How Would a Democratic Congress Change Social Security?

By Markets Fool.com

Image source: Hillary for Iowa, via Flickr.

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Heading into 2016's general election, Democrats have an uphill battle. Even though Hillary Clinton is currently polling ahead of Donald Trump, there are seat deficits that need to be made up for in both houses of Congress.

In the Senate, there are 54 Republicans versus 44 Democrats, but statistical expert Nate Silver believes Democrats have a fighting chance to regain control. In the House, Republicans outnumber Democrats 247-188. Silver's colleague David Wasserman believes the best-case scenario is a gain of 20 seats, which still leaves Republicans in control.

That being said, one of the most important long-term goals of the next Congress will be to address the shortfall in Social Security funding. Having already looked at how a Republican Congress might attempt to fix Social Security, we'll be looking at popular Democratic options today, with help from the American Association of Actuaries (AAA).

Currently, the Old-Age and Survivors Insurance (OASI) Trust Fund for Social Security is scheduled to run out of money sometime in the mid-2030s. That does not mean Social Security will disappear -- as the government will still have funds from current workers paying into the system -- but because there are fewer workers per retiree than at any point in history, the money flowing into the fund will not be enough to cover all that is promised.

If nothing is done to remedy the situation, future retirees would be looking at a 23% cut in benefits.

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Raising the payroll tax

Via FICA payroll taxes, the federal government takes a 6.2% slice from every American's paycheck, and it requires employers to pay an equivalent amount. If that percentage goes up -- for both employee and employer -- Social Security will raise more funds immediately.

But is it enough to make Social Security sustainable? Here's what the AAA has to say:


Effect of various FICA tax levels on Social Security shortfall. Click on a percentage to see the change in the pie chart. Data source: American Association of Actuaries.

Let's put this in perspective: The median American family takes home roughly $54,000 per year. If taxes for Social Security jumped to 7.4%, that would mean an extra $648 being taken out of this household's paycheck. But there are second-order effects as well, as it's difficult to predict how the higher taxes would change the approach of American businesses to hiring and retaining their current employees.

Such a move would certainly not be unprecedented. In fact, payroll tax started out at just 1% in 1937, and didn't cross the 5% threshold until 1978. Since 1990, however, it has stood at its current level of 6.2%. That 26-year run without a change is by far the longest in the program's history.

Eliminating the maximum taxable earnings

One thing most Americans don't realize is that for every dollar you earn over a certain threshold, you don't have to pay payroll taxes. In 2016, that amount will be $118,500. The Social Security Administration estimates that only 6.1% of all earners are able to benefit from this "tax break." That might make it seem like eliminating the ceiling would do little to solve Social Security's problems.

But because a small minority holds a disproportionate amount of the country's wealth, this isn't the case. The uneven recovery since the Great Recession has only exacerbated the problem. Back in 1983, 90% of the country's wages were subject to the payroll tax. Since then, that number has dipped to 83%.(Over the life of Social Security, it should be noted, the average amount of the country's wages subject to the payroll tax is 84%.)

How much would such a move help?


Effect of eliminating a cap on earnings subject to payroll tax on Social Security shortfall.Data source: American Association of Actuaries.

As you might guess, this is one of the most popular options for Democrats. Bernie Sanders and Barack Obama have already floated different versions of the same idea. In their plans, earnings between $118,500 and $250,000 would not be subjected to payroll taxes, but everything above $250,000 would. The Center for Economic and Policy Research estimates that this would "eliminate about 80% of the long-range shortfall."

Prepare for an uncertain future

There's no way to tell how or if Congress will ever act to solve the Social Security puzzle. If that solution ever comes, it will most likely be a piecemeal assembly of the most popular ideas from both sides of the aisle.

In the meantime, it's important to remember that the one person who cares the most about your financial health in retirement is you! That means that acting now to ensure you are taken care of in your Golden Years is paramount. The recipe is the same as it's ever been: spend less than you earn, save, and invest the difference. Repeat as long as you're working.

The article How Would a Democratic Congress Change Social Security? originally appeared on Fool.com.

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