Scrapping The Cap Is A Crappy Idea

Scrapping The Cap Is A Crappy Idea

While it is commendable that members of Congress are proposing bills http://www.salon.com/2013/07/24/the_new_fight_to_expand_social_security/ which would enable Social Security expansion or benefit increases, scrapping the Social Security payroll wage cap is a crappy idea which in the long run would damage the Social Security program. This is why The BEST Social Security Modernization Plan wants a seat at the table. Social Security solvency legislation can be BEST proposed by those who fully understand all the workings and nuances of Social Security and its rules and regulations.

Implementation of The BEST Social Security Modernization (Mod) Plan is a far better solution. The reasons why will be addressed in future posts here. This post will deal with why scrapping the cap is a crappy idea.

My November 26, 2013 post noted that there have always been those opposed to the Social Security program. Many of the opponents are those with the highest income and wage levels. Eliminating the Cap, for which Social Security payroll taxes are payable, which in 2014 will be $117,000, will only create more and stronger opposition to the Social Security programs.

If the cap is removed, benefits amounts could skyrocket for very high earners, quickly creating a big drain on the Social Security trust funds. Creating a benefit cap has been proposed, but creating a benefit cap without a taxation cap would also only increase program opposition.

The current benefit formula uses the average of the highest thirty five years of a worker’s indexed earnings and then applies a weighted bend point formula to calculate the monthly benefit.

For an individual who first becomes eligible for old-age insurance benefits or disability insurance benefits in 2014, or who dies in 2014 before becoming eligible for benefits, his/her PIA will be the sum of these three bend points:

    (a) 90 percent of the first $816 of his/her average indexed monthly earnings, plus

    (b) 32 percent of his/her average indexed monthly earnings over $816 and through $4,917, plus

    (c) 15 percent of his/her average indexed monthly earnings over $4,917.

Thus, the addition of very high earnings would quickly increase someone’s average indexed monthly earnings and significantly increase benefits for high income earners.

Also, under current rules a worker is required to have ten years of work to qualify for a retirement benefits. Even if a benefit cap were imposed, a worker with nine years of minimally qualifying wage credits and one year of extremely high earnings with no cap limitation could actually be eligible for the same monthly benefit as a worker who under current rules had maximum earnings in every year under the current wage cap rules for a 40 year working career.

While I do not support removing the Cap on payroll taxes, if it is removed, rather than capping benefits, I would suggest creating a fourth bend point tier which for example would then provide an upper limit to the 2014 15 percent tier of earnings over $4917, and which would, for example, pay 5 percent for the earnings over the tier three upper limit. This way, the benefits of high earners would increase as a result of their paying higher payroll taxes but at a much lower rate of increase.

However, a reason to oppose removal of the payroll wage cap it that whenever any kind of tax reform law is instituted, the first thing that happens is that the upper income class hires lawyers and accountants to find loopholes so that they can avoid paying more or any taxes.  This is why some corporations and individuals with enormous wealth and income pay little or no taxes.

Those with the highest earnings are generally those in the best position to control how they are remunerated. A CEO will negotiate that rather than being paid $4,000,000 in wages, his/her salary will be $117,000 plus $3,883,000 in stock holdings and dividends.

Thus, as a result of the proposed Cap removal, Social Security would not collect more money, and the US Treasury will collect less in income taxes than if the CEO been paid wages, which are taxed at a higher rate than dividends and stock holdings, $117,000 of which were only subject to the payroll tax.

It was reported during the 2012 election cycle, that candidate, Newt Gingrich, and his wife, Christa, did exactly this in running a business they owned, by paying themselves an artificially low salary but high dividends.

While I am opposed to the outright removal of the payroll tax cap, annual increases to the Cap are an important source of revenue to Social Security, and the formula used to determine the annual increase to the maximum taxable earnings should be changed. For example, currently there is a formula for determining the annual increase based on the country’s wage growth. Why not pass legislation that says that the maximum taxable earnings amount shall increase each year by a $5,000, unless using the current formula would cause it to increase by a larger amount? This would provide additional program revenues without stoking increase major program opposition.

In 2010 and 2011, the tax cap did not increase at all. It remained stagnant at the 2009 level of $106,800. This was unthinkable and unconscionable, and should not have been permitted to happen. While the Social Security Administration followed the law, it is unlikely that Congress ever expected the level of wage stagnation that occurred at this time and that the cap and revenues would not be subject to an annual increase. Emergency legislation should have been proposed and passed to remedy this situation, but Social Security’s Commissioner during this time was appointed to a six year term by President Bush, whose goal had been to privatize Social Security.

At minimum, the law should be amended to this: “In any year in which wage growth is insufficient to result in a significant increase to the Social Security wage tax cap, the tax cap shall be increased by the average amount of the wage tax cap increase from the previous ten years.”

In summary, there are far better ways to fix Social Security than to eliminate the payroll tax wage cap. Future posts will address them.