Should wealthy people pay more for Social Security?

This is just one of the stories in our “You've Always Asked” series, where we answer all your questions about the business world, big and small.Have you ever wondered what recycling is? worth it? Or how to store your brand? stack against A famous brand?See more series here.

asks listener Sandra Criss of Omaha, Nebraska.

Social Security deductions are only deducted from income up to $160,000. However, Social Security payments are based on all income. This means that the very wealthy may end up receiving a large Social Security check, even though they pay in only a small percentage of their income. How is this fair and why is this not considered at all when talking about Social Security solvency?

Sandra is right, there is a limit to the amount that people are taxed on when they pay into Social Security each year, and this is known as the tax cap or taxable income base. In 2023, this maximum amount will be $160,200.

The tax rate on salaries is 6.2%. So let's say you earned the maximum amount of $160,200. You will pay 6.2% of this amount to Social Security.

A little math shows that 6.2% of $160,200 is a little more than $9,932. (Employers also apply the same tax rate and pay the same amount into the system.)

Now, let's say you earned more than that amount. Even though he has $1,000,000 of $160,201, he only pays $9,932 because there is a tax limit on his income.

However, the more you pay, the more your benefits will start to increase, but those benefits will eventually be capped as well.

The Social Security Administration site has an FAQ outlining the maximum benefits you can receive in retirement based on your retirement age and lifetime earnings. If he retires in 2023 at full retirement age (which varies between 66 and 67 depending on when he was born), his maximum benefit will be $3,627.

If you retire this year at age 62, the maximum benefit is $2,572, and if you retire at age 70, the maximum benefit is $4,555.

According to AARP, people who have earned at least the same amount or more than Social Security's taxable income limit for at least 35 years are eligible to receive the maximum benefit. The tax cap is based on the national average wage, so it usually changes every year.

For people who earn above the tax limit, they actually receive a smaller percentage of their income in benefits than lower-income earners, said Tyler Bond, director of research at the National Institute for Retirement Security. did.

But as Sandra alluded to, for low-income people, pay to They receive a higher proportion of their income from Social Security compared to people who earn above the tax limit.

Wages escape taxation

Over the years, tax limits have changed. Bond said the amount was originally set at $3,000 when Social Security was created in 1935, and had previously been increased on a temporary basis. Currently, when the national average wage index increases, the maximum value also increases.

About 6 percent of workers eligible for Social Security earn more than the tax limit in any given year. The percentage has remained at this level since the 1980s, according to a Congressional Research Service report.

However, there is a problem with this. High-income earners experience faster wage growth than low-income earners.

Their wage growth is increasing faster than the tax cap (which increases based on average wage growth). The CRS report explains that the widening gap between high-income earners' salaries and tax caps is increasing the amount of income that is not subject to Social Security payroll taxes.

The percentage of gross income exempt from Social Security taxes rose from 10% in 1982 to 19% in 2021.

Should the tax cap be abolished?

Mr. Bond said there were calls for raising the tax cap or abolishing it completely to address income inequality and the problem of funding the social security system. Social Security's main trust fund is scheduled to run out in 2033, 10 years from now, according to a report by the program's governing board.

“If the trust fund is depleted, Social Security can still pay benefits, but if Congress chooses not to use other sources to support current benefit levels, benefits will be reduced by 20% overall. This could result in a reduction of ~25%,” explained a recent report from the National Institute on Retirement Security.

But Mr Bond said abolishing the top tax rate would raise questions about what to do with benefits. If high earners are taxed on more of their income, should the amount go up? Or should benefits remain capped, even if much of the income is taxed?

The Social Security Administration's website includes a number of provisions that explain the financial impact on Social Security of certain changes in payroll tax rates and tax caps.

Teresa Ghilarducci, an economics professor at the New School for Social Research who wrote for Bloomberg on the issue, said in her article that eliminating income limits would be less effective than other measures, such as raising payroll taxes. He said it would be an “easier solution”. Ghilarducci said the U.S. has made similar changes in the past, eliminating income limits on taxes on Medicare funds, she wrote.

“Maintaining benefit caps and removing income caps increases solvency and puts more money into benefit increases,” Ghilarducci told Marketplace.

Lawmakers also announced proposals for other ways to help fund the Social Security system.

For example, Rep. John Larson of Connecticut expanded the Social Security payroll tax to apply to individual incomes over $400,000, creating a donut hole (or drafted a bill to leave in place (lack of additional taxes). Ghilarducci noted that there is also debate over whether to tax other forms of income, such as capital gains.

But Ghilarducci said Congress may have to wait until “more pressing solvency issues” arise before any proposals are passed by Congress.

Opinion polls show that there is support among voters for raising taxes on the wealthy.

According to a 2022 Gallup poll, 52% of Americans favor a government that taxes the wealthy more heavily to redistribute wealth. Another poll conducted by the National Academy of Social Security in 2014 found that 83% of Americans particularly favor maintaining Social Security benefits, even if it means raising taxes on the wealthy. found.