Social Security reform Archives

April 3, 2022 Jane the Actuary Retirement

The “Dutch Model” Hybrid Retirement System Reform (updated version)

Periodically I pitch my preferred version of Social Security/retirement system reform, as a “thinking big” means of remedying problems with the system in a way that the usual proposals don’t address. Here’s a write-up in fact-sheet fashion.

The United States faces three challenges as Americans age and the pension system has been transformed:

First, the Social Security Trust Fund is facing insolvency;
Second, the move from traditional Defined Benefit pensions to Defined Contribution retirement accounts will result in far fewer Americans with lifetime income protection as new generations move into retirement; and
Third, the Multiemployer Pension Plan bailout provided in the American Rescue Plan, by the very way the legislation was written, will result in rescued plans becoming insolvent 30 years after its implementation, or even sooner.

Elements of the retirement system in the Netherlands offer features which can resolve these issues.

First, the basic Social Security benefit is a flat monthly sum, prorated only for those who have lived in the country for less than 50 years. This form of benefit also exists in Denmark, Ireland (prorated by work history) and Australia (means-tested). And the United Kingdom, in 2016, transitioned from a system very similar to America’s Social Security benefit, to a flat benefit, with a gradual transition period.

Second, Dutch employers provide pensions in a hybrid format combining features of defined benefit and defined contribution plans. (Note that the Dutch system is in the middle of a substantial transformation and the following sentences are heavily simplified and idealized.)

Near-universality is achieved through a combination of legislation, collective agreements, and labor-market norms. However, because of the flat benefit guaranteeing income replacement on a first tranche of income, benefits have an initial threshold – that is, for the first level of income, which will be replaced by Social Security, neither workers or employers make contributions (benefit accruals), mitigating the burden on both, with respect to low-skill workers.

In some cases (but much less often now), lifetime income guarantees are made by employers. However, a form of benefit which is increasingly popular is the “Collective Defined Contribution” or “Defined Ambition” plan, in which the plan provides lifetime income protection by pooling assets, holding additional reserves as needed with a conservative funding policy, and cutting benefits if needed to preserve funding levels. Because benefits have a built-in cost-of-living adjustment, the benefit “cut” may take the form of a benefit freeze (no COLA for a year or longer) rather than an actual cut, but the objective is in any case to provide workers with benefit protection to the greatest extent feasible by sharing/pooling risk, even without a guarantee by the employer. Similar plans are being developed in the United Kingdom. Here in the U.S., the risk-sharing Wisconsin public pension plan offers some potential features, as does the VAPP (variable-annuity pension plan) as adopted by the UFCW and Kroger, Albertsons, and Stop & Shop in 2020.

Moving from this general principle to a legal structure that works for the pension environment of the United States is not a simple task. When should cuts be required? What investments should be permitted? How conservative should the funding policy/contribution level be? What sort of entities should be permitted to offer this type of plan? Should there be a government backstop in case of a crash that would require cuts that are too harsh?

However, if paired with a flat-benefit reform of the “regular” Social Security system, I believe that a mandatory second-tier hybrid system could become acceptable to many who would otherwise reject a mandate to contribute to retirement savings accounts and offer a way out of the current “third rail” reform stalemate. And as a bonus, because this sort of plan is essentially a multiemployer plan, once a design has been worked out which all parties agree provides the best feasible level of benefit and protection relative to contributions, this model can become the basis for transforming existing multiemployer pension plans and providing for long-term solvency in those plans as well.

It should also be noted that it is far more common in the Netherlands than in the United States to invest using insurance/annuities, held by employers or pension funds, regardless of the type of retirement benefit, which results in particularly costly benefits. To be clear, this proposal does not envision annuities but rather would adapt the overall Dutch concept to American investment norms.

Finally, this is not the proposal of any think tank, advocacy group, or other partisan or nonpartisan group. I have no institutional affiliation, have worked with organizations on both sides of the political spectrum (the National Academy of Social Insurance and the Illinois Policy Institute, respectively), and truly hope that by adopting a wholly new system, with careful transition planning, support can be found on both sides of the aisle.

Forbes post, “A ‘Living Wage’ Of $34,000? Bad Data, Or Bad Math, Will Stand In The Way Of Social Security Reform”

Originally published at Forbes.com on February 1, 2021

Yes, I have been calling for a comprehensive Social Security reform ever since I began writing at this platform. And, yes, that plan calls for a change from the current formula to a flat benefit for all, or, as I’ve also called it, a “basic retirement income.”

The catch, of course, is this: how do you decide what that right income level is?

The federal government gives us a number that seems reasonable enough by its name: the “poverty guideline.” This works out to $12,880 for a single person, or $17,420 for a household of two. True, you’d have to decide whether a household of two gets twice the single person’s benefit or only the two-person-household benefit, and you’d have to decide whether two people cohabitating count as a “single household” or not, but then the hard work of deciding what an “anti-poverty” benefit should be is finished.

Now, there’s a small wrinkle here: the federal government has two different calculations, the “guideline” and the “threshold”: the former is used for benefits eligibilities and the latter for counting how many people live in poverty — and, for what it’s worth, the threshold for an individual over 65 is $1,000 less than someone younger.

But the “poverty guideline” is ultimately just a metric used for other calculations — eligibility for Food Stamps is not “below the poverty line” but “below 130% of the poverty line.” And the calculation itself is based on the rather arbitrary assumption that people spend 1/3 of their income on food, so it’s not a particularly “scientific” measure of the amount of money needed to keep someone out of material deprivation.

But the promise President Biden has made with respect to expanding Social Security is to boost benefits to a minimum of 125% of the poverty level — and, it appears, to do so on an individual basis, so that households-of-two would get what works out to 180% of the poverty level. Is this enough?

Let’s do some more math: the current federal minimum wage is $7.25 per hour, which works out to $15,080 per year, based on a 40 hour week. Biden wants to boost this to $15.00 per hour, or $31,200, because, he says, that’s the level needed to prevent people from living in poverty (see his speech on his spending plan). Is it necessary to keep Social Security benefits in line with the minimum wage?

Lastly, there are (at least) two “Living Wage” calculators that purport to calculate the wage truly needed to cover the “basic needs” of families or a “subsistence living” income level.

The first of these is at MIT. To take some representative numbers:

In Peoria, Illinois, a single adult working 40 hours a week would need a wage of $10.70, or $22,256 per year. Two adults sharing expenses would need a total of $35,734.

In Chicago, those wages/incomes increase to $28,288 and $43,513, respectively.

(The “living wage” climbs even higher for parents; a single adult supporting 3 children would need to earn $39.31 per hour or $81,756 annually, according to their calculations, but that’s not really relevant when it comes to old-age/retirement benefits.)

The second of these was produced at the Economic Policy Institute. It does appear somewhat outdated, using 2017 data, but it produces considerably higher calculations.

Here, in Peoria, they calculate annual expenses of $33,994 for a single adult and $47,785 for a couple.

And in Chicago, they calculate a single adult needs to earn $36,917 and a couple, between the two of them, needs $50,006. Again, the numbers are even higher with children — $101,140 with three children.

But, it turns out, the basis for their calculations is questionable, at best.

According to the MIT documentation, the calculations assume that families prepare all their food at home (no eating out) according to the government’s “low cost food plan.” They calculate average health expenses based on typical premiums for employer health insurance and out-of-pocket costs from national government surveys. For families with children, they assume families elect the lower-cost option between family and center child care (but use average costs for each type).

But they base housing costs on the HUD Fair Market Rent estimates, that is, from HUD data for the 40th percentile rent for “standard quality units.” Why would a family living at a basic, subsistence level, rent an apartment at nearly the average rent for the area? They calculate transportation expenses based on average spending across all consumers, adjusting only to reflect purchasing used rather than new cars. They (appear to) calculate “other” expenses, again, by using average Americans’ spending on such items as clothing or personal care products.

The EPI documentation indicates other ways in which numbers they claim to be “basic expenses” are really just “average survey expenses.” For all metro areas, they assume parents choose daycare centers, despite their higher cost, and, again, spend the average amount on daycare. For transportation, they again use average American transportation spending, adjusting only to reduce vehicle miles travelled assuming less discretionary travelling. For “other” expenses, they again use survey data on actual spending rather than calculating necessary spending, with the primary adjustment being the assumption that families don’t spend any money on “entertainment” or the survey’s “other” category.

In addition, this calculation uses ACA/Obamacare exchanges to calculate health insurance costs but doesn’t take into account the Obamacare premium subsidies. And the tax calculations don’t appear to include Earned Income Tax Credits or Child Tax Credits (though this could be a result of calculating such high costs that the hypothetical family wouldn’t qualify).

Did MIT and EPI intentionally seek to inflate the living wage calculations? It stands to reason that groups advocating for boosts in the minimum wage would construct these calculators in a way to produce results that are invariably higher than minimum wage, but when they produce values that are so much in excess of what is reasonable, they weaken their case instead of strengthening it. After all, consider that the median individual income is $36,000; does it really make sense to say that the majority of Americans are living at a below-subsistence level?

Or is this a result of data limitations? A typical exercise in a high school Personal Finance course is to collect information on food costs, rent costs, and so on, from various sources, and construct a budget on this basis, but that’s not easy to replicate for families nationwide. One also imagines that there’s a certain fear that calculating such a spending budget might be misunderstood as casting moral judgement on the poor.

And, of course, these calculations are all based on spending for working families, not retirees, who are, as a practical matter, likely to spend less on clothing or other discretionary spending, who have the large majority of their medical spending covered by Medicare and the entirety covered by Medicaid for those below federal thresholds.

At the end of the day, this rabbit hole discussion shows that it is by no means easy to figure this question out — neither for those affected by the minimum wage nor for those affected by discussions of what the right level of Social Security benefit is.

December 2024 Author’s note: the terms of my affiliation with Forbes enable me to republish materials on other sites, so I am updating my personal website by duplicating a selected portion of my Forbes writing here.

November 24, 2020December 31, 2024 Jane the Actuary Retirement

Forbes post, “Do’s And Don’t’s For Social Security Reform – Does A New Proposal Have The Answers?”

Originally published at Forbes.com on November 24, 2020. Is it outdated four years later? If we had reformed the system in those years, it would been, but as it is, it’s just as relevant today!

Just in time for Joe Biden to carefully scrutinize — or toss into the circular file — comes a new report from The Heritage Foundation, authored by Rachel Greszler, with recommendations for modernizing the Social Security old age program in order to improve its benefit structure and resolve its solvency problems. Are they on the right track? Yes — and no.

This brief report frames its recommendations in the form of Do’s and Don’t’s.

Don’t enact the Social Security 2100 Act. This House legislation matches up with many of Biden’s campaign promises, most notably that it increases Social Security’s minimum benefit to 125% of the single-person poverty level, per person, and applies FICA taxes to income above $400,000, unindexed. But Biden’s plan failed to fully-fund Social Security because benefit increases ate up most of the added revenue; this bill would have also increased the payroll tax by 2.4 percentage points, from 12.4% to 14.8% of pay. This would boost total taxes to 68.9% for the top bracket in the highest-tax state. The report notes that recipients of all income levels would see benefit boosts, even millionaires, and concludes, “Middle-income and upper-income workers do not need higher Social Security benefits to keep them out of poverty in old age, and workers of all income levels would fare better by keeping the money that the Social Security 2100 Act would take from them.”

Don’t “expand Social Security’s purpose.” Greszler criticizes proposals to use Social Security as a “piggy bank” to fund student loan debt or paid parental leave. These proposals, such as Marco Rubio’s 2018 proposal, would have, more or less, enabled new parents or young adults “borrow” against their future Social Security benefit and repay the funds by deferring the start date.

Do shift Social Security to a flat benefit. Regular readers will know that I’ve touted this reform from the start. Rather than having Social Security try to serve multiple purposes — an anti-poverty benefit as well as a pay-replacement benefit for the middle class — we should recognize that it can accomplish the former purpose much more effectively than the latter. How large this benefit should be, the report doesn’t specify.

Don’t raise or eliminate the tax cap. Greszler cites data on the impact of such a tax hike, and writes, “Even workers not directly affected by the higher taxes could experience reduced incomes as a result of lower capital that makes workers of all income levels less productive.” In fact, this argument is relatively weaker when advocating for a flat benefit; once you’ve removed the connection between the benefit formula and pay, the justification for limiting taxes to a given pay level becomes much weaker.

Do reduce the payroll tax rate. Gradually shifting to a flat benefit would enable a drop in FICA Social Security taxes from 12.4% to 10.1% while also becoming solvent. Of course, ending the cap would enable an even greater reduction.

Do reduce costs by increasing the eligibility age and indexing it to life expectancy, adopting the chained-CPI, and modernizing spousal benefits. This call for a change in the CPI used for Social Security benefits, which would tend to reduce benefits over time, relative to the current CPI-U measure, is quite the opposite of Biden’s call for adopting the CPI-E, an experimental measure which would boost benefits. With respect to spousal benefits, Greszler does not spell out a specific provision but in a separate article notes that the current survivor’s benefit disproportionately benefits wealthier women, and suggests that shared benefits or childcare earnings credits would improve the system. (Yes, there is a point of agreement with Biden’s plan here!)

Do let workers opt out of the Social Security earnings test. This is a proposal I have made in the past as well; Greszler correctly observes that the earnings test is perceived of as a tax but it isn’t, really, and suggests that workers have the option of keeping it, or keeping their full benefit instead and forgo higher benefits if they would be eligible due to recalculations from higher wages.

Do let workers opt out of a portion of their taxes and future benefits. This is in many respects the same proposal we’ve heard before: divert some of one’s payroll tax to an investment account instead, namely, in a system managed through the federal government, similar to the Thrift Savings Program for federal government workers. Greszler doesn’t specify what proportion that might be or what the corresponding reduction in ultimate benefits might look like, but touts the benefits of an “ownership option.” She also acknowledges that the math cannot be a simple matter of proportions because of the need to fund current retirees, though she notes that “That portion—similar to a legacy tax—would decline over time if policymakers enact reforms to put Social Security on a path to long-term solvency.”

Readers, this is where the math becomes challenging, and, to be honest, raises questions of fairness. Even in the existing system, higher earners subsidize lower earners because of the “bendpoint” nature of the benefit formulas. In a flat benefit system, that’s all the more clear. Is it reasonable for a higher worker to be able to use some of those funds meant to subsidize others, to use for him/herself instead? Would it not be more sensible to simply say that the lowered tax rate is what enables individuals to save more in individual accounts?

But in any case, if conservatives who would otherwise object to a nationwide autoenrollment retirement savings program find it attractive if it’s part and parcel of a broader reform package, does that point to a way forward?

Or is all of this simply several years too late, as the Democrats’ new objective to expand Social Security’s benefits doesn’t square with this at all? After all, this proposal imagines a trade-off of increasing benefits for the poor while reducing them for the middle class (gradually over time), but Biden promises we can have our cake and eat it, too, with benefit hikes for everyone.

November 11, 2020December 31, 2024 Jane the Actuary Retirement

Forbes post, “Social Security Benefit Accruals Stop After 35 Years Of Work History. Is That Fair?”

Originally published at Forbes.com on November 11, 2020.

Imagine that you’re a blue-collar worker who starts out with an apprenticeship directly out of high school and works until your full retirement age of 67 — for a working lifetime of 49 years.

If you had a pension in the private sector, say, 1.5% of pay per year, you’d get a pension benefit of 73.5% of your average pay.

On the other hand, imagine you’re a white collar worker who attends college for 4 years, then grad school for another three, with a gap year travelling Europe somewhere along the way. That’s a working lifetime of only 41 years. For many college graduates, add another year, because college often takes longer or an unpaid internship gets tacked on somewhere along the way. With the same pension plan, your benefit would only be 60% of average pay. If you decide to take early retirement at age 62, that would put you at a 35 year working lifetime, or a hypothetical private-sector pension of 52.5%.

But in any of these three cases — the person who works 49 years, or 40 years or 35 years, if their highest-35-year average salary is the same, indexed for wage increases, then their Social Security benefit — or, strictly speaking, their Primary Insurance Amount before any early retirement reduction, is the same.

Is that fair?

Is it fair that someone who continues to work after reaching that 35 year marker, even if they take a pay cut (say, in a semi-retirement part-time job) so that the new work history won’t actually boost their Social Security benefits, must continue to pay FICA taxes?

Yes, framed this way, it sounds pretty outrageous. It suggests that blue-collar workers are being cheated out of money they should be getting, or that white-collar workers are getting money that they don’t deserve.

Of course, that’s not actually the way the 35 year averaging works. (I admit: I initially wrote “the purpose of the 35 year averaging” but realized I can’t make a claim as to the intentions of the formula’s designers.) Effectively, the system presumes that workers who are not in the workforce are missing for valid and appropriate reasons, whether it’s schooling, or periods of unemployment or caregiving for children or parents. In some Social Security systems, say, France, for instance, the system requires a full “working lifetime” and grants “credits” for justified reasons such as these, but no such “credit” for periods spent on the beach in Fiji.

Or, the system’s design has the effect of saying, “anyone who worked ‘enough’ years over their lifetime deserves the same benefit-relative-to-income as anyone else who worked at least that much.” Social Security, in this point of view, is not about hard work, but just about being “a worker.” There’s nothing particularly worthy about working more years beyond this minimum, no reason to get rewarded or for someone who didn’t do so to lose out, because, after all, Social Security is not truly “earned” in the same way as a private-sector pension but is social insurance, which operates entirely differently. This is similar to Biden’s promise that any individual who works at least 30 years (and, remember, to earn sufficient credits requires earning $5,640 per year, as of 2020, or 15 hours per week at minimum wage) would be promised a benefit of 125% of the single-person poverty line, not because they had “earned” it by their contributions but as a matter of social insurance.

But this is, again, the problem with our ideology about Social Security. If we wished to reward people who worked more years, without increasing costs for the system, it stands to reason that we’d need to somehow reduce benefits for people who had worked fewer years. And we’ve talked ourselves into the premise that the system is fundamentally unalterable, rather than designing a system which is fundamentally flexible enough to respond to changing conditions.

December 12, 2019January 4, 2025 Jane the Actuary Retirement

Forbes post, “Let’s Make Little Plans: A New Proposal To ‘Hack’ Social Security”

Originally published at Forbes.com on December 12, 2019.

Today the National Academy of Social Insurance (NASI) released the winners of the Social Security Policy Innovations Challenge it sponsored along with the AARP. I’m happy to say that among the four winning proposals is one with my name on it, so I have been waiting impatiently for this press release so I could share this proposal with my readers.

Chicago politicians love to cite Daniel Burnam’s famous “make no little plans” quote in promoting their ambitious proposals to remake the city in one way or another. And I, too, have never hesitated to flog my own Big Ideas, such as the “Basic Retirement Income” Social Security reform. But this challenge called for feasible ideas, and, I’m pleased to say, this one fits the bill: unlike the parade of proposals which pair new benefits with tax hikes, it is not just revenue-neutral but essentially costless, while providing new options for those workers who are looking at retirement in advance of the Social Security Full Retirement Age, that may help mitigate the effects of a reduction that may be as much as 30% of the total benefit.

It’s a hack, not unlike the “life hacks” promoted in YouTube videos and Facebook posts: a simple change that’s not earth-shattering but has the potential to provide meaningful improvements to workers, by ending the one-size-fits-all aspect of Social Security benefit commencement.

After all, the way the system functions now, workers choose an age between 62 to 70 to begin receiving benefits. Those under age 66 (at present) or age 67 (after the final phase in of the retirement age increase in 2027) will see benefit cuts of between 25% (now) and 30% (in 2027); at the same time, those who defer benefit commencement to age 70 receive an increase of between 24% (for the FRA 67 folks beginning in 2027) and 32% (at present). And those cuts apply not only for the period prior to full retirement age, but permanently.

I therefore proposed that, to mitigate the impact of these reductions, workers be able to choose to partially begin benefits at a given point in time, then switch to full benefits later on. Straightforwardly enough, this would mean that only the portion of the benefit begun early would be reduced, and the rest would be available “in full” (or even with the later-retirement credits) later.

This might seem like an odd change — who would want only part of their benefit? Maybe not too many people. But it some cases it could make a difference: for example, someone who has to change to a lower-paying job because their existing one becomes too physically strenuous, or someone who drops to a reduced work-hours schedule, or someone who has lost their longtime job and can only find a lower-paying replacement. The opportunity to take a partial benefit might be just enough to help them stay in the workforce for more years than they otherwise would have, and retire at a later age.

As the proposal summary explains,

“For a part-time worker wishing to claim half benefits at 62 whose full monthly benefit was $1,000, this option would provide him $350 in additional monthly income (half of the $700 he would have received), on top of the income he received. When beginning to receive his full benefit at age 67, he would then receive $850 per month ($350 for the continuing age-62-commenced portion and $500 for the half begun at age 67), rather than the $700 he would have gotten. This provides an additional $1,800 per year in benefits, on top of the added retirement savings he was able to accrue as a result of working for more years. If the worker were able to delay claiming benefits until age 70 as a result of continuing part-time work, the ultimate benefit would be $970, virtually equivalent to what he would have received had he not claimed early at all.”

It should also go without saying that the existing penalties for working while collecting Social Security would be removed. Actuarially, however, this would not add to the cost, since these reductions are “repaid” to recipients in the future.

And as the infomercial announcer says: But wait – there’s more!

Often, workers who find themselves unemployed with unemployment benefits exhausted when they reach their 62nd birthday, apply for Social Security benefits, reduction and all, and consider themselves “retired” and their working lifetime over, rather than continuing to work. After all, the rules about stopping and restarting Social Security benefits are not easy to understand and limited in their applicability, and the restrictions on working while receiving benefits are equally a deterrent, even though there are minimum earnings thresholds and, in theory, the money is “repaid” actuarially later on.

Therefore, I proposed that it be a simple matter to stop and restart benefits, with no penalties or complex strategies required, at any time before the Late Retirement Age, and that a worker’s retirement benefits be actuarially increased upon restarting benefits to reflect the in-between years in which benefits were forgone. If early commencements were marketed as possibly temporary, by the Social Security Administration and by advocacy/educational groups, it would help individuals stay in the workforce longer and boost their ultimate retirement income.

And none of this has any cost associated with it other than the moderate administrative expense of updating the Social Security programming (which surely needs periodic updating anyway) and retraining personnel (who surely need periodic refreshers anyway). What’s more, under at least one of the various entirely reasonable methods of calculating Social Security adjustment factors, there is no particular cost to the system of any given individual retiring earlier or later, and, as a bonus, workers continuing to work will continue to pay FICA taxes into the system. And as a final added bonus, the evidence continues to accrue that workers who retire later are in better health and less likely to experience cognitive decline, even when controlled for other factors.

And finally, yes, even with all the partisan wrangling, I still like to believe that it’s possible to take at least small bipartisan steps towards Social Security improvements, and I believe that this “Social Security hack” is one such step that both parties can support as a way to move beyond the hardened battle lines on the subject.

So, Senators and Congresscritters, who’ll be the first to sponsor a bill making this change? Heck, it’s Christmastime — I’ll throw in a tin of Plätzchen cookies to sweeten the deal (and this isn’t even a pun – our family’s favorite Christmas cookie isn’t very sugary).

And thanks to NASI and AARP for sponsoring this challenge. Readers, be on the lookout for my comments on the other proposals as well. (But first, I’ll be baking plätzchen . . . )