Wednesday, May 4, 2016

The Impact of Longevity and Income Level on Social Security Benefits

A recent study by the Government Accountability Office (GAO) looks at how changing life expectancy is projected to have a significant impact on Social Security benefits.  Increases in life expectancy go hand-in-hand with increased lifetime benefits from Social Security, however, this study shows that there are significant differences in lifetime benefits when income level is taken into account.  In this posting, we will look at the Social Security program in two parts; first, the overall funding issues facing the Social Security Administration followed by a look at how both longevity and income level play a role in a person's lifetime Social Security benefits.   

Let's open this posting with some background information on the Social Security system and the funding problems that face it.  According to the Social Security Administration, 94 percent of American workers had jobs that would make them eligible to receive Social Security retirement benefits in the future.  In 2014, approximately 39 million retired workers were receiving Social Security benefits which are based on an individuals average indexed monthly earnings.  Retired workers with lower average career earnings receive monthly benefits that average about 50 percent of what they were earning while they were working whereas workers with higher average career earnings receive benefits that equal about 30 percent of earnings.  Social Security pays unreduced benefits ages ranging from 65 to 67 depending on one's birth year and benefits can be claimed as early as age 62 which results in a reduced monthly payment.  In 2014, 37 percent of total retired worker benefits were awarded at age 62, the most common age to collect Social Security benefits.  

Let's now look at the future funding problems for Social Security.  Under the current scenario, it is obvious that the increase in lifespan and the number of Social Security recipients is going to prove problematic.  A 2015 study by the GAO entitled Social Security's Future noted that the fraction of older Americans (65 years plus) would look like this in the coming decades:


...that labor force growth (i.e. workers that fund Social Security through payroll deductions) would look like this:


...and that Social Security spending was projected to increase from 4.9 percent of GDP to 6.1 percent of GDP over the next 25 years.  This means that roughly 33 cents of every dollar of federal tax revenue will be spent on Social Security.  

Here is a graphic showing how the revenues from the Old-Age, Survivors and Disability Trust Funds have and will continue to run deficits into the future:


As it stands now, over the next 75 years, the Social Security system funding gap is estimated to be $10.7 trillion or slightly more than half of the current federal debt.  As well, by 2035, the Old Age and Survivors Insurance (OASI) trust fund will be depleted, meaning that Social Security payments will have to rely on outside revenues to continue paying just over three-quarters of scheduled benefits.

Now, let's look at how life expectancy in the United States has changed over the past decades and how income levels will impact the lifetime level of Social Security benefits that a recipient receives.  In 1915, on average, a man who was 65 could expect to live until age 79.7 and a 65-year-old woman could expect to live until she was 83.7 years of age.  By 2015, this had changed to 86.1 years for men and 88.7 years for women, an increase of 6.4 years for men and 5 years for women.  That said, there are wide disparities in life expectancy across the nation with the lowest life expectancy being found in the South, the Mississippi basin, West Virginia, Kentucky and selected counties in the West and Midwest.  This is largely due to environmental factors including a lack of access to health care and behaviours including poor diet, a lack of exercise and smoking but is also related to income level.  On average, lower income males live between 3.6 and 12.7 fewer years (depending on their birth year) and lower income worm live between 1.5 and 13.6 fewer years than their wealthier counterparts.  This has a significant impact on the projected remaining years of life for men after age 65 as shown on this graphic:


Obviously, this is also going to have an impact on the total amount of Social Security benefits received during a recipient's lifetime.  Lower income Americans who have a shorter lifespan will receive less Social Security benefits over their lifetime than their wealthier peers as shown on this graphic:


Sadly, it is these lower income Americans who rely heavily on Social Security benefits to fund their retirement years since they are less likely to be covered by company pension plans or have any significant amount of retirement savings.  It is also this same group that is likely to take Social Security benefits early and suffer the penalty of lower monthly payments.


It is pretty obvious that the Social Security system is in trouble and that it requires significant changes if it hopes to meet its obligations in the future.  The fact that the current crop of presidential candidates is rather non-committal on the changes necessary to ensure its future and enable lower income Americans to rely on Social Security to fund their retirements should be of concern to voters of all political persuasions.