A DALBAR Letter to America � Practical Solutions to Social Security

November 2004 – The frenzied debate over the future of Social Security has been overpowered by the extremes. Overblown consequences and inflated costs have stymied progress and been translated into utter failure to take meaningful action to solve what is a manageable problem.

The manageable problem is that while the system is funded for several years, the current demographics will not support it indefinitely. The meaningful action is to alter the system so as to preserve all benefits for current recipients while putting it on sound financial footing for the future.

And the answer is�

Two minor alterations will start a process that leads to long-term solvency without exorbitant expenditures and maintaining funding of current needs.

The first alteration is to permit employees to voluntarily forego their future Social Security benefits in exchange for putting 20% of their Social Security payments (both employer and employee components) into their existing personal 401(k), IRA, or other retirement plan. DALBAR�s research has shown that over 50% of employees will voluntarily forego benefits if they are given the option to direct a portion of their Social Security payments into their existing retirement plan.

The second alteration addresses the projected $74 billion shortfall that would be caused by the first alteration. This alteration is for employees making over $87,900 per year to make Social Security payments for a full year. Currently, these employees stop making payments after an annual maximum of $4,550 is reached. This alteration would raise the maximum annual contribution to the system by approximately 20%, more than offsetting the shortfall.

What this means is�

In the short run, there is no need for enormous expenditures to privatize a portion of the Social Security system within a government run program. This practical approach avoids billions of dollars of duplicative efforts to maintain a government run system for individual accounts.

In the long run, the un-funded liability of the Social Security system is gradually reduced as employees opt out. The lowering of the liability occurs because every employee who opts out reduces payments by 20 cents and at the same time reduces the liability by $1.

This approach is sustainable over the long term and does not require any shocks to the system, either in the form of high costs or reduced benefits to those that remain in the system.

Illustration of Social Security Solution

The following diagram illustrates the two ways retirement of current and future senior citizens are funded. Employees that forego their Social Security benefits divert 20% of their payment into their 401(k), IRA or other retirement plan. Other employees continue to contribute 100% to Social Security and receive full benefits. Current senior citizens continue to receive 85 cents of every dollar paid into Social Security.

Employees that choose to direct 20% of contributions to their 401(k), IRA or other retirement plan:

  • Eighty cents goes into the Social Security system.

  • Twenty cents goes into a 401(k) or IRA.

  • When employees retire in the future they receive benefits of the enhanced 401(k) or IRA.

Employees that choose not to use 401(k), IRA or other retirement plan:

  • Employees continue to maintain 401(k) or IRA accounts to supplement their retirement.

  • When employees retire in the future they receive Social Security benefits as well as their 401(k) or IRA.

DALBAR, Inc., the nations leading financial-services market research firm, is committed to raising the standards of excellence in the financial-services industry. With offices in both the US and Canada, DALBAR develops standards for, and provides research, ratings, and rankings of intangible factors to the mutual fund, broker/dealer, discount brokerage, life insurance, and banking industries. They include investor behavior, customer satisfaction, service quality, communications, Internet services, and financial-professional ratings. Visit www.dalbar.com