Options to Increase Social Security Revenues

The main mechanism that solutions focus on to increase Social Security revenues is through tax increases. However, as outlined below, that is not the only way to raise revenues for the program.

Eliminate Taxable Maximum on Earnings

Of the options presented, the one that would increase revenues the most would be to eliminate the “taxable maximum,” often referred to as the payroll tax cap. In 2024, the maximum taxable earnings is $168,600. This option would eliminate the taxable maximum in years 2025 and later and apply the full payroll tax rate to all earnings. The increased revenues from that option would be partially offset by increased benefits for affected workers. When payroll taxes for Social Security were first collected in 1937, 92 percent of earnings from jobs covered by the program were below the maximum taxable amount. By 2022, that number had decreased to 83 percent of earnings. Eliminating the cap would help close the funding gap by 0.64 percent of GDP, or 53 percent of Social Security’s funding gap.

Increase the Payroll Tax

A commonly raised solution is to increase the payroll tax rate for Social Security. Raising the payroll tax 1 percentage point from 12.4 percent to 13.4 percent gradually from 2026 to 2035 would also help the solvency gap and bring in around $750 billion over those 10 years. In terms of the long-run actuarial deficit, raising the payroll tax rate would eliminate 0.31 percent of GDP,  or 26 percent of the program’s funding gap. Both employees and employers would bear half of the tax increase. In order to close the entire 75-year shortfall, the payroll tax rate would have to increase to 16.0 percent in 2025 and later.

Subject Cafeteria Plans to the Payroll Tax

Cafeteria plans allow workers to accept fringe benefits on a pre-tax basis. Some common uses are to help pay for supplemental health insurance coverage, the employee’s share of their premiums, medical expenses through Flexible Spending Accounts and Health Savings Accounts, and dependent care costs like daycare. Cafeteria plans reduce an employee’s taxable income under both the income tax and payroll tax, but if they were subject to the payroll tax, an estimated $529 billion could be raised over a decade and eliminate 0.12 percent of GDP from the funding gap.

Cover Newly-Hired State and Local Government Employees

Finally, covering newly-hired state and local government employees could increase revenues by a small amount. Federal law allows state and local government employees to opt out of enrolling in Social Security if they are given an option for a separate retirement plan. As a result, about a quarter of workers employed by state and local governments are not covered by Social Security. This option would reduce Social Security deficits more in the near-term because the initial increase in revenues would eventually be offset by paying out benefits in the long term. On net, it would close the 75-year actuarial deficit by less than 0.1 percent of GDP.

Options to Reduce Social Security Spending

Reducing spending on Social Security is another primary way to close its funding gap. Many of the proposals here accomplish a reduction in spending through adjustments to the way benefits are calculated.

Grow Initial Benefits with Prices

One option that would nearly close the gap entirely is growing initial benefits with prices instead of wages. Currently, Social Security benefits are based on average lifetime earnings with the idea that a worker’s future benefits reflect the general rise in the standard of living during their working years. An alternative, often called “pure” pricing indexing, would base benefit payments on inflation-adjusted wages. It means increases in average real wages would not result in higher real benefits, while at the same time it would help raise some revenues because it would result in higher real payroll taxes. Linking benefits in that way would reduce overall benefit payments and close 85 percent of the funding gap.

Increase the Full Retirement Age

Another proposal is to increase the retirement age to account for longer lifespans. Under current law, the retirement age will gradually increase to 67 years of age by 2027. A proposal to further increase the full retirement age to 69 and then increase it one month every two years thereafter (which mirrors the trend in life expectancy) would help close the structural gap by 0.46 percent of GDP.

Calculate Cost of Living Adjustment Using Chained CPI

Another option would focus on how cost of living adjustments are calculated. The consumer price index for urban wage earners and clerical workers (CPI-W) is the current way cost of living adjustments for benefits are calculated, but Social Security costs could be reduced if that formula were based off the chained consumer price index for all urban consumers (C-CPI-U) instead. The difference between the two measures of inflation lies in population coverage, with the CPI-W focusing only on workers and the C-CPI-U including all urban consumers. Additionally, the C-CPI-U uses different expenditure weights to produce aggregate measures of price change. Analysts believe the C-CPI-U is a more accurate measure to capture the growth in the cost of living because it accounts for the substitution of goods and services when prices rise. That formula adjustment could close the funding gap by 0.44 percent of GDP.

Reduce Initial Benefits for High Earners

Reducing payments for the highest earners would result in saving 0.30 percent of GDP, or eliminating 25 percent of the funding gap. The primary insurance amount (PIA) is the benefit a person receives at the normal retirement age. The PIA a person receives is based on bins of average monthly earnings, and higher earners see a lower replacement rate of their earnings. Adjusting the points to reduce the PIA for high earners (while maintaining current-law benefits for earners at the 60^th percentile and below) would reduce Social Security spending.

Increase Amount of Earnings Years Included to Calculate Benefits

A different facet of changing how benefits are calculated is by adjusting the number of years included in a worker’s average lifetime earnings. Benefit amounts are calculated using average lifetime earnings over the span of 35 years, and one proposal is to consider the average over 40 years instead. That means years with lower or zero-earnings would be included in that average and reduce the benefits amount. Making that adjustment would reduce the actuarial deficit amount by 0.16 percent of GDP.

Conclusion

With the OASDI trust fund projected to reach depletion in just 11 years and the 75-year funding gap representing 1.3 percent of current GDP, lawmakers will need to take action on Social Security or millions of recipients will receive a cut in their benefits. The good news is that there are numerous options to secure the OASDI trust fund using a range of policy levers. Whether closing the funding gap is achieved by increasing revenues, reducing spending, or a combination of approaches, policymakers have many options available to strengthen Social Security for the long term.

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