Encourage ‘Ownership’ and Save Social Security

By Rachel Siegel

Published February 04, 2005, issue of February 04, 2005.
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The very first monthly Social Security check was sent out in January 1940 to Ida Mae Fuller, of Ludlow, Vermont, age 65. After paying Social Security taxes for three years, since the program began on January 1, 1937, Fuller collected Social Security benefits for 35 years until her death in 1975, at age 100.

The first Social Security record was issued to John D. Sweeney of New Rochelle, N.Y. Sweeney paid Social Security taxes for 37 years, from 1937 until his death in 1974 at the age of 61. He died without ever collecting one penny of benefits.

It is a history lesson that appears to have been lost on President Bush, who was set to make reform of Social Security the centerpiece of his State of the Union address this week.

Social Security was designed to be social insurance, to insure against the risk of poverty in old age. It was never intended to be anything but a supplement to income from personal savings and employer pensions. Any insurance works on the principle of shared risk: all participants pay a premium to hedge individual risk, but because not everyone will qualify for a benefit at the same time, if ever, those premiums can pay off the benefits that need to be paid.

Most insurance premiums are paid with a dread of ever collecting any benefit. I never want to have to collect on my home insurance, or my car insurance, because to qualify, I would have to have had some misfortune befall my home or car. Yet I continue to pay the premiums, with the hope of no benefit. My return on those premiums is really my peace of mind, and the knowledge that bad luck visited on someone else, in the same insurance pool, will not ruin him, and so he will continue to be a viable participant in my economy.

We all pay Social Security taxes, the premiums on our insurance against future poverty, and we do expect to collect. But not everyone collects in the same proportion to his premium payments. Some pay for over 40 years and then die, unluckily, before retirement. Some pay for only a few years, then become disabled, for example, and collect many more benefits than they ever “paid for.” But that is how insurance works: the level of benefit is determined by the payment of premiums, but only if you are unlucky enough, or in the case of Social Security, if you live long enough, to ever collect.

If the Bush Administration succeeds in its proposed reforms of Social Security, with the diversion of “premiums” into personal retirement accounts, Social Security will change from a program of social insurance to one of mandatory retirement savings. Now, encouraging retirement savings is always a good idea, but the diversion of funds will undermine the insurance pool that we have, perhaps to the point of crippling it.

If we really wish to promote more retirement savings — and not just differently invested retirement savings — we could use the mechanisms to encourage “ownership” that we already have in place and leave the Social Security insurance pool alone. We could do what we usually do when we want to encourage some economic behavior: make its cost tax deductible. For example, mortgage interest is tax deductible, because we want to encourage home ownership. Why not make the cost of retirement savings tax deductible to encourage “ownership” of retirement?

This is not a new idea, and it doesn’t need to be. We already have Individual Retirement Accounts, which were established in 1982. We also have SEPs, SIMPLEs, 403bs, 401ks, Keoghs and a number of other federal retirement incentives. But under the current tax code, the tax-deductible contributions are limited and the qualifications complex.

While the tax legislation of 2001 eased those limitations somewhat, they could be relaxed much more. We could let taxpayers invest more each year, and we could open those deductions to more taxpayers, even those in “qualified” plans. If someone wants to save more and can afford to, why not encourage them with the added incentive of a tax break?

Tax revenues would decrease, of course, if more income is shielded from taxes, but that tax-shielded income would be invested in the capital markets, which is where savings go, and would increase the supply of capital available, stimulating economic growth. The resulting growth could increase the tax basis of the economy as well as the wealth of investors.

The real beauty of it is this: the mechanisms are already in place. We don’t need to create new kinds of accounts, as Bush has proposed, and to create another layer or two of costly bureaucracy or fee-based account management. There is no reason that funds need to be diverted from Social Security or that taxpayers should have to waive their rights to those benefits in order to save.

It is good to encourage individual retirement savings, and individual financial responsibility. It is also good to insure all of us against poverty in old age, and in order to do so, we have to share risk; we all have to keep contributing to the pool. There’s no real reason why we have to sacrifice one good idea for the other. Why not do both?

Rachel Siegel, a professor of business administration at Lyndon State College in Vermont, is a member of the Ethan Allen Institute’s board of scholars.

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