Download Social Security

Dr. Laura Dawson Ullrich
April 1, 2014
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Definition:
◦ a regular payment made during a person's
retirement from an investment fund to which
that person or their employer has
contributed during their working life.
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Two types:
◦ Defined benefit plans (annuity plan)
◦ Defined contribution plans (payout depends
on amount invested and return on
investment)
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Defined Benefit
◦ Employees and employer make regular contributions
during the employees’ working years
◦ After retirement, employee receives monthly
payments that are calculated based on tenure at
work and salary
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Defined Contribution
◦ Employees make contributions during their working
years (employers may as well)
◦ Employee can choose how fund is invested
◦ After retirement, employee can make withdrawals
from account
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Defined Benefit Example
◦ Employee makes $100,000 a year during the last four
years of employment
◦ Employee has 30 years of service at Company X
◦ Company X contributes 9% of employee’s salary per
year into pension fund; employee does the same
◦ The multiplier used by Company X is 2.07% per year of
service.
◦ After retirement, pension is calculated as follows:
(30 * 0.0207) * $100,000 = 0.621 * $100,000 = $62,100
This means that the employee will receive $5,175 per
month (before taxes) until death
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Defined Benefit Programs
◦ Under a defined benefit program, the employee does
not bear the investment risk.
◦ The pension payment is the same regardless of the
success of the pension program investment.
◦ Defined benefit programs have become less common
over time.
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1985
1998
2004
2010
2013
–
–
–
–
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89 of Fortune 100 companies
67 of Fortune 100 companies
38 of Fortune 100 companies
17 of Fortune 100 companies
7 of Fortune 100 companies
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Defined Benefit Programs
◦ Why have they become less common in the
private sector?
 Still common in government jobs
 Private companies are hesitant to bear risk
 Employees no longer expect/demand them
 Companies and employees are less loyal than
in previous generations
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Nearly all countries have some sort of social
insurance (pension) program for the elderly.
Social insurance:
◦ government provision for unemployed, injured, or aged
people; financed by contributions from employers and
employees as well as by government revenue
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These insurance programs for the elderly
generally come in the form of a pension and
healthcare
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Many citizens do not work in jobs that provide a
pension after retirement.
Altruism: we are generally uncomfortable with
the thought of the elderly living in extreme
poverty.
To reward years of hard work.
To guarantee some source of income in case of
poor investment outcomes in other accounts.
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The level of income replacement from the public
pension varies greatly from country to country.
Pension replacement for median income earners:
◦
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United States:
Netherlands:
Denmark:
South Africa:
Saudi Arabia:
41.0 percent
91.4 percent
83.7 percent
11.8 percent
100.0 percent
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The amount replaced by governments may is
heavily dependent on other social services
offered for the elderly.
OECD average:
57.9 percent
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The public pension in the United States is
known as Social Security
The Social Security Act of 1935 was a part of
Franklin Delano Roosevelt’s “New Deal”
during the Great Depression
Provided workers aged 65 and older monthly
pension checks based on years worked and
salary earned.
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Because of the financial situation in the US in
1935, the Social Security program was designed
as “pay as you go”.
◦ Current working-age citizens pay for current retirees’
benefits.
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Employees and employers contribute 6.2% of
wages (each) up to $117,000 in wages (wages
above that are not taxed) – PAYROLL TAX
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Employees must work at least 40 quarters to
qualify for full Social Security benefits
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Those who never work can qualify for spousal
benefits after their spouse’s death.
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The first person to receive
a check was Ida May Fuller
in 1940.
By the time Ida May died at
100 years old she had
collected $22,888.92 in
Social Security benefits
(she only paid $24.75 into
the system).
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Retirement age:
◦ Early benefits can be received at age 62 (with
penalty for early withdrawal)
◦ Full benefits are received at age 67 (for most
Americans, for some it is still 66)
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Maximum monthly benefit:
◦ $2,642 per month
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Social Security tax is only placed on the first
$117,000 of wages
◦ Self-employed must pay payroll taxes themselves
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Pay-as-you-go has become a big issue.
◦ The number of workers per retiree has fallen
dramatically.
◦ This will get worse during the Baby Boomers’
retirement.
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From 1940 until now, payroll tax revenues
have always exceeded Social Security
payouts. That will no longer be the case
after 2015 or 2016.
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Too many retirees are relying on Social Security
as the sole source of income.
In 1935, life expectancy for a man was 59.9
years and for a woman was 63.9 years. Since
Social Security benefits started at age 65, most
people would never receive them.
Today, life expectancy for men is 76.2 years and
81.2 years for women. Since early retirement is
at age 62, the average retiree would receive
payments for greater than 15 years!
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Raise the retirement age
◦ Raising it to 70 would fix the problem for the
foreseeable future.
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Increase the payroll tax rate
Raise the payroll tax cap (or eliminate it
entirely)
Reduce benefits
Reduce or eliminate the cost of living
adjustment (COLA)
Surprise: None of these is politically popular. 