Social Security: How New Changes Can Reduce the Retirement and Disability Benefits to 78%

Last week’s news that Social Security benefits could be slashed sooner than expected set off alarm bells for Americans whose retirement plans have already been disrupted by COVID-19. But financial experts say it’s not time to panic. 

This week, U.S. Secretary of the Treasury Janet Yellen stated that one risk of the ongoing government standoff about the debt ceiling, which may result in a shutdown, could be that, “nearly 50 million seniors could stop receiving Social Security checks for a time.”

A report from Social Security and Medicare trustees said benefits will have to be cut by 2034 — a year earlier than previously projected — if Congress doesn’t address the program’s long-term funding shortfall. If Congress does nothing, the combined trust funds for Social Security will only be able to pay 78% in promised benefits to retirees and disabled beneficiaries. Some news reports put the percentage closer to 75%.

There’s no mystery as to why the funds are disappearing sooner than expected. Look no further than last year’s economic downturn caused by the pandemic, which contributed to a big drop in employment that resulted in declining revenue from payroll taxes.

But just because benefits might have to be reduced early doesn’t mean Social Security funds are running out, as some fear. That’s not likely to happen, according to Monotelo Advisors, a Chicago-based financial and tax planning firm.

On its website, Monotelo said that if the only funds available to Social Security by the middle of next decade are the current wage taxes being paid in, then the Social Security Administration would still be able to pay around three-quarters of promised benefits.

“While a 25% reduction in benefits could significantly hurt the retirement plans of those who are relying on their Social Security benefits, it is far less damaging than the program being shut down entirely,” Monotelo said.

Scott Thoma, the retirement strategist at Edward Jones, offered a similar take in an email to GOBankingRates, saying that just because the Social Security reserves might be depleted one year earlier than expected, it doesn’t necessarily mean Social Security is going bankrupt.

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“There are changes that can be made to put the program on solid footing,” Thoma said. “In order for the program to remain fully funded through the 75-year projection period (they run it for 75 years — through 2095), payroll taxes would need to rise about 3.36%, or just under 1.7% for both the employer and employee, to fully fund the program.

If no changes are made, benefits would need to be cut by 24% starting in 2034 (they would be able to pay 76 cents for every dollar of benefits).”

And that’s only if the government does nothing to fix Social Security. Other changes that could be made would be to raise the full retirement age, revise the reduction formulas and eliminate the ceiling on taxable earnings.

“The key thing to remember here is that Social Security is not necessarily going bankrupt,” Thoma said.

The potential for reduced benefits might tempt some retirees to apply for benefits early to get as much as they can before the funds run out. But that’s not necessarily the best strategy.

“If you start taking your benefits as soon as allowed, they will be reduced to 70% of your full retirement age benefit,” Monotelo noted. “Comparing this to the 75% that could be received even after the fund runs out, you would still be hurting your retirement by applying early.”

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