funds" and "contributions" to make it seem like an IRA and not just some major transfer of wealth - which is what it is.

If you can control the language of the debate you can control the debate.  Anti-abortion protesters call themselves "Pro-Life" because it sounds better, just as pro-abortion protesters call themselves "Pro-Choice" - both sides choose terms that just sound a heck of a lot better.

So the government doesn't want you to think of Social Security as a "tax" because you'd realize that you are paying a lot more taxes than you are - 6.2% on top of your ordinary rates.  If they can get you to believe you are "contributing" to a "fund" then it sounds so much sweeter, doesn't it?  But it is just jimmying the language of the debate, is all.

So here's the deal - you get TAXED to pay for other people's Social Security payments.  And that TAX is 6.2% of your income - but only for the first $108,600 of your income.

What happens when you make more than that?  You pay no more additional Social Security TAX than you would making $108,600.

That means, as the chart illustrates above, that Social Security taxes are basically regressive.  As you make over $108,600, the amount you pay in Social Security taxes decreases, as a percentage of your income.  A person making a million dollars a year pays less than one percent of his income in Social Security Taxes.  A person making $25,000 a year pays 6.2%

Why is the Social Security Tax calculated this way?  Beats me.  In part, I suspect because of this mythology that you are "paying in" to a "fund".  The flip side to the $108,600 cutoff is that people making more than this won't collect any more, in terms of Social Security,  when they retire.  So, the argument goes, why should they pay more into a system they don't collect more from?

About every five years or so, Social Security is in a "Crises" and pundits go on Television with all of their plans to "Fix Social Security".  Al Gore blathered on about a "lock box" which was puzzling, as there is nothing, as illustrated above, to put in such a box, except perhaps his ego.

There are only two ways to "fix" Social Security when it is "broken" and the Government has used both over the years:

1.  Increase taxes:  There are two ways of doing this.  One would be to raise the rate to higher than 6.2% - but that would be staggeringly unpopular.  The other is to raise the cutoff, which has been done over the years.  Today it is $108,600.  A few years back it was $80,000 or so.  In a few years, it will be raised again.  No doubt, it will go up again over time.

2. Cut Benefits:  The biggest cut to Social Security was to make it taxable.  Until the 1980's, Social Security benefits were considered non-taxable income.  All that has changed.  Someone living on Social Security alone would pay little or no taxes, but for middle class people for whom Social Security was a supplement, this represented a big cut in their income.  The government giveth, and the government taketh away.  Regular COLA increases are added to Social Security, and a rumor going around the Internet is that the "Obama Administration has cut COLA" which is of course, a lie.  COLA is based on, as the name implies, the cost-of-living, and during the last year, due to the recession, prices have remained flat, hence no COLA increase.  And the administration has no say in this.  In the future, when Social Security runs out of money again, expect to see more cuts - and perhaps "needs" tests instituted, as it morphs more into a regular welfare program for the indigent elderly and less of a "retirement" program for all of us.

Now some might argue, why not just raise the Social Security cutoff or get rid of it entirely?  We could, but of course that would be a hugely unpopular tax increase for the wealthy.  And if you increase the cutoff, you have to increase the benefits down the road as well.  So it is a double-edged sword.

I have no opinions on the whole thing, one way or another.  But I do think that when debating Social Security, we at least need to understand how it works.  Many people with passionate opinions about the plan really have no clue how it works.

As one recently elected "teabagger" Congressman said, "Many of my constituents believe that their the government opened up a bank account in their name, when they were born, and that their Social Security Number is that bank account number - this is the mentality I have to deal with."

And indeed, it seems to be a common mentality throughout the ages.  People don't want to raise taxes and they want to cut the budget.  But "Don't cut MY Social Security!" they say.

Not much changes, it seems.