Bernie Sanders Just Proposed a Massive Overhaul of Social Security

By Sean Williams Markets Fool.com

Social Security is a vital source of income for our nation's seniors. More than three-fifths of retired beneficiaries are receiving at least half of their monthly income from Social Security, and according to the Center on Budget and Policy Priorities, an estimated 32% of seniors are being kept out of poverty as a result of this retirement income.

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However, Social Security isn't on the best trajectory. According to the Social Security Board of Trustees 2016 report, this highly relied-upon program is slated to burn through its more than $2.8 trillion in spare cash by 2034. Should Congress fail to pass a bill that generates more revenue for the program, up to a 21% benefits cut may be needed to sustain the program through 2090.

Image source: Getty Images.

For his part, President Trump has vowed to leave Social Security as is and instead would rather focus on growing the economy, thus indirectly increasing payroll-tax revenue and helping Social Security. Trump's focus is on individual and corporate income tax reforms, as well as bolstering infrastructure spending and the domestic energy sector.

Arguably the most frustrating aspect of fixing Social Security is that more than a dozen approaches have been suggested, but Democrats and Republicans simply can't agree on a best course of action.

Bernie Sanders just proposed sweeping reforms to Social Security

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However, former presidential candidate Sen. Bernie Sanders (I-Vt.) has a solution, and its name is the Social Security Expansion Act.

Sanders, who has long been a voice of the low-income and working-class American in the Senate, ironically proposed his solution on Feb. 16, which is the day that people making $1 million or more in annual income hit the maximum taxable earnings threshold of $127,200 as defined by Social Security's payroll tax. Any income above and beyond $127,200 is exempt from the payroll tax.

Sanders' pretty substantial Social Security overhaul takes two primary tones: Help lower-income seniors by providing them more income, and require the wealthy to pay more into Social Security. There are four main components to the Social Security Expansion Act.

Image source: Bernie Sanders Senate web page.

  1. Provide an extra $1,300 a year to low-income seniors: The heart of Sanders' plan is to ensure that lower-income seniors have enough money to live comfortably during retirement. Sanders' proposal would provide $1,300 in additional funding to retired beneficiaries who are receiving $16,000 or less in annual income. In addition, as reported by The Hill, older beneficiaries would see an average increase in benefits of $43 a month at age 80 and $73 a month at age 90.
  2. Tie Social Security's COLA to the CPI-E: Second, Sanders would abandon the Consumer Price Index for Urban Wage Earners and Clerical Workers (CPI-W) as the measure of Social Security's cost-of-living adjustments (COLA) and instead implement the Consumer Price Index for the Elderly (CPI-E), which tracks the spending habits of households with people aged 62 and up. Since the CPI-W tends to overemphasize spending on entertainment, apparel, transportation, and education, while underemphasizing what seniors spend on medical care and housing, this move would presumably give seniors a raise that better keeps pace with the inflation they face.
  3. Raise the payroll-tax cap for the wealthy: Sanders' bill would primarily fund the expansion of benefits to lower-income seniors and older beneficiaries by adjusting how maximum payroll taxes are applied. Currently, all earned income between $0.01 and $127,200 is subject to the 12.4% payroll tax (of which your employer usually covers half), but anything above this figure is free and clear of taxation. Sanders' proposal would provide a payroll-tax moratorium between the annual wage index-adjusted peak (currently $127,200) and $250,000. However, any income above $250,000 would once again be taxed at 12.4%.
  4. Provide a separate investment surcharge of 6.2%: On top of increasing the payroll-tax cap, Sanders' proposal would add a separate 6.2% net investment income tax (NIIT) on individuals with incomes over $200,000 and couples that have incomes over $250,000. For those who may not recall, the Affordable Care Act already imposes a 3.8% NIIT on investment income over the same thresholds. In effect, Sanders is calling for a combined 10% investment income tax on wealthier individuals and families.

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Would it work? Yes. Would it pass? Doubtful.

Now here's the intriguing part. Bernie Sanders received correspondence directly from the Social Security Administration suggesting that his proposals would extend the spare cash exhaustion date of the Trust from 2034 to 2078 -- an additional 44 years.

What's more, it would reduce the 75-year actuarial deficit from an estimated 2.66% to just 0.41%. In plainer English, implementing Sanders' plan, along with a 0.41% increase to the payroll tax across the board (0.205% for most working Americans), would extend the solvency of the program through 2090. So yes, Bernie Sanders' plan does make fiscal sense in that it would extend the life of Social Security at least two more generations, and provide more income to lower-income and older Americans.

But would this law pass in Congress? It's doubtful.

On a purely partisan basis, the Republican majority in Congress is unlikely to allow an increase on payroll taxes. Likewise, Trump has shunned the idea of touching Social Security and increasing payroll taxes.

Fundamentally, Sanders' proposal also has two key downfalls.

Image source: Getty Images.

First, the CPI-E, while giving seniors a bigger annual "raise" than the CPI-W, may still underestimate some of the inflationary costs that seniors face. For example, Medicare Part A costs can be a substantial component of medical care expenses, but they aren't accounted for by the CPI-E.

Along those same lines, there are millions of additional households factored in with the CPI-W than with the CPI-E, meaning those extra data points in the CPI-W may be a more accurate measure of consumer spending habits than the CPI-E.

The second flaw with Sanders' bill is that its net investment income surtax could seriously discourage investment, which would be bad news for middle-class and well-to-do individuals and families that have success in the stock market and through other investment avenues. A decline in investments could possibly trickle down through the economy and adversely affect the jobs market.

Until such time as both political parties can find a middle ground, Bernie Sanders' Social Security plan is probably nothing more than a pipe dream.

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