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| Briefing Book |
| Current Proposals |
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MEMORANDUM
This memorandum provides long-range estimates of the financial effects on the Social Security (OASDI) program for enactment of the Social Security Guarantee (SSG) Plan proposed by Representatives Archer and Shaw. This plan would provide for an annual contribution from the General Fund of the Treasury to SSG individual accounts equal to 2 percent of each worker's OASDI taxable earnings beginning with earnings in 1999. Proceeds from these accounts would, commencing at the worker's retirement (or disability) , be transferred entirely to the OASDI trust funds on a gradual basis. For workers who die before OASDI benefit entitlement without potentially eligible survivors, the account balance would go to the worker's estate, tax free. Benefits paid by the OASDI program would be the higher of benefits scheduled under current law or the scheduled SSG withdrawal rate based on a life-annuity calculation. The combined OASDI payroll tax of 12.4 percent (6.2 percent for employees and employers, each) is assumed to be reduced in future years under the intermediate assumptions of the 1999 Trustees Report and expected investment yields. The proposal would also include the gradual elimination of the Social Security retirement earnings test between 2001 and 2006. Enactment of this proposal, as specified, would be expected to eliminate the estimated long-range OASDI actuarial deficit (2.07 percent of taxable payroll under present law) Under assumptions described below, revenue transferred from the SSG accounts to the trust funds would be sufficient to allow reductions in the combined OASDI payroll tax rate of 2.5 percentage points in 2050 (from 12.4 to 9.9 percent) and I percentage point in 2060 (to 8.9 percent) . Estimates are provided for the SSG plan with and without the specified payroll tax reductions. Estimates are also provided to illustrate the sensitivity of the plan to possible variation in the yield on SSG accounts. All estimates assume elimination of the OASDI retirement earnings test for ages 62 and older, gradually between 2001 and 2006. (This change has a very small effect on the longrange financial status of the OASDI program.) All estimates in this memorandum a re based on the inter-mediate assumptions of the 1999 Trustees Report, except as indicated below.
The ProposalContributions and Investment Up to Benefit Entitlement The proposal would provide Social Security covered workers with refundable tax credits equivalent to 2 percent of their OASDI taxable earnings for calendar years starting 1999. Credits would be increased with interest from July 1 of the year of taxable ea rnings, at the market yield on publiclyheld Federal debt, until paid. Credits would be paid from the General Fund of the Treasury on October 15 (December I for self-employment earnings) in the following calendar year for the sole purpose of deposit in a S SG account. Credits for earnings in 1999 would be delayed one additional year and paid in 2001. Accounts would be managed by mutual funds, qualified and supervised by the Social Security Guarantee (SSG) Board. The Board would consist of the six individuals appointed by the Social Security (OASDI) Trustees. Individuals would be required to hold all SSG assets in a single fund and could change funds at most once per year. Annual SSG credits would be pooled and transmitted to the mutual fund managers by a central agency. Account holders would receive annual no tice of assets in their Social Security Personal Earnings and Benefit Statements. The proposal requires that all account balances be invested in qualified mutual funds maintained with a portfolio allocation of 60 percent stock index funds and 40 percent corporate bonds. The charge for annual administrative expenses would be limited to 25 basis points (excess expense, if any would be made up from the General Fund of the Treasury) Withdrawals prior to reaching retirement (or disability) would not be permitted. Earnings Test Elimination at Age 62+ The Social Security retirement earnings test annual exempt amounts would be raised according to a specified schedule through 2005, and the test would be eliminated starting 2006, for all beneficiaries age 62 or older. For beneficiaries under age 62, the current test would remain unchanged. The exempt amounts would be specified for the test applicable at ages NRA through 69 as $35,000 for 2003, $40,000 for 2004, and $45,000 for 2005. For the test applicable at ages 62 up to NRA, the exempt amounts for yea rs 2001 through 2005 would be set at $15,000, $20,000, $25,000, $30,000, and $35,000, respectively. This provision alone would have a negligible effect (between 0.005 and -0.005 percent of taxable payroll) on the OASDI actuarial balance. SSG Account Distributions Under the plan, the SSG account balance of workers who become entitled to OASDI retirement or disability benefits would ultimately be transferred entirely to the OASDI trust funds. Upon entitlement for Social Security retirement or disability benefits, th e Social Security Administration would compute the monthly payment that could be provided from a life annuity purchased with the holdings in the SSG account. The annuity calculation would reflect the anticipated yield on the SSG account (60 percent stock and 40 percent corporate bonds, less 25 basis points for administration) and indexing of annuity payments for price inflation (as for the Social Security COLA). The annuity calculation would also reflect the expected payment of aged spouse and aged surviv or benefits if the worker has a current spouse and/or a qualifying divorced spouse (marriage lasted 10 years or longer). If the computed monthly annuity amount exceeds the level of current law scheduled OASDI benefits, then the Social Security Administration would guarantee payment from the trust funds of the computed annuity amount for life. if the computed annuity amount is less than the level of the OASDI benefit, then the OASDI benefit would be payable for life. Each month after benefit entitlement the computed annuity amount based on entitlement of the worker and any aged spouse(s) would be transferred from the SSG ac count to the OASDI trust funds. Because the computed annuity amount is based on a life annuity calculation, the SSG account would be expected to be depleted at the point where the beneficiary(ies) reach their life expectancy, as estimated at the time of benefit entitlement. Thus, for ab out half of the SSG accounts, benefits will be payable after exhaustion of the SSG account entirely at the expense of the OASDI trust funds. For the other half, death before life expectancy will leave remaining SSG balances for the payment of benefits to those who lived beyond life expectancy. For workers who die prior to exhausting their SSG account, but after becoming entitled to OASDI retirement or disability benefits, the remaining balance in the SSG account will be transferred to the account of any s urviving spouse potentially eligible for benefits payable by OASDI (as a surviving spouse or surviving divorced spouse) . At the point at which a worker has died, and each spouse or qualifying divorced spouse has also died, any remaining a_ SSG account ba lance will be transferred to the OASDI trust funds. For workers who die before becoming entitled to OASDI retirement or disability benefits, the balance in the SSG account will be transferred to the account of any surviving spouse potentially eligible for benefits payable by OASDI (as a surviving spouse or surviving divorced spouse). If children of the worker -who are eligible for survivor benefits survive the worker and any spouse, the SSG account will be maintained to cover these benefits. At the point at which a worker has died (prior to entitlement to any OASDI benefit), and each spouse or qualifying divorced spouse has also died (prior to entitlement to any OASDI benefit) , and there are no eligible children, any remaining SSG account balance will go to the estate of the deceased, tax free. OASDI Payroll Tax Rate Reduction The plan calls for a reduction in the OASDI combined payroll tax rate from 12.4 percent to 9.9 percent in 2050 and to 8.9 percent in 2060. These reductions reflect the specified SSG portfolio allocation with the assumed asset yields described below. Payro ll tax rate reductions are assumed to be implemented if transfers from the SSG accounts to the trust funds are large enough to raise the OASDI trust fund ratio above 200 percent, with continued increase thereafter.
AssumptionsSSG Account Accumulation SSG account portfolios are required to be invested, both prior to retirement (or disability) benefit entitlement and after benefit entitlement in qualified SSG funds that are must be maintained at 60 percent stock and 40 percent corporate bonds, with an a nnual administrative expense charge of 25 basis points. The long-term ultimate average real yield on stocks is assumed to be 7 percent, as assumed by the 1994-96 Advisory Council. (It should be noted that while the real yield on stocks has averaged 7 perc ent so far this century, many speculate that future yield may average less.) The ultimate real yield on long-term corporate bonds is assumed to average 3.5 percent, or 0.5 percentage point higher than the 3.0 percent real yield for U.S. Government long-te rm securities, as assumed for the 1999 Trustees Report. This spread between corporate and U.S. Government bond yields is consistent with the spread experienced over the past 40 or 70 years, on average. It should be noted, however, the spread has been muc h smaller over the past 20 years. The expected ultimate real portfolio yield for the base projection (alternative 1) would thus be 5.35 percent, net of administrative expense,
A range of administrative expense fact ors was assumed for individual accounts proposed by the 1994-96 Advisory Council on Social Security. For the Individual Account (IA) plan, individual contributions were assumed to be collected and recorded by central institution, invested in large blocks with financial institutions, and invested in a limited number of indexed funds. Based on experience of TIAA and the Federal Employee Thrift Savings Plan (TSP) it was assumed that the IA plan could be administered wit h an expense of 10.5 basis points per year. For the Personal Security Accounts (PSAs), individual accounts were assumed to be invested on an individual basis, resulting in an annual administrative expense of 100 basis points. Because the description of SS G individual accounts is far closer to the individual accounts for the IA plan than to the individual accounts for the PSA plan, the specified administrative expense factor of 25 basis points for SSG accounts appears to be reasonable. Distribution of SSG Accounts Life annuity calculations for the purpose of determining the size of monthly transfers from SSG balances to the OASDI trust funds assume a real yield equal to the net expected real yield on SSG accounts, as specified. Mortality estimates for these calcula tions are based on the intermediate projections of the 1999 trustees report. Annuity calculations are assumed to be made on a unisex basis for workers with no spouse or qualified divorced spouse (marriage lasting at least 10 years). For those with a spouse, annuity calculations would be on a joint and survivor basis intended to ro ughly match the expected payment of OASDI benefits. For the purpose of these calculations, a joint and 2/3 survivor annuity is assumed. Thus, the amounts transferred to OASDI from the SSG account of a married beneficiary would be reduced by 1/3 upon the death of either the worker or the spouse. Under the SSG account yields assumed for these estimates, expected transfers from SSG accounts after benefit entitlement would be less than expected OASDI benefits for Virtually all future beneficiaries. However, single workers with very high earnings, close to or above the OASDI maximum taxable amount throughout their careers would have transfers their SSG accounts greater than current law benefits if the investment return during their working years exceeded the assumed long-range average return used for these estimates. High-earning married workers would be far less likely to have transfers that exceed current-law benefits because the joint-and-survivor annuity calculation would provide lower transfers than for single workers, and current law OASDI benefits for married workers would tend to be higher. Estimated Effect On OASDI FinancingThe table below provides the estimated OASDI actuarial balance, the change in the actuarial balance, and the estimated year of combined OASDI trust fund exhaustion for the SSG Plan as described above. To illustrate the full extent of the expected value of transfers from the SSG accounts to the OASDI trust funds, the estimated financial effects of the SSG Plan without the specified reductions in the OASDI payroll tax rate are also included in the table below. Under the SSG Plan, the OASDI actuarial balance would be improved by 2. 15 percent of effective taxable payroll, from a balance of -2.07 percent under current law to a positive balance of 0.09 percent of payroll under the plan. The OASDI trust fund as a percent of annual OASDI outgo (the trust fund ratio) would be expected to remain positive throughout the long-range 75 - year projection period, thus allowing timely payment of benefits in full through 2073, and beyond. The trust fund ratio would be expected to decline to about 132 percent at the beginning of 2041, and to increase thereafter. The combined OASDI payroll tax rate would be reduced from 12.4 percent to 9.9 percent for the period 2050 through 2059 and to 8.9 percent for 2060 and later. Even with these reductions in the payroll tax rate, the trust fund ratio would be expected to be stable at about 240 percent of annual outgo at the end of the long-range 75 - projection period. See Table 1a attached for details.
The table above also includes an illustration of the potential financial effect of the SSG Plan on Social Security if the specified reductions in the OASDI payroll tax rate were not included. This provides an indication of the full effect on OASDI of the expected transfers from SSG accounts to OASDI trust funds under the plan. Without the specified payroll tax rate reduction, the OASDI actuarial balance would be improved by 2.71 percent of taxable payroll, from a balance of -2.07 percent under current law to a positive balance of 0.65 percent of payroll under the plan without specified payroll tax rate reduction. Without the payroll tax rate reduction, the OASDI trust fund ratio would be expected to rise to over 10 times annual outgo by the end of the lon g-range period due to the magnitude of transfers from the SSG Accounts. Sensitivity to SSG Account Investment YieldsThe effect of the SSG Plan on the financial status of the OASDI program depends greatly on the actual yield that is achieved for investments in the SSG accounts. Returns on all investments are uncertain, and returns on stocks are particularly variable over time. For this reason it is important to consider the sensitivity of the financial status of the OASDI program to possible variation in expected investment yield. Note that the 1999 Trustees Report provides this sensitivity analysis for the OASDI pro gram under current law on page 138. The table below provides the estimated OASDI actuarial balance, the change in the actuarial balance, and the estimated year of combined OASDI trust fund exhaustion for the SSG Plan with two different SSG yield assumptions in order to illustrate the sensit ivity of the proposal to possible -variation in the ultimate average returns on stock and corporate bonds.
Under sensitivity illustration 2, the average yield on SSG accounts is assumed to be 1 percentage point higher than expected for the accounts invested in 60 percent stock and 40 percent corporate bonds. Under this illustration, the OASDI trust fund ratio would be expected to decline to about 215 percent at the beginning of 2036, and to increase thereafter. The actuarial deficit would be eliminated under the SSG plan, and the combined OASDI payroll tax rate could be reduced from 12.4 percent to 9.4 percent for 2040 to2049, 6.4 percent for 2050 to 2059, and 4.4 percent for 2060 and later. Even with these reductions in the payroll tax rate, the trust fund ratio would be expected to be stable at about 300 percent at the end of the long-range 75 - year projection period and the actuarial balance would be estimate positive 0.07 percent of payroll. Without the reduced payroll tax rate, ill ustration 2A, the OASDI trust fund ratio would be expected to rise to more than 50 times annual OASDI net cost (net of SSG transfers) by the end of the long-range period and the actuarial balance would be a positive 1.69 percent of payroll. Under sensitivity illustration 3A, the average yield on SSG accounts is assumed to b e 1 percentage point lower than expected for the accounts invested in 60 percent stock and 40 percent corporate bonds. Under this illustration, the OASDI trust fund ratio would be expected to become exhausted in 2048. However, the OASDI actuarial balance would be improved by about 1.98 percent of taxable payroll under this assumption, leaving an actuarial deficit of only 0.08 percent of payroll. Annual Estimates of SSG Fund Operations and Estimated Effects on the Unified Budget BalanceTable 1b, attached, provides estimates of aggregate SSG account balances, total contributions to and transfers from SSG accounts, and rough estimates of the effects of other changes to the OASDI program (earnings test eliminat ion). A very rough estimate of the effects of the SSG Plan on the annual Federal unified budget balance for calendar years 2000 and later is also provided. These estimates are based completely on the intermediate assumptions of the 1999 Trustees Report, including the trust-fund interest assumption, and thus are not consistent with projections made by CBO and OMB (which use different assumptions. However, dif ferences in payroll and benefit estimates are not large during the first 10 projection years so these values can be viewed as very rough approximations of the magnitude of effects on the unified budget balances through this period. Under the SSG plan with the expected yield on the specified account portfolio, amounts transferred from the SSG accounts to the OASDI trust funds would at first be small, but -would exceed credits to the SSG accounts from the General Fund of the Treasury by about 2031. Including the relatively small effects of the elimination of the earnings test at ages 62 and above, the estimated change in the unified budget " cash flow" (excluding interest effects) would also be negative until 2031. Including the cumul ative effects of interest and the change in the OASDI payroll tax rate, the year in which the effect of the SSG plan on the unified budget annual balance would be expected to become permanently positive is 2054.
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