Social Security’s Projected Shortfall: An Age-by-Age Guide for Retirement Planning

Every year, we hear new warnings about the future insolvency of the Social Security Trust Fund. The most recent report from the Social Security Administration indicated that the Old-Age and Survivors Insurance (OASI) trust fund, which we often think of when we consider retirement benefits, will have its reserves depleted by 2034. At that point, according to the report, tax income will be able to cover only about 76% of scheduled benefits.

Here’s what you need to know about preparing for Social Security’s projected shortfall while planning for your own retirement.

What’s at the Root of the Social Security Shortfall?

The Social Security program is funded primarily through payroll taxes. Employers and employees each pay 6.2% of wages up to a cap (in 2020, the cap is $137,700). If you’re self-employed, you’re responsible for the entire 12.4% of payroll taxes.

Current workers pay for the benefits that retirees receive from Social Security. But as the fertility rate continues to decline and as Americans live longer, the incoming taxes from current payrolls won’t be enough to keep supporting full benefits for those drawing Social Security. 

In the end, demographics are largely to blame for the projected Social Security shortfall.

Retirement Burden Shifting to Individuals

In the past, the “three-legged stool” was the preferred approach to retirement planning. Its “legs” included an employer-provided pension, Social Security, and personal savings. But no longer. With Social Security benefits at risk and fewer employers offering defined-benefit plans, the onus is increasingly on individuals to save for retirement.

Bob Gavlak, a certified financial planner and wealth advisor with Strategic Wealth Partners, cautioned that everyone needs to worry about Social Security’s potential shortfall. Whatever your age, it could affect you.

“This is a government program that is falling way short of what is necessary to keep the promises in place,” Gavlak said. “I’m not of the belief that those currently taking the benefit will get a reduction, but they may need to worry about the government limiting or decreasing the growth on the benefit.”

Social Security was never designed to be a complete income replacement, but retirees usually consider the benefits in their long-term retirement planning. However, unless something changes, you’ll likely need to depend more on your own savings and investing strategies for a successful retirement.

What’s the Fix?

Various proposals have been suggested over the years to shore up the Social Security Trust Fund and keep it viable longer. Three of the main proposals include:

1. Increase or eliminate the payroll tax cap. Right now, Social Security taxes are collected only on the first $137,700 of income (although this is adjusted each year). Raising the cap or getting rid of it altogether could provide higher revenue to pay for benefits.
2. Raise the full retirement age. Your full retirement age—the age at which you receive full benefits—is based on the year of your birth. However, the average American is living longer. When Social Security was instituted, life expectancy was lower. Raising the full retirement age could lead to fewer benefits being paid out.
3. Means testing. For those with a higher net worth, a means test would reduce benefits. Right now, your benefits are based on how long you’ve paid into the system and your salary. With means testing, your benefits would be reduced if you have a high net worth.

So far, the policy proposal with the most traction is raising the full retirement age, but nothing has been done yet.

Steps You Can Take to Build Your Retirement

No matter what your age, it’s possible to save for the future using a tax-advantaged retirement account like an Individual Retirement Account (IRA) or 401(k). Hans Scheil, a certified financial planner and CEO of Cardinal Retirement Planning, suggested that using a Roth version (when possible) could be even more beneficial.

“Tax-free retirement income is worth significantly more than taxable retirement income,” Scheil said. “Taxes will increase in the future, especially for well-to-do retirees.”

Saving early and contributing the maximum amount can help you take advantage of time in the market and potentially grow your nest egg over the long haul. Here are some age-specific ideas for addressing the potential Social Security shortfall:

In Your 20s:

• Plan as though Social Security won’t be a thing at all. Create an investment and retirement strategy that doesn’t depend on Social Security, so you can treat any benefits as gravy.

• Use a Roth now, while your tax bracket is likely lower. That means you’ll pay taxes now, but your money can grow tax-free and reduce the amount of income subject to higher taxes later.

• Prepare for higher payroll taxes in the future. Consider that you might see an increase in taxes as your career progresses.

In Your 30s:

• Keep building your retirement nest egg. If you haven’t started investing for retirement, there’s still time. Avoid delaying further.

• Create a budget and live within your means. Carefully consider your needs and wants. Create a financial plan that prioritizes retirement. You can put extra money into college savings later.

In Your 40s:

• Now is a good time to review your retirement planning—including your expectations for Social Security. Gavlak suggested running the numbers with the assumption that your benefits will be reduced by 25% and then adjusting your personal retirement investing accordingly.

• Consider that you might need to work into your 70s and make a plan for that.

• Consider plans that include structured investments, like annuities and life insurance, to help you establish a personal pension. (You probably won’t have a pension from work.)

In Your 50s:

• Look at where you might need to make adjustments to reach the finish line. This might include efforts to pay off your mortgage and other debt. You might also need to reduce some of your other spending.

• Consider how you might be able to use catch-up contributions to boost your tax-advantaged retirement accounts. In 2020, you can put an extra $1,000 into an IRA or an extra $6,500 into a 401(k).

• Plan for long-term care, whether that includes performing a Roth conversion to put off required minimum distributions or getting some type of insurance.

In Your 60s:

• Work with a retirement specialist who can help you figure out your choices. Even though you can begin taking reduced benefits at age 62, that may not be the right move. To get the full benefit you’re entitled to, consider waiting until your full retirement age to begin drawing benefits. For some people, waiting until age 70 is a better choice. Remember to review the rules for working and drawing on Social Security at the same time.

• Decide if you want to continue working, even if it’s part-time or on a consulting basis. This can provide you with a way to set more money aside.

• Review your Social Security election strategy by looking at your marital status, earnings record, and spousal benefits. Figure out what’s likely to work best for you.

No matter what the politicians decide, the reality is that you’re likely to bear the brunt of the responsibility for your retirement. Take that into account when planning for retirement—at any age.