The Social Security Program was initially enacted to benefit senior citizens impoverished by the Great Depression. While many people think of Social Security in terms of retirement, today’s Social Security provides much more than benefits to retired workers. It also provides retirement benefits to spouses, ex spouses and minor children of retired workers as well as disability benefits to the worker, and his or her spouse and children.
This discussion though is limited to Social Security retirement benefits. While Social Security was never designed to be one’s sole source of retirement income, law changes through 1981 and automatic cost of living adjustments through 2009 have grown Social Security retirement benefits to a significant sum. The Social Security Administration though has recently announced that for the first time, there will be no cost of living adjustment for 2010 because there was no increase in the Consumer Price Index for the relevant period.
For 2009, the average Social Security benefit paid to a retired worker is $1,153 per month or $13,836 annually. The average monthly payment to a retired married couple is $1,876 or $22,512 annually. The maximum Social Security benefit in 2009 is $2,323 per month or $27,876 annually. To qualify for the maximum benefit, one must have worked for 35 years, earning at or above the maximum wage base applicable to each of the 35 years.
Your Social Security benefits are financed by payroll taxes paid equally by you and by your employer. Self employed workers pay the entire tax. The tax rate and taxable wage base have grown significantly. For 2009 (and 2010) the rate is 7.65% each on the first $106,800 of taxable wages. In 1937, the rate was 1% of the first $3,000 of taxable wages. In 1974, the rate was 4.95% each on the first $13,200 of wages.
This dramatic increase in payroll tax has caused many, especially higher earners, to ask whether these payroll taxes could have provided them a larger retirement benefit if invested privately. Social Security provides a monthly annuity for life. For the sake of comparison, let us see how much of a commercial monthly annuity could be purchased with these payroll taxes.
Assume an individual retiring in 2009 at full retirement age has worked for 35 years earning exactly one half of the maximum social security wage base in each of those 35 years. This person’s social security benefit would be $1652 per month increased each year for cost of living adjustments measured by the increase (if any) in the consumer price index. Over his or her earnings years, they would have paid $56,834 in payroll taxes. Invested at 3%, these taxes would buy a comparable annuity of $437.45 per month. Invested at 6%, the comparable annuity would be $695.05 per month. Considering that the employer contributes an equal amount, even doubling these commercial annuities would not beat Social Security.
Social Security benefits are weighted more for the first dollars of earnings than the last dollars of earnings. One would then expect a higher earning worker to receive a lesser return on their “investment”. An individual retiring in 2009 again at full retirement age but earning (and paying tax on) the maximum social security wage base for 35 years would receive the maximum retirement benefit of $2,323 per month. This individual would have paid $ 113,668 in payroll taxes. Invested at 3%, a comparable commercial annuity would pay $875.43 per month, $1390.74 per month if the payroll taxes were invested at 6%. Counting the equal employer contribution, if the total employer and employee payroll taxes were invested at 3%, the equivalent commercial annuity would be $1751.39 per month, far less than the monthly social security retirement benefit of $2323.
If both employer and employee taxes were invested at 6% a commercial annuity could be purchased paying $2782.01 per month. While this is slightly greater than the Social Security benefit, the Social Security program offers additional benefits to workers. For example, the Social Security retirement benefit is more like a 100% joint and survivor annuity in certain cases. The spouse of a deceased worker would receive the deceased worker’s benefit if greater than the surviving spouse’s own benefit. A worker retiring in 2009, having paid the maximum payroll tax for 35 years and invested both the employer and employee contributions at 6% could purchase a 100% joint and survivor annuity paying $2163.72 per month with the funds, less than the Social Security benefit of $2323.
Social Security taxes also fund a disability program for workers suffering total disability prior to attaining retirement age. This is a potential cost that would have to be added to the cost of the commercial annuity for comparison purposes.
Workers close to retirement should also consider whether they are better off receiving their Social Security benefits either before or after normal retirement age. This will be the subject of the next posting.
This discussion though is limited to Social Security retirement benefits. While Social Security was never designed to be one’s sole source of retirement income, law changes through 1981 and automatic cost of living adjustments through 2009 have grown Social Security retirement benefits to a significant sum. The Social Security Administration though has recently announced that for the first time, there will be no cost of living adjustment for 2010 because there was no increase in the Consumer Price Index for the relevant period.
For 2009, the average Social Security benefit paid to a retired worker is $1,153 per month or $13,836 annually. The average monthly payment to a retired married couple is $1,876 or $22,512 annually. The maximum Social Security benefit in 2009 is $2,323 per month or $27,876 annually. To qualify for the maximum benefit, one must have worked for 35 years, earning at or above the maximum wage base applicable to each of the 35 years.
Your Social Security benefits are financed by payroll taxes paid equally by you and by your employer. Self employed workers pay the entire tax. The tax rate and taxable wage base have grown significantly. For 2009 (and 2010) the rate is 7.65% each on the first $106,800 of taxable wages. In 1937, the rate was 1% of the first $3,000 of taxable wages. In 1974, the rate was 4.95% each on the first $13,200 of wages.
This dramatic increase in payroll tax has caused many, especially higher earners, to ask whether these payroll taxes could have provided them a larger retirement benefit if invested privately. Social Security provides a monthly annuity for life. For the sake of comparison, let us see how much of a commercial monthly annuity could be purchased with these payroll taxes.
Assume an individual retiring in 2009 at full retirement age has worked for 35 years earning exactly one half of the maximum social security wage base in each of those 35 years. This person’s social security benefit would be $1652 per month increased each year for cost of living adjustments measured by the increase (if any) in the consumer price index. Over his or her earnings years, they would have paid $56,834 in payroll taxes. Invested at 3%, these taxes would buy a comparable annuity of $437.45 per month. Invested at 6%, the comparable annuity would be $695.05 per month. Considering that the employer contributes an equal amount, even doubling these commercial annuities would not beat Social Security.
Social Security benefits are weighted more for the first dollars of earnings than the last dollars of earnings. One would then expect a higher earning worker to receive a lesser return on their “investment”. An individual retiring in 2009 again at full retirement age but earning (and paying tax on) the maximum social security wage base for 35 years would receive the maximum retirement benefit of $2,323 per month. This individual would have paid $ 113,668 in payroll taxes. Invested at 3%, a comparable commercial annuity would pay $875.43 per month, $1390.74 per month if the payroll taxes were invested at 6%. Counting the equal employer contribution, if the total employer and employee payroll taxes were invested at 3%, the equivalent commercial annuity would be $1751.39 per month, far less than the monthly social security retirement benefit of $2323.
If both employer and employee taxes were invested at 6% a commercial annuity could be purchased paying $2782.01 per month. While this is slightly greater than the Social Security benefit, the Social Security program offers additional benefits to workers. For example, the Social Security retirement benefit is more like a 100% joint and survivor annuity in certain cases. The spouse of a deceased worker would receive the deceased worker’s benefit if greater than the surviving spouse’s own benefit. A worker retiring in 2009, having paid the maximum payroll tax for 35 years and invested both the employer and employee contributions at 6% could purchase a 100% joint and survivor annuity paying $2163.72 per month with the funds, less than the Social Security benefit of $2323.
Social Security taxes also fund a disability program for workers suffering total disability prior to attaining retirement age. This is a potential cost that would have to be added to the cost of the commercial annuity for comparison purposes.
Workers close to retirement should also consider whether they are better off receiving their Social Security benefits either before or after normal retirement age. This will be the subject of the next posting.
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