Social Security has been a source of retirement income for a long time. When I sit down with clients, many are relying on their monthly Social Security check for a large part of their income, and, in some cases, as their only source of income.
However, some clients have a pension in addition to what they receive from Social Security each month. In most cases, when they add their monthly pension and social security benefits together, it is a fair amount of money. Depending on their individual monthly budgets, they may or may not have what we call a retirement income “shortfall,” (the amount of money they need in assets other than Social Security and pensions to cover their needs every month).
My clients who do not have a pension are forced to rely on Social Security more heavily. If they did not receive this benefit, they would have to rely on the returns and yields or dividends the stock market produces. On a fixed income budget, this may not be the best idea for those who are in their 60s or older.
During my educational classes, I often comment on the problem that our country is facing with the current Social Security system. Each year, the government releases its annual report from the Board of Trustees. It covers the status of both the Medicare and the Social Security programs. It is normally released during March or April. This year’s report was not released until August 5! One of the reasons for the delay--the findings in the report.
According to the report found on www.ssa.gov , the annual cost of Social Security benefits will increase gradually from 4.8% of the GDP in 2009 to 6.1% of the GDP in 2035. While this may not seem like a large increase, think again. A 1.3% increase in terms of our country’s national GDP (Gross Domestic Product, the combined market price of all the country’s goods and services made) is a large increase in the overall scheme of things. The report goes on to point out that the long-range tests continue to fail.
What do all the numbers really mean? If you were to research some of the problems present with our Social Security system, you would find that the S.S. trust fund will expire around 2037. Where the trust fund leaves off, taxable income would be sufficient to pay about 78% of actual benefits. That 78% would taper off to nearly 75% of actual benefits in the years to come. Even more appalling, the “trust fund” actually does not contain real assets! According to Michael D. Tanner of the CATO Institute, the government bonds are more like “IOU’s” or a measure of how much the government actually owes the system.
What does it really mean? Simply, the system is set up to fail unless reform is put into place for this program. You may be thinking, “How does this affect me? I will continue to receive my benefits. My children are the ones who should be worrying about this.” While that may seem logical, you have to understand how any Social Security reform would affect you as a taxpayer. Traditionally, Social Security’s main source of funding comes from taxable income.
According to Tanner, when the “trust fund” exhausts itself in 2037, taxable income has to take over as the sole “bread-winner” for Social Security revenue. The government holds around $2.6 trillion in those “IOU’s” that I mentioned earlier. In total, Social Security has promised in excess of nearly $18 trillion more than it can actually pay out in benefits!
The problem arose when the government decided to begin using the $2.6 trillion dollar “trust-fund” that Social Security had accumulated as a source or income to spend on other government programs. During Franklin D. Roosevelt’s tenure as president, the United States government introduced the Social Security system. At that time, participation in the program was to be voluntary. The investment required was to be 1% of the first $1,400 of the participant’s annual income. Individual FICA payments would be made tax-deductible for income purposes, and the money the government collected would be placed in an “Independent Trust Fund.” In addition, the trust fund could not be used for any other government purpose, and the payments taxpayers received from the system would never be taxed as income.
How things have changed! As can be seen, the system has gone awry compared to the vision our government had for it when it began. When Congress voted to transfer the money from the established trust fund into the government’s general fund for use on other programs, the thought was that, because there was so much money there, we would never exhaust all of it.
As a retiree or someone who is inching closer to retirement, it is important for clients to plan for what could happen if their benefits are reduced or cut down. The problems that are being sent down from our national government and to the media are only the “tips of the iceberg.” With interest rates low and unemployment rates high, the main focus moving forward will be taxes. November elections are almost here, and taxes will be a main concern for future legislators. There is no doubt taxes will eventually increase.
Sara Siegel Bernard of The New York Times suggests that some of the proposed ideas and options that our government has to help correct the S.S. problem are the following: (1) increase Social Security payroll taxes; (2) subject more types of income to taxes; (3) reduce or cut benefits, or (4) cut cost-of-living increases (affecting our current retiree population). The days of relying solely or heavily on social security benefits as a source of retirement income are over. It is now time to think of alternatives.
Without further legislation, taxes are already slated to rise. To the right is a table that shows the tax brackets that are currently in effect and the brackets that were in effect during the Bush Administration. As of now, the 2000 tax brackets are set to return at the end of 2010. Most think that further legislation will occur between now and then; however, many believe legislation could result in even higher tax brackets than the table that is set to return.
If you are retired, soon to retire, or even in the “Retirement Red-Zone” (5-10 years from retirement), you need to be thinking about making sure your money is there for you if you need it. I would be remiss to say that I thought Social Security benefits were no longer reliable. However, I do believe that payments could be reduced and that taxes are going to increase to help remedy many of the problems our government is facing with the over-$13 trillion federal deficit it faces.
While growth is uppermost in the minds of most investors, you must avoid overlooking the importance of holding on to your money. On my radio show, “Retirement Matters,” I recently interviewed Alicia Munnell, the director of the Center for Retirement Research at Boston College. On the show, she said, “51% of working age households, ages 35 to 60, are not going to be able to live as well after they retire as they did before they retired.” She went on to say that major causes of this are the population’s increased longevity. “I don’t think people understand how long a period we’re going to have to support ourselves with our retirement assets. That is (for some, into their mid-90s) just a very long time. Even with the average retirement age, folks will be in retirement for 20 or more years for those retiring at age 65.”
With projected higher taxes, traditionally defined benefit plans disappearing, and social security in flux, most retirees will have to fund their own sources of income more than ever before. If you couple this with longer life expectancy, there is a huge need for retirees to focus on guaranteed income streams during their retirement years. For this reason, the Obama administration is promoting the use of annuities or similar vehicles that offer lifetime income or streams of guaranteed payments. Protect yourself moving forward! If you lose the money you worked so diligently to accumulate, how will you fund your retirement income?
Bill Smith is a RFC and the president and founder of Great Lakes Retirement Group, a Registered Investment Advisory firm located in Sandusky, OH, and Sheffield Village, OH.
For further educational information or to attend one of Bill’s educational classes, please email ContactUs@GreatLakesRetirement.com with the subject line “Blog” to receive more information, or you may visit his website, www.GreatLakesRetirement.com .
Tanner, Michael D. “Fixing Social Security.” Cato Institute. (2010): http://www.cato.org/pub_display.php?pub_id=12067.
Board of Trustees. “A Summary of the 2010 Annual Reports.” Social Security Online. (2010): http://www.ssa.gov/OACT/TRSUM/index.html.
Bernard, Tara Siegel. “Social Security Jitters? Better Prepare Now.” The New York Times. (2010): http://www.nytimes.com/2010/07/31/your-money/31money.html.
Munnell, Alicia. “Fixed Income Strategies for Retirement” Retirement Matters Radio. (2010): http://www.retirementmattersradio.com.