Trump famously promised in his 2016 campaign for the presidency that he would never cut Social Security. He just did. How much is not yet clear. It could be minor or it could be major, depending on how he follows up (or is allowed to follow up) on the executive order he signed on Saturday, August 8 while spending a weekend at his luxury golf course in New Jersey. The executive order (one of four signed at that time) would defer collection of the 6.2% payroll tax paid by employees earning up to $104,000 a year for the pay periods between September 1 and December 31 (usefully straddling election day, as many immediately noted).
What would then happen on December 31? That is not clear. On signing the executive order, Trump said that “If I’m victorious on November 3rd, I plan to forgive these taxes and make permanent cuts to the payroll tax. I’m going to make them all permanent.” He later added: “In other words, I’ll extend beyond the end of the year and terminate the tax.”
The impact on Social Security and the trust fund that supports it will depend on how far this goes. If Trump is re-elected and he then, as promised, defers beyond December 31 collection of the payroll tax that workers pay for their Social Security, the constitutional question arises of what authority he has to do this. While temporary deferrals of collections are allowed during a time of crisis, what happens when the president says he will bar the IRS from collecting them ever? The president swore in his oath of office that he would uphold the law, the law clearly calls for these taxes to be collected, and a permanent deferral would clearly violate that. But would repeated “temporary” deferrals become a violation of the statutory obligations of a president? And he has clearly already said that he wants to make the suspension permanent and to “terminate the tax”.
There is much, therefore, which is not yet clear. But one can examine what the impact would be under several scenarios. They are all adverse, undermining the system of retirement benefits that has served the country well since Franklin Roosevelt signed the program into law.
Some of the implications:
a) Deferring the collection of the Social Security payroll taxes will lead to a huge balloon payment coming due on December 31:
The executive order that Trump signed directs that firms need not (and he wants that they should not) withhold from employee paychecks the 6.2% that goes to fund the employee share of the Social Security tax. But under current law the taxes are still due, and would need to be paid in full by December 31.
Suppose firms did decide not to withhold the 6.2% tax, and instead allow take-home pay to rise by that amount over this four-month period straddling election day. Unless deferred further, the total of what would have been withheld will now come due on December 31, in one large balloon payment. For those on a two-week paycheck cycle, that balloon payment would have grown to 54% of their end of the year paycheck. It is doubtful that many employees would be very happy to see that cut in end-year pay. Plus how would firms collect on the taxes due on workers who had been with the firm but had left for any reason before December 31? By tax law, the firms are still obliged to pay to the IRS the payroll taxes that were due when the workers were employed with them.
Hence most expect that firms will continue to withhold for the payroll taxes due, as they always have. The firms would likely hold off on forwarding these payments to the IRS until December 31 and instead place the funds in an escrow account to earn a bit of interest, but they would still withhold the taxes due in each paycheck just as they always have (and as their payroll systems are set up to do). This also then defeats the whole purpose of Trump’s re-election gambit. Workers would not see a pre-election bump up in their take-home pay.
b) But even in this limited impact scenario, there will still be a loss to the Social Security Trust Fund:
Thus there is good reason to believe that Trump’s executive order will likely be basically just ignored. There would, however, still be a loss to the Social Security Trust Fund, although that loss would be relatively small.
Payroll taxes paid for Social Security go directly into the Social Security Trust Fund, where they immediately begin to earn interest (at the long-term US Treasury rate). Based on what was paid in payroll taxes in FY2019 ($1,243 billion according to the Congressional Budget Office), and adjusting for the fewer jobs now due to the sharp downturn this year, the 6.2% component of payroll taxes due would generate approximately $40 billion in revenue each month. Assuming the $160 billion total (over four months) were then all paid in one big balloon payment on December 31 rather than monthly, the Social Security Trust Fund would lose what it would have earned in interest on the amounts deferred. At current (low) interest rates, the total loss to Social Security would come to approximately $250 million. Not huge, but still a loss.
c) If collection of the 6.2% payroll tax is deferred further, beyond December 31, the losses to the Social Security Trust Fund would then grow further, and exponentially, and become disastrous if terminated:
Trump promised that “if re-elected” he would defer collection by the IRS of the taxes due further, beyond December 31. How much further was not said, but Trump did say he would want the tax to be “terminated” altogether. This would of course be disastrous for Social Security. Even if the employer share of the payroll tax for Social Security (an additional 6.2%) continued to be paid in (where what would happen to it is not clear), the loss to Social Security of the employee share would lead the Trust Fund to run out in less than six years. At that point, under current law the amounts paid to Social Security beneficiaries (retirees and dependents) would be sharply scaled back, by 50% or more (assuming the employer share of 6.2% continued to be paid).
d) Even if the Social Security Trust Fund were kept alive by Congress acting to replenish it from other sources of tax revenues, under current law individual benefits would be reduced on those who saw their payroll tax contributions diminished:
There is also an issue at the level of individual benefits, which I have not seen mentioned but which would be significant. The extent of this impact would depend on the particular scenario assumed, but suppose that the payroll taxes that would have come due and collected from September 1 to December 31 were permanently suspended. For each individual, this would affect how much they had paid in to the Social Security system, where benefits are calculated by a formula based on an individual’s top 35 years of earnings (with earnings from prior years adjusted to current prices as of the year of retirement eligibility based on an average wage inflation index).
The impact on the benefits any individual will receive will then depend on the individual’s wage profile over their lifetime. Workers may typically have 20 or 25 or maybe even 30 years of solid earnings, but then also a number of years within the 35 where they may have been not working, e.g. to raise a baby, or were unemployed, or employed only part-time, or employed in a low wage job (perhaps when a student, or when just starting out), and so on.
There would thus be a good deal of variation. In an extreme case, the loss of four months of contributions to the Social Security Trust Fund from their employment history might have almost no impact. This would be the case where a worker’s income in their 36th year of employment history was very similar to what it was in their 35th, and the loss in 2020 of four months of employment history would lead to 2020 dropping out of their employment top 35 altogether. But this situation is likely to be rare.
More likely is that 2020 would remain in the top 35 years for the individual, but now with four months less of payroll contributions being recorded. One can then calculate how much their Social Security retirement benefits would be reduced as a result.
The formulae used can be found at the Social Security website (see here, here, and here). Using the parameters for 2020, and assuming a person had earned each year the median wages for the year (see table 4.B.3 of the 2019 Annual Statistical Supplement of Social Security), one can calculate what the benefits would be with a full year of earnings recorded for 2020 and what they would be with four months excluded, and hence the difference.
In this scenario of median earnings throughout 35 years, annual benefits to the retiree would be reduced by $105 (from $17,411 without the four months of non-payment, to $17,306 with the four months of the payroll tax not being paid). Not huge, but not trivial either when benefits are tied to a full 35 years of earnings. That $105 annual reduction in benefits would have been in return for the one-time reduction of $669 in payroll taxes being paid (6.2% for four months where median annual earnings of $32,378 in 2019 were assumed to apply also in 2020 despite the economic downturn). That is, the $669 not paid in now would lead to a $105 reduction in benefits (15.8%) each and every year of retirement (assuming retirement at the Social Security normal retirement age).
The loss in retirement benefits would be greater in dollar amount if the period of non-payment of the payroll tax were extended. Assuming, for example, a scenario where it was extended for a full year (and one then had just 34 years of contributions being paid in, with the rest at zero), with wages at the median level throughout those now 34 years, the reduction in retirement benefits would be $316 each year (three times as much as for the four-month reduction). Payroll taxes paid would have been reduced by $2,007 in this scenario, and the $316 annual reduction is again (given how the arithmetic works) 15.8% of the $2,007 one-time reduction in payroll taxes paid.
All this assumes Social Security would continue to pay out retiree benefits in accordance with current law and assumes the Trust Fund remained adequate. The suspension of these payroll taxes would make this difficult, as noted above, unless there was then some general bailout enacted by Congress. But any such bailout would raise further issues.
e) If Congress were to appropriate funds to ensure the Social Security Trust Fund remained adequately funded, the resulting gains would be far greater for those who are well off than for those who are poor:
Suppose Congress allowed these payroll taxes to be “terminated”, as Trump has called for, but then appropriated funds to ensure benefits continued to be paid as per the current formulae. Who would gain?
For at least this part of the transaction (the origin of the funds is not clear), it would be the rich. The savings in the payroll taxes that would be paid in order to keep one’s benefits would be five times as high for someone earning $100,000 a year as for someone earning $20,000. The tax is a fixed 6.2% for all earnings up to the ceiling (of $137,700 in 2020, after which the tax is zero). The difference in terms of the benefits paid would be less, since the formulae for benefits have a degree of progressivity built-in, but one can calculate with the formulae that the change in benefits from such a Congressional bailout would still be 2.3 times higher for those earning $100,000 than for those earning $20,000.
One might question whether this is the best use of such funds. Normally one would want that the benefits accrue more to the poor than to those who are relatively well off. The opposite would be the case here.
f) Importantly, none of this helps those who are unemployed:
Unemployment has shot up this year due to the mismanagement of the Covid-19 crisis, with the unemployment rate rising to a level not seen in the US since the Great Depression. Unemployment insurance, expanded in this crisis, has proven to be a critical lifeline not only to the unemployed but also to the economy as a whole, which would have collapsed by even more without the expanded programs.
Yet cutting payroll taxes for those who have a job and are on a payroll will not help with this. If you are on a payroll you are still earning a wage, and that wage is, except in rare conditions, the same as what you had been earning before. You have not suffered, as the newly unemployed have, due to this crisis. Why, then, should you then be granted, in the middle of this crisis where government deficits have rocketed to unprecedented levels, a tax cut?
It makes no sense. Some other motive must be in play.
g) This does make sense, however, if your intention is to undermine Social Security:
Trump pushed for a cut in the payroll taxes supporting Social Security when discussions began in July in the Senate on the new Covid-19 relief bill (the House had already passed such a bill in May). But even the Republicans in the Senate said this made no sense (as did business groups who are normally heavily in favor of tax cuts, such as the US Chamber of Commerce), and they kept it out of the bill they were drafting.
The primary advisor pushing this appears to have been Stephen Moore, an informal (unpaid) White House advisor close to Trump. He co-authored an opinion column in The Wall Street Journal just a week before Trump’s announcement advocating the precise policy of deferring collection of the Social Security payroll tax. Joining Moore were Arthur Laffer (author of the repeatedly disproven Laffer Curve, whom Trump had awarded the Presidential Medal of Freedom in 2019), and Larry Kudlow (Trump’s primary economic advisor and a strong advocate of tax cuts).
Moore has long been advocating for an end to Social Security, arguing that individual retirement accounts (such as 401(k)s for all) would be preferable. As discussed above, the indefinite deferral of collection of the payroll taxes that support Social Security would, indeed, lead to a collapse of the system. Thus this policy makes sense if you want to end Social Security. It does not otherwise.
Yet Social Security is popular, and critically important. Fully one-third of Americans aged 65 or older depend on Social Security for 90% or more of their income in retirement. And 20% depend on Social Security for 100% of their income in retirement. Cuts have serious implications, and Social Security is a highly popular program.
Thus advocates for ending Social Security cannot expect that their proposals would go far, particularly just before an election. But suspending the payroll taxes that support the program, with a promise to terminate those taxes if re-elected, might appear to be more attractive to those who do not see the implications.
The issue then becomes whether enough see what those implications are, and vote accordingly in the election.