August 24, 2011

What kind of return can you expect to get from your "investment" in Social Security?

We thought it was long past time to update our previous look at that question to take advantage of the updated actuarial projections that were just issued in July 2010.

We then created a mathematical model for the data that represents the "present law" assumptions for the program's payout, which should put most of the calculated internal rates of return in our tool below within 0.2% of the projected return provided by Social Security's actuaries. That is, assuming they don't hike your taxes or slash your benefits at some point in the future!

Update: Minor calculation glitch now fixed!

Birth Year and Household Income Data
Input Data Values
Household Type

Calculated Results Values
Low Rate of Return Approximation (%)
Average Rate of Return Approximation (%)
High Rate of Return Approximation (%)

### High, Low and Average

If your birth year is before 1930, you can expect that your effective rate of return on your "investment" in Social Security is at the high end of the range presented above.

On the other hand, if your average lifetime annual income is high (more than \$60,000), you can expect that the approximation is overstating your rate of return and that your effective rate of return is closer to the low end of the approximated range.

Otherwise, you should be pretty comfortably somewhere near the average approximate value!

### Winners and Losers, Generally Speaking

In using the tool, you'll find that Single Males fare the worse, followed by Single Females and Two-Earner Couples, while One-Earner Couples come out with the best rate of return from their "investment" in Social Security.

These outcomes are largely driven by the difference in typical lifespans between men and women. For the typical One-Earner Couple, the household's income earner, usually male, dies much earlier than their spouse, who keeps receiving Social Security retirement benefits until they die. This advantage largely disappears if both members of the household work, which increases the amount of Social Security taxes paid without increasing the benefit received.

### The Older The Better

Going by birth year, you'll find that those born in recent decades don't come out anywhere near as well as those born back when the program was first launched in the 1930s. This is primarily a result of tax increases over the years, which have significantly reduced the effective rate of return of Social Security as an investment.

For example, when Social Security was first launched, the tax supporting it ran just 1% of a person's paycheck, with their employer required to match the contribution.

Today, 4.2% of a person's paycheck goes to Social Security, down from 6.2% in 2010, which is one reason why Social Security is now regularly running in the red. (President Obama is actively seeking to continue that situation.)

Meanwhile, employers pay an amount equal to 6.2% of the individual's income into the Social Security program. Since benefits are more-or-less calculated using the same formula regardless of when an individual retires, the older worker, who has paid proportionally less into Social Security, comes out ahead of younger workers!

### The Poorer the Better

If you play with the income numbers (which realistically fall between \$0 and \$97,000), you'll see that the lower income earners come out way ahead of high income earners. Social Security's benefits are designed to redistribute income in favor of those with low incomes.

### Living and Dying

There's another factor to consider as well. This analysis assumes that you will live to receive Social Security benefits (which you only get if you live!) If you assume the same mortality rates reported by the CDC for 2003, the average American has more than a 1 in 6 chance of dying after they start working at age 19-20 before they retire at age 66-67. Men have a greater than a 1-in-5 chance of dying before they reach retirement age, while women are slightly have slightly over a 1-in-7.5 chance of dying pre-retirement age.

Morbid? Maybe. But your Social Security "investment" isn't as without risk as many politicians would have you believe!

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