1 Thing Donald Trump Doesn't Understand About Social Security

By Markets Fool.com

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Republican presidential nominee Donald Trump has said that his tax cuts would create enough economic growth that Social Security's financial problems would take care of themselves. He certainly makes a good point -- more jobs and higher wages would indeed lead to more tax revenue flowing into Social Security.

However, we're not worried about Social Security's financial well-being this year, next year, or even in the eighth year of a potential Donald Trump presidency. Rather, we're worried about what happens to the program decades down the road.

The current state of Social Security

According to the most recent Social Security trustees' report, the program's trust funds still had more than $2.8 trillion in reserves at the end of 2015. So, if anyone tells you that Social Security is "broke" or "bankrupt," don't believe them.

What's more, when you include the interest income Social Security receives from these reserves, the program is expected to run a surplus in 2016. Not only that, but the surpluses are expected to continue through 2019. Furthermore, the situation might even be a little better than the trustees' report projected. The recently released 2017 list of Social Security changes shows that the maximum taxable income for Social Security is rising to $127,200 -- more than the $126,000 that the trustees' report projected.

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To recap, Social Security has trillions in reserves, is expected to run a surplus for the next four years, and should receive even more income than it expected from high-income taxpayers.

Here's the bad news

The bad news has to do with what is expected to happen after 2019. Starting in 2020, Social Security is projected to start running at a deficit. And the deficits are going to get large, quickly. The Social Security Administration will have no choice but to pay out promised benefits by tapping into the reserves.

In a nutshell, Social Security is going to run out of money in 2034, based on the current projections. At that time, incoming payroll tax revenue will only be enough to cover about three-fourths of promised benefits. That is, unless something changes.

We need long-term solutions

When it comes to Social Security solutions that will produce long-lasting financial strength, there are only two main options that are virtually guaranteed to work: cutting benefits or raising taxes.

Across-the-board benefit cuts are extremely unpopular, but benefit reductions can take other forms. For example, some of the former Republican presidential candidatessuggested increasing the full retirement age to 68, or even 70. However, an analysis by the National Academy of Social Insurance, a policy research organization, found that not only do most Americans oppose any cuts, but those measures wouldn't make a big enough dent in the funding gap to solve the problem. Even a rather dramatic increase of the full retirement age to 70 would only solve one-fourth of the problem.

On the other hand, modest tax increases are popular among the American people and are also more likely to be effective. Just to name a couple of options, a 1% increase in the Social Security tax rate phased in over 20 years would close 52% of the long-term financing gap all by itself. And eliminating the earnings cap so that all wages would be subject to Social Security tax would take care of 74% of the problem. Both solutions are supported by a majority of Americans across all income levels, political affiliations, and age groups.

Economic growth is a good start, but...

To be clear, I'm not completely discounting Trump's statement that economic growth would help Social Security, nor am I saying that one candidate's plan to fix Social Security is better than the other's. If his tax plan creates as much economic growth as he claims, it could indeed add billions to Social Security's revenue and keep the program solvent for several years longer than expected.

However, stimulating the economy won't fix the long-term problem. With the retirement of the baby-boomer generation, there are simply not going to be enough people paying into the system to cover all of the benefits that need to be paid out, and no amount of economic growth will change that fact.

The only two certain ways to sustainably fix Social Security are to increase taxes or reduce benefits. And since benefit reductions are a political nonstarter, it's likely that a tax increase will be needed to preserve Social Security for future generations of American retirees. And the sooner it happens, the better off the program will be.

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