Economics, Entitlements

Social Security’s disincentives for longer work lives

Image Credit: Shutterstock

Image Credit: Shutterstock

Writing for Forbes, Boston College economics professor Larry Kotlikoff points to “Social Security’s Huge Obscure Incentive to Keep Working,” noting that “Each year you work, you add to your earnings record leading Social Security to automatically recalculate your benefits.” The problem is that, for most people near retirement age, working longer actually produces little or no increase in the benefits they’ll receive at retirement.

There are two reasons: First, Social Security bases benefits on your highest 35 years of earnings. So if you’ve already worked 35 years—which is common for many men—then additional work raises your benefits only to the degree that your earnings this year exceed the lowest of the high 35 you’ve currently amassed. Moreover, Social Security’s benefit formula increases your past earnings along with average wage growth, so what you earn this year may not do much to boost your benefits.

Social Security presents women with a different problem. Social Security pays the lower-earning spouse, usually a woman, the greater of her own earned benefit or half of the benefit received by the higher-earning spouse, but not both. Despite greater female labor force participation, most women today still receive a spousal benefit. An additional year of work might raise the benefit they could claim on their own earnings, but won’t affect the spousal benefit they can receive. Again, more work often results in no more benefits.

In a paper with my then-SSA colleagues David Weaver and Gayle Reznik, we quantified the Social Security payoff to additional work beyond retirement. Using a detailed model of the population, we assumed that everyone worked an additional year prior to retirement. We then calculated the additional Social Security taxes they paid and the additional benefits they collected, including higher benefits for their spouse or widow.

The results: “The typical individual would receive 2.5 cents of additional benefits back from an additional dollar of taxes.” That’s not 2.5 cents in extra benefits per month or per year, but 2.5 cents over their entire retirement. In other words, the typical person receives next to no extra benefits for working longer and paying more into Social Security. Less than 10% of working retirees would receive enough back in benefits to make up for the extra taxes they’d pay.

That’s why I’ve advocated reducing or eliminating the Social Security payroll tax for older workers. If they’re not receiving much additional benefit, making them continue to pay taxes only discourages the thing we’re looking to encourage: Longer work lives. Moreover, economic research indicates that the labor supply response to lower payroll taxes would be strong, boosting non-Social Security tax revenues by almost enough to make up for lost Social Security taxes.

8 thoughts on “Social Security’s disincentives for longer work lives

  1. re: reducing SS taxes on older workers.

    Given the fact that FICA is 15.3% of an employers employee expenses – doing this could have the perverse effect of making older workers cheaper than younger ones and if cuts had to be made – you’d get a lot more bang for the buck by firing the younger ones.

  2. I have worked as a nurse since my graduation, 1952. I retired in 2009 working for most of my career in the private sector but the last 22 yrs for the govt. I truly don’t feel that I am getting adequate ss for all the yrs I’ve paid into the system. Whom should I contact.

  3. Perfect! Yet another policy to help the Babyboomer generation, (the same generation that got us into this fiscal mess in the first place) at the expense of the younger generations…

  4. Amusing that you are treating SS other than the welfare scheme that it is. Also, what about all of us poor suckers who come after the Boomers and are unlikely to see much, if any, benefit from our years of contribution?

  5. I am 63. I fully intend never to retire-I like working and being productive too much. I have no care whatsoever how much my “benefits” will be.
    That said, I LOVE the idea of reducing my FICA taxes when I reach normal retirement age (66). So, you young sprouts out there, know that at least one boomer won’t be a drain on you.

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