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

You've probably heard the warnings—the Social Security Trust Fund is on track to become insolvent in 2035. The Social Security Administration currently estimates at that point, taxes will only cover 75% of scheduled benefits.

The culprit? In part, blame it on demographics. The elderly share of the population is projected to climb significantly over the next 20 years, from one in seven Americans to one in five. The Social Security program is funded through a payroll tax in which employers and employees each pay 6.2% of wages up to a cap, which for 2017 has risen to $127,200. If you are self-employed, you get to fund the whole 12.4%.

The Burden Is Shifting to the Individual

The previous generation relied on the "three-legged stool” approach to retirement planning, which included Social Security, employer-provided pensions, and your own personal savings. "That approach is no longer valid. Pensions are now few and far between, and greater emphasis must be placed on aggressively funding one’s retirement dollars," says Angela M. Thomson, certified financial planner at Coastal Financial Planning, Inc.

Bob Gavlak, certified financial planner and wealth advisor with Strategic Wealth Partners, says everyone needs to worry about Social Security's potential shortfall. No matter your age, it could impact you.

"This is a government program that is falling way short of what is necessary to keep the promises in place," Gavlak says. "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."

As company-sponsored pensions ride off into the sunset and the Social Security Trust Fund continues to develop cracks, the retirement burden shifts to individuals. "We now have to depend more on our own saving and investment strategies," Gavlak says.

What's the Fix?  

Many proposals have been bandied around, but the key question is whether a change will actually be enacted. Here's a brief look at a few of the proposals:

1. Raise the full retirement age. One proposal suggests raising the full retirement age to 68 from its current 66 or 67 (depending on when you were born).

2. Increase or eliminate the payroll tax cap. The Social Security payroll tax currently applies to annual earnings up to $127,200. Wages above that go untaxed. Some proposals suggest increasing the tax cap or taking it away completely.

3. Reduce benefits for higher net worth households (aka, “means testing”). The jury is out on whether policymakers will act to address the shortfalls forecast to hit in 2035.

Steps Anyone Can Take Now

No matter your age, consider saving for retirement in a Roth IRA or Roth 401(k). "Tax-free retirement income is worth significantly more than taxable retirement income. Taxes will increase in the future, especially for well-to-do retirees," says Hans Scheil, certified financial planner and CEO at Cardinal Retirement Planning.

Start saving early and contribute the maximum amount you can to a retirement or 401(k) plan, Thomson says. "The value of compounding over time significantly increases your chance of success in striving for fully funding your retirement," Thomson adds.

Spend a lot less and save more, says Willie Schuette, financial coach at the JL Smith Group.

"The first thing to help reduce spending habits is to create a budget. Most people spend more time planning their vacation than a budget. Eliminate high-interest debt and then begin maximizing the deposit into employer-matched 401(k)s," Schuette adds.

Here are some age-specific ideas for how you can address the potential Social Security shortfall.

In Your 20s:

• Start to put plans in place as if Social Security won’t be there at all, Gavlak says. "This way, you can build an investment and retirement strategy that is not dependent on a government program over which we have no control. Saving now and investing for the long term is your best bet."
• Start saving and accumulating in a Roth and prepare to pay higher payroll taxes in your 40s and beyond, Scheil says.
• "I have a nephew who is 26 years old and we are maxing out his 401(k) contributions that are matched and maxing out his Roth IRA contributions every year. We are projecting a potential reduction in his Social Security benefit in the future," Schuette says.

In Your 30s:

• There’s still plenty of time to build up your retirement if you start now, Gavlak says. "The longer you delay, the more dependent you may be on the government and with the looming shortfalls, it may not work out in the way that you hope."
• Live within your means, and develop a budget for expenses. Save in company-sponsored plans and tax-free retirement accounts, and also start college savings plans for your children, Schuette says.

In Your 40s:

• Start to look at how things are lining up for retirement based on your goals, objectives, and assets, including Social Security as it is in place now, Gavlak suggests. "Then look at the plan with a potential reduction in benefits, maybe by 25%, and see how that impacts things.
• Shift your new contributions from traditional to Roth. Prepare to work into your 70s, Scheil says.
• Establish plans to create your own pension plan using life insurance or structured investments, says Jordan Anderson, financial advisor at Journey Financial Services.

In Your 50s:

• Have a firm grasp on your retirement plans and expectations for calling it quits, Anderson says. "Have you been able to save enough money to live comfortably in retirement? Should you push a little harder to finish paying off your home in the next few years? Consider ways, now, to reduce spending in preparation for retirement."
• You may be empty nesters and now can plow more money into retirement savings instead of spending more, Schuette says.
• Plan for long-term care. "Plan your career into your 60s and 70s so you can delay withdrawals from IRA and think about Roth conversion," Scheil says.

In Your 60s:

• Learn and understand all your options. "Just because Social Security benefits are available at age 62 doesn’t mean you need to start on your qualifying birthday. Be sure to understand the earnings limits that apply for claiming benefits early and for continuing to work. Many people are surprised when their social security is reduced for making too much money prior to their full retirement age," Anderson says.
• Develop an ideal Social Security election strategy, Gavlak says. "Depending on your marital status and earnings record, there are many different ways to elect your benefit."

There’s still a chance that policymakers will work to address the potential shortfall, but certainly no guarantees. "A reduction in benefits is the default solution if nothing is done about this. People need to plan and save for retirement, counting less on the government and more on their retirement savings. Social Security was never meant to be a complete retirement plan," Scheil says.